VideoShiely says that, except for normal retirements, Briggs & Stratton didn't lose a single top manager during that down period. The information strategy, he says, appealed to a management team peopled with long-term thinkers. "If you're the kind of company that goes back to the incentive program that everyone else has, you get the kind of people everybody else has," he says. "The guys who want an automatic bonus [every year] go to work for another company, and that's fine with me." Of course, many of those managers had enjoyed big EVA bonuses before, and figured--correctly, as it turned out--that they would again.
Still, bonus evaporation is often seen as the Achilles' heel of value-based metrics--and a major cause of plans being dropped. At companies he has worked with, says O'Byrne, people loved the early years of higher capital efficiency and rich bonuses. But "when the shot in the arm wore off, they went off to look for the next one." O'Byrne's research shows that the companies that stuck with economic profit tended to adhere to strict compensation practices--calculating bonus targets from an automatic formula that requires increases in economic profit each year, leaving payout rates uncapped, and using the bonus- bank approach.
Bonus banks, though, can have their own downside.
Herman Miller Inc. uses EVA to determine bonuses for both executives and rank-and-file workers, under two separate formulas. In the past two years, the $1.9 billion Zeeland, Michigan, furniture maker has authorized heavy capital investments, much like Briggs & Stratton. And it knew that when it decided to develop a new line of office furniture--featuring a "no-panel, 120-degree work system" of desks, separating screens, and lighting--the spending would punish EVA and the EVA-based incentive compensation.
When it told workers that fiscal year 2000 would be "bonus-free," saving the company $42.6 million, "no one was happy," says CFO Beth Nickels. But employees were especially irked because executives still got incentive pay for the year, flowing from their three-year EVA pooling. (The employee plan had no provision for pooling bonuses.) The bonus omission was further galling to employees, because the company had earnings in the strong economy that year of $140 million, about flat with the prior year.
The employee discontent, in turn, made corporate directors worry that EVA bonus provisions might be demoralizing to workers. Nickels had to educate the board. "It's doing exactly what it was supposed to do," she told them. When new investments started to pay off, EVA bonuses would surge, she asserted. Even with the bonus-free year, total employee payouts over the past several years have yielded more than they did under the company's former profit-sharing plan, replaced when Herman Miller installed EVA. The alternative would have been to cut jobs to contain costs.
While directors were mollified, Herman Miller still made a concession, issuing employees a one-time, 100-share option grant. Indeed, since then, EVA-based employee bonuses have come back.
NO REWARD FOR ACCURACY
But while economic profit is often designed to insulate executives from a three-year downturn, it may not be able to help them dodge a bigger bullet, as Armstrong Holdings Inc. recently had to do.
The Lancaster, Pennsylvania, floor-and-ceiling materials maker replaced return on assets with Stern Stewart's EVA program in 1995, and at first scored consistently positive EVA returns, topping its 11 percent cost of capital, until last year. But calculations didn't include the hundreds of millions of dollars in asbestos-related lawsuit liabilities--a number expected to climb as high as $1.4 billion by 2006- -and a reorganization charge that it capitalized. As the stock quote plunged, management decided to choose new metrics to stem the tide.
Last year, Armstrong added profit to EVA, and this year, it replaced EVA entirely, substituting cash flow. It chose profit and cash flow, says CFO E. Follin Smith, "because we want to reward growth and accuracy and meeting budget commitments, which EVA doesn't capture." She says that management's drive now is "the need to create a meet-the- numbers culture, a meet-your-projections culture."
Armstrong filed for protection under Chapter 11 of the federal Bankruptcy Code in December. But Smith maintains that the filing had nothing to do with the move away from EVA.
"Different behaviors," she says, "have to be encouraged at different points in a company's life."
Bill Birchard is a contributing editor of CFO, and Alix Nyberg is a staff writer.
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