Commentary by David F. Larcker, James Irvin Miller Professor of Accounting & Director, Stanford GSB Corporate Governance Research Program; and Brian Tayan, Stanford GSB Case Writer, MBA ’03.
OYO Geospace, a provider of seismic imaging technology used in oil and gas exploration and production, has developed an innovative annual incentive plan that applies to all employees in the U.S. and selected foreign countries. Under the plan, the company uses an elaborate profit sharing calculation to allocate bonuses into separate pools, or tiers. The Tier I bonus pool is established by accruing 18 percent of consolidated pretax profits above a specified amount. Employees receive a share of the pool proportionate to their pro rata share of the company’s total payroll. All employees participate at this level. Only after the Tier I bonus pool is fully funded and distributed is the Tier II bonus pool established. The Tier II bonus pool is established by accruing 18 percent of pretax profits above the Tier I threshold. Only one executive participates at the Tier II level, the company’s vice president of human resources. After Tier II is funded and distributed, Tier III is established, by allocating 18 percent of pretax profits above the Tier II threshold. Three named officers—the CEO, the CFO, and the chief technology officer—participate at the Tier III level.
That is, the higher the position the executive holds, the higher the tier that individual is placed in. This brings potentially higher rewards, but only after bonuses have been distributed to lower level employees. It is nice to see senior executives voluntarily stand in line for their rewards.