Giving Key Employees a Reason to Stay

While there are many different ways a business can get started, one of the more common answers we hear goes something like this – “I was working for XYZ Company as a Vice President of something important, but there weren’t enough opportunities for growth. I had some ideas, came into some money and decided to break out on my own.” This is a double whammy for business owners – they’ve not only lost a key member of their team, but they now have an additional competitor to worry about.

The most common tool utilized to avoid this problem is the employment agreement with a covenant not to compete. The terms of non-compete agreements vary but generally they limit the employee’s ability to provide similar services, either to a new employer or as a business owner, for a period of time and possibly within a certain geographic region. Having key employees sign a non-compete agreement can be a sound business decision. However, it’s a little like asking your fiancé to sign a prenuptial agreement – it may be a prudent legal move to protect your financial interests, but it’s not very useful as a retention tool. If you want to protect your interests, give them a reason to stay.

One Size Does Not Fit All – Providing key employees with an employer-paid supplemental retirement plan sounds like a plan everyone would appreciate. But the reality is the 55-year-old executive will appreciate it significantly more than the 35-year-old executive. The executive making $350,000 a year would appreciate a deferred compensation plan, while the executive making $90,000 with two children in college would have very little use for it. The 35-year-old may want additional life insurance benefits while the 55-year-old may prefer long-term care insurance. Providing executives with incentives that are financially equivalent is a good idea, but they do not have to be the same incentives. Employers should spend time finding out what their executives want.

Be Creative – Most key employees will thoroughly analyze a decision to leave and in doing so they are going to ask themselves the question “what will I be losing by leaving this company?” If the majority of employers out there are offering the same benefits, the answer will be “nothing I can’t get somewhere else.” There are many ways to be creative in designing executive compensation and it may be beneficial for employers to explore the alternatives.

Communication is Essential – If you are going to provide key employees with additional benefits above and beyond what the rank and file employees receive, by all means, let them know about it, and not just when they are hired. We are always amazed at how poorly informed many executives are about their own compensation packages. When employers provide these additional benefits, they should receive something in return – more effective, harder-working, loyal employees. To get this return on your investment, it is important your key employees are kept informed of their benefits.

Defining WHO is Key – This may seem obvious, but it is important to take inventory once in a while to determine who really is key to the success of your business. There are COOs, CIOs, CFOs, and a host of other Os who you may employ, but ask yourself which ones truly bring something to the table that would be difficult to replace. And keep in mind they don’t need an O in their title to be key.

Build it and They Will Ask for it – A very common request from key employees is they would like an ownership interest in the business. This is a pivotal time in the employer/employee relationship. The employees are obviously looking for a stake in the company and most likely don’t realize what true ownership entails. This is a good time to explore alternatives such as phantom stock plans, stock appreciation rights plans, nonqualified stock options, and other similar executive benefit plans.

Underfunding Future Obligations

Deferred compensation plans, phantom stock plans, stock appreciation rights plans and nonqualified stock options, for example, all create obligations that the employer will need to meet at a later date. How does the employer come up with the money when it is time to pay up? The two most common types of funding vehicles used are investment portfolios and corporate-owned life insurance (COLI). COLI has a number of income tax advantages that make it a popular choice for employers and it has the advantage of providing substantial cash flow to the business should a key employee pass away. The appropriate funding vehicle for a particular employer will depend on a number of factors (beyond the scope of this article).

To help avoid having your best employees become someone else’s best employees, or worse, creating your future competitors, careful consideration should be given to how you design your key employee overall compensation package.

By John Frazier, Vice President

Disclaimer: While this article may be used to promote an idea discussed in the publication, it is intended to provide general information about the subject matter covered and is provided with the understanding that Parker Smith & Feek is not rendering legal, accounting or tax advice. It is not a marketed opinion and may not be used to avoid penalties under the Internal Revenue Code. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, or accounting obligations and requirements.

Return to Articles index