Question

1) You have been hired by McKinsey &Company to design a five-year compensation program for your divisional vice presidents. Because you know that principal-agent conflicts have had a history at this firm, please pen a memo detailing your compensation system design that addresses this problem. Be as specific as needed.

Answer 1

The compensation system design should be based on performance based pay. It should be also have different structures as per management levels. The proposed structure is as follows

1) At the apex level about 60%-70% of the compensation should be based on performance and long term sustainability of the business. A greater weight should be on the long term process and structure being in place. Thus a larger part of the compensation should be in the form of stocks whose appreciation over a period of time implies greater alignment between compensation and strategy.

2) For the middle management level 20%-30% of the compensation should be variable and based on success of execution of strategy. This ensures higher focus on execution for the middle management employees.

3) Only about 10% of the compensation at the junior most level should be variable with the balance being fixed. This ensures that the workforce remains motivated and relative assurance of compensation helps in stability and greater output by the labor force.