How to compensate partners to keep your firm on track
If your firm is considering making any changes to your existing partner compensation plan, from a minor tweak to a major overhaul, there are some basic concepts that you should keep in mind.
First, make a note that there is no magic compensation system that will satisfy all partners, meet all strategic goals and never have to be changed. Your compensation plan is a living, breathing document. It will need to change or adjust to meet the demands of our evolving industry — to satisfy partner concerns around fairness and to complement and reward compliance with ever-changing firm goals.
Partner compensation is an important strategic decision for an advisory firm. How owners are compensated can have the single biggest impact on the financials of the firm, and it sets the terms potentially for future partners.
Therefore, getting this part of your compensation formula right is essential to the stability and profitability of the firm going forward. In my experience, partners are almost always the highest compensated professionals in the firm, and their responsibilities include the critical roles of business development: client service and relationship management functions.
I recommend the following structure for compensating the owners/partners of the firm. Since most partners are actively working in the business, they should be compensated for the role or functions they are performing for the firm.
Owners/partners should be paid:
• Base compensation or salary is market rate compensation for the role and corresponding responsibilities. Not paying owners a salary lowers the perceived value of the owner’s contribution, and makes it difficult to manage profitability on an ongoing basis. Remember partners work in the firm, and thus their work product needs to be fully valued and accounted for in the firm’s cost structure.
In my experience at Cruz Consulting Group, most partners actually perform a blended job role in fulfilling the responsibilities of several vital positions for the firm. For example, most owners perform the combination of generating new business, servicing the firm’s top clients and running the day-to-day business. A typical blended job role for a firm owner might be 35% rainmaker, 40% relationship management and 25% business management. Additionally, a partner may fill the roles of chief executive officer, chief operating officer, chief investment officer or chief compliance officer (the C-suite roles).
If mentoring young talent is part of the firm’s strategic plan, be sure to include some reward in your compensation system or the message to your partners is that it’s not valued.
Owners/partners of advisory firms should be compensated like any other person in the firm for the role they are performing as an employee. I see a lot of variation in how firms are determining salary for partners: 1) salaries are determined by combination of prior year revenue and other contributions; 2) owners receive no salaries - their income is entirely in form of incentive compensation or a percentage of profits; 3) salaries are determined yearly based on prior year revenue contribution (draw); 4) salaries for all active owners are equal and not based on market rates.
• Incentive pay is variable compensation for meeting or exceeding goals that are tied to the key strategic initiatives of the firm. It is important to include partners in the incentive or bonus pools to ensure their full contribution is being reflected in their compensation. I talk with a lot of firms that explain they don’t need to pay the partners a performance incentive since they are sharing in the firm’s profits. They feel this is the perfect way to align each owner with the results of the firm. I can’t argue with this explanation; however what it is left out of the equation is that profit distribution does not account for the individual performance of each partner. Additionally, you may have some partners who earn a smaller percentage of the profit pool and may not be motivated to contribute at a higher level if they are not rewarded equitably for their efforts. (Keep in mind that incentive pay should be tied to annual goals and results paid out quarterly, semi annually or annually.)
Some typical individual drivers of incentive compensation include: new clients; new revenue generated; total revenue managed and/or number of client managed; client retention and satisfaction; developing and mentoring staff; events or milestones; and special projects.
• Ownership distribution is the return on the owner’s investment in the business – it is not compensation for working in the business, or even on the business. Some firms try to manage a bottom line to a certain value by shifting most or all owner compensation into this distribution category. The lesson here is that owners need to be fairly compensated for their roles first, and then overall business expenses and profitability need to be managed from that baseline.
Owner compensation plans need to define the role of the owners, define the value of the jobs, hold each owner accountable to a certain level of performance, and differentiate between the rewards for their labor and the rewards of ownership. Recognizing owners and partners as employees first allows the ownership group to differentiate contributions made by different partners at different phases in their careers.
One of the biggest challenges firms face is not distinguishing between those partners whose roles are diminishing as they sunset out of the firm and those that are fully engaged in running and growing the business. Partners’ compensation – both the salary and the incentive opportunity – should change over time as their job role, performance and contributions shift. This is the only structure that can accommodate for the changes in partner role and value to the firm over time.
One of the biggest pitfalls firms face is not distinguishing between partners whose roles are diminishing and those who are fully engaged in running and growing the business.
Lastly, here are some final considerations when making changes to your partner distribution plan.
Before making any changes to your partner compensation plan find out what your partners do and do not want in a new compensation system by facilitating a brainstorming session. As a starting point, you might try having them answer the question, “What do you value the most?” Before you can develop a successful, comprehensive compensation system you must have a very clear and agreed credo as to what makes your firm tick. You may be surprised how agreeable your partners are once they have made their points of view known and have the opportunity to consider the opinions of their partners.
The compensation system you create should be related to your firm’s strategic goals. For example, if mentoring the next generation of talent is part of the firm’s strategic plan, then you better include some form of reward for it in your compensation system or the message to your partners is that it is valueless and will only be done through their altruism and sense of teamwork.
Keep an open mind; every type of compensation system has compelling reasons for adoption, and just as compelling reasons why it should not be adopted. It’s up to you to decide what system works best for your firm and for your partners.
At the end of the day, your partners want to be compensated fairly and equitably just as every other employee in your firm. If you choose to compensate them with a base salary, incentive or a combination of both is up to you and to your business strategies. However, always keep in mind that making your partners happy will also keep your clients happy. And isn’t this the end goal?