Suppose you are a director of an energy company that has three divisio

QUESTION

Suppose you are a director of an energy company that has three divisions-natural gas, oil, and retail (gas stations). These divisions operate independently from one another, but all division managers report to the firms CEO. If you were on the compensation committee as discussed in Question 1-14 and your committee was asked to set the compensation for the three division managers, would you use the same criteria as that used for the firms CEO? Explain your reasoning.
Answer: As a Director of Energy Company we must not decode compensation of divisional managers as the compensation of CEO is decided, As the CEO of company is responsible for the entire business of the company his compensation is linked to overall performance of the firm. Important factors which determine the compensation of CEO are, First is achievement of internal goals like stock price, cash flows and sustainability. These performance metrics are important aspect of CEO compensation Second CEO compensation is tied to industrial benchmarks like similar size companies in the same industry will not have much difference in their CEO compensation, for example the compensation of CEO of Pepsi and Coke will not vary by substantial amount. There are several other factors but the performance of divisional mangers can be decided in this manner. The main reason behind this concept is that each division of the company operate under different working environment, There might be¦

a possibility that it is easy to generate profitable cash flows or in division 1 because it has favorable working environment. Whereas division 2 might be working in adverse working environment where i could be tough to generate steady stream of cash flows, thus performance of each divisional manger cannot be assessed through same performance metrics. Another factor to be considered here is that each division might not be doing similar sort of activities, some division might be work on cost side some work on revenue side and some division might work for improving efficiency. Thus same metrics can be used to judge performance of divisional managers.

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