AIG bonuses

This is my first post in response to a posted question. Does this mean my blog has grown from its infancy into toddler-hood?

In a comment to my posting about Capital Requirements, JD asked for my thoughts about employee salary structure and the public backlash to AIG paying bonuses with government bailout money.

This is a politically charged topic and the details of the AIG mess are still surfacing, so I'm wading into murky waters on this one. I'm going to start by describing how I think salaries should work, in general, and we'll see if I can answer JD's question without offending anyone.

In much of the private sector, an employee's main monetary compensation is based on three sources: salary (the weekly paycheck), profit sharing (the company does well and you get a piece), and an individual performance bonus (you do well as an individual and you get some extra). These should all be spelled out in an employment contract and have as many measurable benchmarks as possible to determine the amounts paid. Let's talk about each source.

Salary should be static and the company should pay it without issue as long as you don't violate your contract. Doing a crappy job doesn't merit docking this pay. In most cases, the only out a company has on this one is to fire you. This pay is usually transferred in the form of weekly, biweekly, semimonthly, or monthly pay checks.

Profit sharing is based on how the whole company is doing. As the name implies, the company is sharing some of the profits with you. This payment is not directly related to your performance. You could do a great job or a horrible job, but all that matters is how the whole company did. Imagine you are a salesperson at GE in the jet engine division. Your sales are way down, because the recession is hurting the airlines and that means the airlines don't want to buy new airplanes. Meanwhile, the microwave division has been doing really well as people eat in more to save money. If GE were just composed of those two divisions and microwave's successes outweighed jet engine's failures, GE would make a profit and ALL the employees would get a profit sharing check.

Individual performance bonuses are dependent upon your personal performance in your job. When designed and funded well, these are independent of company profits and other things you cannot directly control as an employee. How efficient you are, your sales numbers, how well you work with your colleagues, and finishing projects ahead of due dates are examples of qualities that may merit a bonus of this type. This bonus shouldn't have an automatic minimum, but there should be an amount awarded for just "doing your job." It doesn't need to be much, but having this base floor allows an employer to withhold money to punish you for screwing up without having to resort to drastic measures like firing you. Remember, they have to pay your salary and profit sharing, despite your performance, unless they want to fire you. If you do your assigned job (or better), you should get this bonus even if the company is doing horribly and getting taken over by the government.

That is how those terms are defined objectively, but companies often setup reimbursement practices that meld different aspects of those together and call them bonuses. Some companies always give their employees a "Holiday Bonus" except when the company is failing or a particular employee screws up. This is profit sharing with a withholding option for bad employees.

AIG claims to have contractually obligated Retention Bonuses that it had to pay to its employees, even the ones that caused all the trouble the company is dealing with. These aren't bonuses, they are salary. If the company is obligated to pay despite employee or company performance, then it must be salary. If that is the way the AIG contracts were written, we need to honor those contracts, but don't call them bonuses. It's a misnomer.

That said, AIG had more options than they often talk about. Again, these are Retention Bonuses. AIG was contractually obligated to pay them if they wanted to sign these employees on for another year of employment. These sorts of salary devices are used to keep your employees from quiting and going to work for a competitor. The question is, why would AIG think that they needed to do this? In this employment environment, there aren't any jobs for those employees to go take if they did quit AIG. AIG could have said, "We are happy to have you work here for another year, but we are going to renegotiate your contract to remove the Retention Bonus. Quit if you like." Plus, there are plenty of people willing to take the AIG jobs if the current employees did quit. I know a about 40 Boston College MSF students who are graduating this summer and looking for work in Finance. Call us.