Acc702 Managerial Accounting | Remuneration Assessment Answers

Research the annual report (and corporate website) for NAB (National Australia Bank). Much of the information you require for management performance measures is likely to be found in the Remuneration Report within the selected Companies’ Annual Report.

Research the DETAIL of the METHODS used to calculate both the STIs and the LTIs that are proposed to be paid to the executives and also the methods that WERE used to calculate the performance pay for the prior 3 periods (years). Note that often the schemes adopted will be in place for up to 5 years, so you may only have to research the one scheme to cover the existing period and the past periods.

You MUST then RESEARCH the academic literature available on each of these methods. For example, a company may use a ‘(Balanced) Scorecard’ of measures which include both financial and non-financial measures. (Such as Return on Investment – Financial measure, and Net Promoter Score – Non-financial measure.)

Answer:

Introduction:

The report is prepared for evaluating the performance of executives and remuneration in public companies. Research on this particular topic is conducted by reviewing the literature on the method used for measuring the performance of management. The purpose of report is to analyze the available information on literature review on the several methods used by public companies to calculate the performance pay. In addition to this, research is also conducted on the annual report of chosen organition for reviewing the management performance measures used. Chosen organization for analyzing the method used for remuneration is National Australia Bank (NAB) that is one of the largest financial institutions operating in Australia in terms of earning generated, market capitalization and total number of customers served (Armstrong and Taylor 2014). The method used for computing long term incentive and short term incentive for measuring the performance used by NAB are evaluated by reviewing the annual report of organization.

Discussion:

Review of literature:

Short term incentives are referred to as incentive schemes where the payments are done in cash such as gain share, profit share, bonus scheme and commission and the measurement period is around one year. Some of the methods that are used by organization in plan of short term incentives are bonus scheme, gain sharing scheme and profit sharing scheme. The nature of these performance criteria can be qualitative, quantitative, financial and non financial. The plan of profit sharing helps employees to become acquainted with profit margin and focus on bottom line. A portion of pre tax profit is put by organization that is distributed among employees. A larger percentage of profits are received by employees with higher percentage profits (Demerouti et al. 2014). However, such type of plan results in higher labour cost in event of better performance of organization and lower labour cost when organization is facing economic downturn.

The long term incentive (LTI) plans are often based on options and stock. In such plants, the rights of executive to obtain stocks or exercise or receive options are associated with measure of performance. Executives are granted with options or stock when the target values are achieved by executives for the specified measure of performance. Operations of long tem incentive plans are done especially for executives as an incentive for improving incentive. Furthermore, it also provides the opportunity to reduce the fixed costs. The schemes that is generally used by organization bonus linked to long term performance for encouraging focus on long term goals (Pepper and Gore 2015). It also involves share option plans for promoting the convergence of interest of executives and stakeholders. LTI are offered to incentives for increasing long term focus of organization and thereby aligning the interest of shareholder of companies and interest of executives. The LTI is faced with the challenge is associated with the extent to which it is felt by employees that their performance are associated with the level of reward. The link between LTI and individual performance may be regarded potentially weaker than other form of compensation as such plan are generally limited to higher level of employees who arguably directly impact the performance of firms (Beer et al. 2015). Moreover, employees who are provided with LTI are not able to derive immediate value as it generally has restriction on cash.

Organization can also make use of some non financial measure for measuring the performance of employees. Some of the non financial measures involve development of workforce, customer satisfaction, product quality, employee satisfaction, productivity and efficiency. The length of long term inventive plan varies from one year to six years (Friedman 2017).

Company review:

National Australia bank is the financial service providers of Australia that intend to achieve their business objectives by building relationship in segments such as medium and small businesses and deliver greater customer experience. The remuneration decision within the organization is supported by way of easing leaders and lead to embedding and introduction of a new market based pay range methodology. Remuneration policy of company is built around creating linkage for rewarding value of shareholders and retaining and attracting high performing employees.

Long term incentives plan of NAB takes the form of performance rights that assist in aligning the long term performance of group with decision of management by using challenging performance hurdles. Senior executives across the group are awarded with executive LTI program. Maximum opportunity of LTI is set with reference to external and internal relativities for executives who must meet the minimum conduct and performance threshold (Shields et al. 2015). The performance measure that is used for awarding LTI is the total shareholder return and cash return on equity growth. Allocation of LTI is done under the LTI program of group in the form of performance rights. The performance right associated with LTI is a performance right that is granted under the plan and is subjected to long term performance hurdles. For grant of year 2017, the allocation methodology for LTI has been changes from fair value to face value that helps in determining the number of performance rights. LTI is based on minimum grant value of 130% of fixed remuneration.

Executive remuneration framework:

(Source: Capital.nab.com.au 2018)

The STI plan of NAB intends to align the delivery of strategy and the outcome of shareholder with annual incentives. On the other hand, the LTI plan is intended to encourage long term performance that is sustainable. Organization forms the pool for funding the STI plan that involves three financial measures such as cash return on equity, cash earnings and return in total assets employed. When the financial performance of organization is not sufficient, there is no availability of STI pool. On other hand, the allocation of LTI to senior executives are based on fair value methodology and on any vested LTI, it is required to make payment of amount equivalent to dividend.

For improving the transparency of LTI and STI, the number of their performance rights has been determined. Computation of number of deferred LTI and STI rights that is allocated to each senior executive is done by using a fair value approach that is based on five day WASP from 25 to 29 September, 2017.

Summary of findings:

Reviewing the literature on the methods used for computing the short and long term incentives payable to executives provides with the answer that there are several measures that are available and take into account different concepts. From the analysis of the information gained from annual report of National Australia bank and literature review on the available methods and performance measures, it can be inferred that there exist considerable amount of difference between the methods that are used practically and methods discussed in literature review. Higher payment is made by company for motivating lower level executives so that they are able to perform better and thereby contribute to overall performance of company.

Analysis of remuneration method used:

For encouraging the performance of employees, NAB has remuneration mix in place. The commitment of board to performance based reward is reflected by the component of weightage of the at risk premium. The component of remuneration mix as a proportion of total amount of remuneration used is involved in structuring of senior executives annual remuneration (Hollenbeck and Jamieson 2015). This particular remuneration mix is illustrated in the graph:

Remuneration mix for encouraging performance:

(Source: Capital.nab.com.au 2018)

Chief legal and chief executive officer plays a very important role in maintaining the oversight of risk and financial performance of employees and group. The reward mix for such roles is structured that helps in recognizing the responsibilities and supporting the independence roles by offering higher proportion of fixed amount of remuneration. Great emphasis is placed on the component of LTI rather than STI of their variable reward. Some of the financial performance measures used by NAB include statutory return on equity, cash earnings, net interest margin, average equity, average assets and average interest earning assets (McKeown et al. 2015).

LTI and performance measures:

(Source: Capital.nab.com.au 2018)

The above table depicts the annual performance of organization over the last five years on the value of shareholders by taking into account any changes in share price, dividend payment and other adjustments in capital.

The allocation methodology used by NAB for short term incentives plan is fair value for all senior executives. Outcome of STI ranges from 0% to maximum opportunity. 50% deferred and 50% cash is provided as performance rights and only if the performance and service conditions are met, then only organization vest into deferred conditions. Depending on the allocation value, the outcome of LTI may range from 0% to 100%. Under LTI reward, 100% is provided as performance rights (Capital.nab.com.au 2018).

Remuneration of CEO of group is reviewed by the group during year 2017. The fair value allocation methodology is used in determining the STI and there would be reduction of maximum opportunity from 175% to 150% if fixed remuneration form year 2018. On other hand, the LTI is determined by using face value allocation. Such allocation involves using five day weighted average share price based maximum grant value of 130% of fixed remuneration. This would lead to reduction of maximum potential opportunity of CEO over the next two years by an estimated amount of $ 2.59 million. Maximum opportunity of CEO is reduced by the changes brought in LTI and STI along with ensuring that overall remuneration remains market competitive and fair (Capital.nab.com.au 2018).

The performance measures that is used for determining the STI incorporates cash return on equity at the rate of 30%, cash earnings at the rate of 40% and return on total acquired equity at the rate of 30%. This also includes adjustment based on expectation of shareholders, risk management and financial results quality. On other hand, the performance measures that is used for determining LTI incorporates performance period of four years, measurement against cash return on equity growth of 50% and relative total shareholder return of 50% (Capital.nab.com.au 2018). The table of remuneration benefits is prepared according to section 300A of corporation Act, 2001 and Australian accounting standard that details the amount and nature of elements of remuneration awarded or paid.

Remuneration benefits of executive:

(Source: Capital.nab.com.au 2018)

It can be seen that NAB is using different measures of performances for determining long as well as short term incentives plan. For improving the simplicity and transparency of remuneration framework and addressing the maximum potential remuneration quantum, organization has introduced changes in the allocation methodology for determining STI and LTI (Sheehan 2014).

Recommendation:

One of the important ways to keep track of business is to put the system of performance management in place. Organizations seeking broadening their performance measures should broaden their strategic business objectives that help in calculating the inputs and gauging employee engagement. It is required by organization to develop a comprehensive reporting strategy and measurement of human resource that should be well aligned with the overall strategy of business. The performance measures employed by organization can be improved by setting the benchmark and benchmarking the performance against performance level. Such benchmarking can either be developed internally or it can be determined by comparing with other business. Incentive plans of company should be associated with the overall performance. Most of the research focuses on pay for performance and whether the performance of employees is affected positively by such incentives. Employees are motivated to perform in a better way by creating a greater link of employee performance and rewards with compensation plan (Klettner et al. 2014).

Conclusion:

Many researchers have focused on the relationship between performance of company and compensation of executive. Usage of executive compensation for increasing the value of firms comes with both positive as well as negative side. In order for designing the effective pay performance plan, the crucial factor that should be taken into by account by organization is compensation plan characteristics impacting the future performance of company. From the analysis of annual report of NAB, it has been found that the methodology used for determination of incentive plans of executives have been changed during the year 2017. This change has been introduced to bring simplicity and transparency into the remuneration framework. However, it is required by NAB to broaden their performance measures for improving the reporting of remuneration framework.

References lists:

Armstrong, M. and Taylor, S., 2014. Armstrong's handbook of human resource management practice. Kogan Page Publishers.

Beer, M., Boselie, P. and Brewster, C., 2015. Back to the future: Implications for the field of HRM of the multistakeholder perspective proposed 30 years ago. Human Resource Management, 54(3), pp.427-438.

Bratton, J. and Gold, J., 2017. Human resource management: theory and practice. Palgrave.

Buettner, R., 2015, January. A systematic literature review of crowdsourcing research from a human resource management perspective. In System Sciences (HICSS), 2015 48th Hawaii International Conference on (pp. 4609-4618). IEEE.

Capital.nab.com.au. (2018). [online] Available at: https://capital.nab.com.au/docs/NAB-2017-annual-financial-report.pdf [Accessed 7 May 2018].

Demerouti, E., Bakker, A.B. and Leiter, M., 2014. Burnout and job performance: The moderating role of selection, optimization, and compensation strategies. Journal of occupational health psychology, 19(1), p.96.

Friedman, S.D., 2017. Succession systems in large corporations: Characteristics and correlates of performance. In Leadership succession (pp. 15-38). Routledge.

Gupta, N. and Shaw, J.D., 2014. Employee compensation: The neglected area of HRM research. Human Resource Management Review, 24(1), pp.1-4.

Hollenbeck, J.R. and Jamieson, B.B., 2015. Human capital, social capital, and social network analysis: Implications for strategic human resource management. The Academy of Management Perspectives, 29(3), pp.370-385.

Jackson, S.E., Schuler, R.S. and Jiang, K., 2014. An aspirational framework for strategic human resource management. The Academy of Management Annals, 8(1), pp.1-56.

Klettner, A., Clarke, T. and Boersma, M., 2014. The governance of corporate sustainability: Empirical insights into the development, leadership and implementation of responsible business strategy. Journal of Business Ethics, 122(1), pp.145-165.

McKeown, R.C., Turetsky, D.B., Downey, T. and Erb, J., ADP LLC, 2015. Performance driven compensation for enterprise-level human capital management. U.S. Patent 9,208,474.

O'Connell, V. and O'Sullivan, D., 2014. The influence of lead indicator strength on the use of nonfinancial measures in performance management: Evidence from CEO compensation schemes. Strategic Management Journal, 35(6), pp.826-844.

Pepper, A. and Gore, J., 2015. Behavioral agency theory: New foundations for theorizing about executive compensation. Journal of management, 41(4), pp.1045-1068.

Sheehan, M., 2014. Human resource management and performance: Evidence from small and medium-sized firms. International Small Business Journal, 32(5), pp.545-570.

Shields, J., Brown, M., Kaine, S., Dolle-Samuel, C., North-Samardzic, A., McLean, P., Johns, R., O'Leary, P., Robinson, J. and Plimmer, G., 2015. Managing Employee Performance & Reward: Concepts, Practices, Strategies. Cambridge University Press.