May 15, 2019

Forbes – Dare To Be Different – The Case Of Amazon.com

By Robin Ferracone

I recently wrote about how compensation plans seem too homogenized. The reason for this is generally attributed to proxy advisors, and to some extent, investors themselves who apply the standard, “check off the box” criteria for evaluating executive compensation plan design. Companies adhere to such standards because it helps them stay “under the radar” with respect to proxy advisor criticism and Say on Pay (SOP) votes.

However, the tide is changing. Investors are asking for strategically sensitive pay programs that more strongly and directly support a company’s business needs. They are, in essence, asking for the heart of the company to be expressed through compensation design, at least within limits.

As I pointed out in my prior article, unique compensation designs do not need to be extreme, but neither is imagination the limit. Nevertheless, companies are desiring to use more strategically attuned executive compensation programs to communicate key business and cultural priorities. While differentiated plans are not yet the norm, examples of such programs do exist. In looking across the landscape, these types of programs typically are differentiated in one or more of the following ways:

  • Performance measures
  • Time horizon
  • Ownership

In a recent webinar I conducted along with a longstanding and respected friend of mine, Bill Roskin, a former HR leader and experienced board director, the audience asked for examples of companies that “dared to be different.” So I thought I’d highlight such examples in a series of blogs. Our first example is Amazon.com.

Amazon Dares To Be Different

Everyone knows Amazon.com (“Amazon”) [AMZN:US], the largest online (and now brick and mortar) retailer and web-services company in the world. Amazon is a highly innovative company that has enjoyed meteoric success, going from just over $15 million in revenue at the time of its IPO in 1997 to more than $230 billion in revenue today. Further, its stock price has catapulted from approximately $1.50/share (split-adjusted) in 1997 to more than $1,850/share today. This climb amounts to a nearly 40% compound annual growth rate in stock price since its IPO.

What many people don’t know is that Amazon blew up and reinvented its compensation system in the mid-2000s, and the compensation system it invented back then still lives on today. Amazon does everything with scaling in mind. What drove Amazon in the mid-2000s was the quest for extreme simplicity, along with flexibility, to allow it to scale. Amazon was already a big technological disruptor of the retail world, and simplicity with flexibility in its compensation system allowed it to scale mightily, while also leaving itself open to significant “degrees of freedom” on strategic direction. In other words, a simple, flexible system allowed the company to try many different strategic tacks, and if Amazon failed at any one of these, it was free to scrap the failed experiments and try the next good idea. Amazon was determined that no hard and fast performance measures or goals would serve as the equivalent of a strategic straightjacket.

Amazon’s Compensation System

So how did Amazon reinvent its compensation system and “dare to be different?” It simply:

  • Positioned pay at above-market compensation, but did so exclusively through equity, paying below-market salaries and no cash bonuses – that’s right – no cash bonuses, except sign-ons for new hires
  • Granted RSUs exclusively for the equity layer, which is allocated on a differentiated and episodic (i.e., not annually) basis to those who have demonstrated value-creating performance and have the potential to contribute to the future long-term success of the company
  • Required longer-than-usual vesting, e.g., 5 or 6 years to that equity. For example, a typical “mega-grant” made to an executive may carry 6-year vesting, with 0% vesting in the first two years, 37.5% vesting in the third year, 12.5% vesting in the fourth year, 37.5% vesting in the fifth year, and 12.5% vesting in the sixth year
  • Applied the system to all employees, creating alignment up and down the organization

Why This System Works At Amazon

Amazon introduced this system 15 years ago in an effort to have compensation support its strategy to:

  • Innovate and invest for the long-term by relentlessly focusing on the customer experience and leveraging technology
  • Attract and retain highly talented employees who act like owners and think about the company holistically

This system has stood the test of time and has generally worked well at Amazon because:

  • The stock price has climbed inexorably upward with only a few set-backs. When the stock price did take a dip, Amazon just granted more RSUs
  • Jeff Bezos, Amazon founder, chairman, president and CEO, is paid approximately $80,000 in total direct compensation per year, keeping him “off the radar” with respect to proxy advisor pay for performance tests. Bezos himself owns approximately 16% of Amazon, and Say on Pay votes are consistently high with approximately 98% support
  • With grants to executive officers that can range between $20 and $30 million in any given year, the system produces high “wealth leverage” (i.e., the sensitivity of management’s wealth to the company’s stock price), and companies with high wealth leverage tend to outperform those with lower leverage. Put another way, high performance, in part driven by wealth leverage, helps to perpetuate the system
  • The system has worked for 15 years, and employees and investors alike tend to trust a system that has been in place for an extended period of time

However, Amazon’s pay system is not without its risks. The system is somewhat contingent upon Amazon having a well-performing stock price, although “mega grants” help to some extent to compensate for and bridge stock price troughs. In addition, the organization has to maintain a highly effective performance management system to weed out and avoid overcompensating underperformers. In addition, the system is dependent upon good employees perceiving value in the stock. If employees start caring more about other things in Amazon’s employee value proposition, then Amazon may become vulnerable. It may not retain the employees it needs; it may retain the wrong employees, or it may overpay employees by using forms of compensation that the employee does not value. Finally, Jeff Bezos’ successor likely will not be satisfied with a modest paycheck. The new CEO likely will want above-market episodic grants like other members of the top management team. At that juncture, the proxy advisors and investors may not be so forgiving, particularly if the stock price is not performing.

Clearly, Amazon’s pay system works uniquely well for Amazon. It’s not a system, however, that would be suitable for most companies, and someday, may not even be suitable for Amazon. It does, however, suggest that the door is open for companies to invent their own unique, strategically-attuned approach to pay.

This post originally appeared on Forbes.com.

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