A jargon-busting guide to remuneration

Bemused
by comp & bens terminology? Nicki Demby offers a helpful glossary.

Association
of British Insurers

One of the shareholder representative bodies that publishes guidelines on
executive remuneration. The ABI guidelines are influential on the structuring
of executive director remuneration for quoted public limited companies in the
UK.

All-employee
share ownership plan (AESOP)

An Inland Revenue-approved share plan that must be open to broadly all
employees and provides tax advantages if the shares are held for five years.
There are many different variations, including:

¨ free shares – employees
can receive shares worth up to £3,000 a year; some or all can be
performance-related awards
¨
partnership shares – employees can allocate up to 10% of pre-tax salary up to a
maximum of £125 per month (£1,500 a year) to buy partnership shares
¨matching
shares – employers can provide up to two matching shares for each partnership
share purchased by the employee (to a maximum of £3,000 of shares).

Annual
bonus plan

One that pays out an award based on performance over no more than a year. The
payment may be made in cash or shares, or a combination of both.

Benefits/benefits-in-kind
These are normally non-cash items provided by an employer. UK benefits include:

¨ paid holiday
¨
paid sick leave
¨
housing (for expatriates)
¨
relocation assistance
¨
school fees
¨
private healthcare
¨
company cars
¨
pension provision

Almost all benefits are subject to income tax under the PAYE
system, and to National Insurance Contributions.

Black-Scholes
A method of valuing freely traded options developed by Messrs Black and
Scholes, who won a Nobel Prize for developing their economic theory. It is
sometimes used in determining the level of share options to be granted to executives.
It must be applied with caution, as UK executive options are not freely
tradable and are subject to performance criteria.

Cafeteria
plan

See Flexible benefit plans.

Carried
interest plan

A style of incentive plan particularly prevalent in the venture and development
capital industries. A carried interest is the proportion (usually 20%) of the
realised return over a minimum threshold that is allocated to the house that
has raised the fund and its management. The minimum threshold return is usually
that the investors are returned all of their original capital, plus sometimes a
preferred return.

Co-investment
plan – venture capital

The executives are asked to invest their own capital in the plan. If they
choose to do so, they invest in all of the fund investments, alongside external
investors. The investment is typically made in the "sweet" equity, or
ordinary share capital, after preferred returns have been distributed.

Co-investment
plans – non venture capital

Participants are invited to make an investment, often substantial, in company
shares that will be matched after a period of time depending on company
performance. The initial investment may be satisfied in part by existing
shareholdings, but most plans require at least some of the investment to be
satisfied by purchased shares, or shares vesting from option or other share
plans. The number of matching shares may be up to three or four shares for each
share held if company performance is exceptional.

Company cars
A company car is a car provided by an employer for use, by an employee for
private motoring. (NB "Private motoring" includes home to work travel
for UK income tax purposes.) Historically, company cars have been an attractive
benefit because they enjoyed preferential income tax treatment, and companies
could buy car fleets from manufacturers at discounted rates. Both of these
advantages have diminished in recent years.

Deferred
annual incentive plans

Part, or all, of the annual bonus award is deferred for a specified period of
time and paid at a later date. The deferred part of the award usually takes the
form of shares, held in trust for the deferred period. Matching
awards are often made at the end of the deferred period, particularly in plans
where part of the deferral is voluntary. The shares held will usually be
matched on a one-for-one basis, although this ratio varies between companies.
There are also plans where the ratio of matching shares will depend on the
length of time the original award is held. The participant will receive the
matching award as long as they are still in employment at the end of the
deferred period.

Deferred
annual incentive plans with performance-based matching

These plans may be considered as a hybrid between an annual bonus plan and a
long-term incentive plan. The plans operate in the same way as a deferred plan,
with part, or all, of the annual bonus award being made in deferred shares.
Matching awards will only be made, however, if certain performance conditions
are met over the deferred period. These matching awards may be higher than
those plans where the match is based only on continued employment.

Defined
benefit pension plan

Under this plan the retirement benefit available is underwritten by the pension
fund or employer. This is typically defined as a proportion of the final salary
before retirement (maximum two-thirds), and the level of benefit normally
increases, or accrues, based on the length of service with the employer.

Defined
contribution pension plan

Under this plan the contributions made are invested and the pension available
on retirement will be determined by the returns on the investments.
Contributions may be made by employees or the employer, but employee
contributions are restricted by income tax legislation (see Earnings cap).

Earnings
cap

In 1988, the UK Government limited the amount of taxable earnings on which
tax-effective pension contributions could be made. In the 2001/02 income tax
year this is £95,400. The earnings cap has increased since its introduction,
but it has not kept pace with pay increases. Most employees earning above this
level will need to make alternative arrangements to be able to maintain their
lifestyle in retirement.

Employee
benefit trust (EBT)

An EBT is a discretionary trust set up for the benefit of current and future
employees. EBTs are often used as a way of warehousing and delivering shares
under employee share schemes.

ESOP
See EBT

Flexible
benefit plan (cafeteria plan)

A plan that allows employees some choice as to the benefits in kind they may
receive. Often employers will provide core benefits (such as holidays and life
assurance) that an employee must take, and a budget stated in pounds or points
with which to "buy" extra benefits. If the pounds or points are not
used in a year, they may be paid out in cash, or lost, depending on the plan.

Funded
Unapproved Retirement Benefit Scheme (FURBS)

For those employees who have changed employer since 1988, their pension
contributions are limited by government regulation to the earnings cap. This
scheme is one way of providing extra pension funding, but in a much less
tax-effective way.

Golden handcuff
This is the generic term for a variety of incentives that lapse if an employee
leaves employment with their employer. They are designed to encourage employee
retention.

National
Association of Pension Funds (NAPF)

One of the shareholder representative bodies that is influential on executive
remuneration.

Non-contributory
pension plan

A pension plan under which the employer provides the funding to purchase
retirement benefits.

Performance
share plans

An initial award is made to a participant at the beginning of a performance
cycle. This award is usually expressed as a percentage of basic salary and will
take the form of a share right, part or all of which will vest at the end of
the performance period depending on the performance of the company over this
period. The value of the final award received will, therefore, depend on the
performance of the company, and the performance of the share price, over the
performance period. The performance measures most commonly used are earnings
per share and total shareholder return. The latter will generally be relative
to a comparator group of companies and typically the minimum award will be made
for median performance and the full award for upper quartile performance.

Phantom
option plans/share appreciation rights

These plans operate in a similar way to a share option plan, but the growth in
value of the share price is paid out as a cash bonus when the options are
exercised. These plans are most often used where conventional options are not
appropriate.

Many plans will incorporate performance conditions in the
same way as a standard share option plan.

Premium
option plan

The exercise price of the option is higher than the market price of the
underlying shares at the date of grant, thereby incorporating an in-built
share-price growth performance measure.

Restricted
share plan

See Performance share plan

SAYE
See Sharesave

State
earnings-related pension scheme (SERPS)

The UK state-funded pension arrangement.

Share
options (US – stock options)

Most companies granting share options to executives operate both a UK Inland
Revenue-approved and an unapproved plan. These comply with the broad principles
set down in the ABI guidelines and will not be exercisable for a minimum of
three years. The exercise price of these options will usually be equal to the
market value at the date of grant. These will generally be granted on a phased
basis. Most plans in the UK require certain performance conditions
to be met before the options may be exercised. In most cases if the performance
condition is met, all of the options may be exercised. There are a growing
number of plans where the exercise of options is scaled so the proportion that
may be exercised depends on the level of performance.

Sharesave
(SAYE)

An Inland Revenue-approved share plan that must be open to broadly all
employees. The plans offered vary from company to company. In general, it
enables employees to save a regular amount each month under a savings contract
(in the 2001/2002 income tax year up to £250 per month) and to use those
savings to exercise an option over the company’s shares. The option may be
granted at up to a 20% discount to the market price on grant.

A "bonus" is earned on the savings contract after
three, five or seven years, depending on the contract. Any bonus or option gain
are generally free of income tax or capital gains tax.

Super options
Some companies grant "super options", market value options that
typically require more stringent performance conditions to be met than for
ordinary share options and that may not be exercised within five years of
grant.

Tiered
options

Tiered options are granted over higher multiples of salary linked to
progressively more difficult performance targets.

Top-up
pension arrangement

Any pension arrangement designed to provide pension funding above that
permitted by the earnings cap.

Total
shareholder return (TSR)

This is a performance measure commonly used in performance share plans. It is
calculated as the increase in the share price over the performance period plus
the value of any re-invested dividends. In other words, on the day that a
dividend is paid, the dividend is treated as re-invested in the company’s
shares at the mid-market price on that date.

This
glossary is intended as a general guide only. To the best of our knowledge, the
information contained within it is correct, but you should always seek
professional advice before taking action.
Nicki Demby is a
partner at Andersen and wrote this glossary for Spencer Stuart Talent Network

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