"Executive Pay: Past, Present and Future" A conference organised by Hewitt New Bridge Street
05 July 2011
It is generally accepted that we live in a time of unprecedented scrutiny and criticism of executive remuneration. But how have we arrived at this place? Before the economic downturn, a degree of consensus appeared to have emerged regarding how best to structure an executive’s pay. While there was some concern that levels of total remuneration were increasing, comfort was taken from the fact that this was mainly driven via higher potential bonus and/or larger long-term incentive awards. Pay was becoming more performance-related.
However, this consensus has been challenged. Investors, politicians, the press and the public are all expressing varying levels of disquiet as to how – and particularly how much – executives are paid. Payouts under annual bonus plans, base salary increases and ‘golden hellos/goodbyes’ are the subject of particular focus.
As a result of this significantly more febrile environment, Remuneration Committees once again have much to contend with when framing their executive remuneration policies. First, there have been important regulatory developments, with the FSA taking a leading role. While the FSA’s Remuneration Code only purports to have direct applicability to financial services companies, some of the Code’s recommendations are likely to be embraced more widely.
A key theme of the FSA – and other commentators – is the issue of ‘risk’, with companies across all sectors now encouraged to disclose how risk is reflected in their pay practices. As a result, many companies have felt the need to conduct a formal ‘risk audit’ of their executive remuneration policies.
Also, changes to the Companies Act now require Remuneration Committees to explain how they have taken broader all-employee pay and conditions into account when setting the executives’ remuneration (although there is no agreed view as to precisely what information this requires a company to disclose).
And all this comes in the context of a certain amount of disgruntlement on the part of some executives. Notwithstanding the fact that, to a large extent, a two-year freeze on executive salaries was imposed in 2009 and 2010 – a period when past long-term incentive grants were unlikely to deliver much (if any) value due to the economic downturn – accusations of ‘fat cattery’ continue to abound. That said, some would argue that companies should not be surprised at the continued criticism, as annual bonus payouts still remain higher than many consider appropriate.
Indeed, at the height of the downturn, when City trader-style bonuses were being accused of bringing the global economy to the brink of collapse, it was argued that the entire ‘pay for performance’ model was, at best, a sham and – at worst – a genuinely malevolent force. However, as equity markets (if not necessarily domestic economies) have come onto a more even keel, the mood has changed somewhat. Consequently, the basic premise that a significant (but not excessive) portion of an executive’s package should be linked to performance has been broadly accepted once more.
As a result, companies have returned to the age-old question of how to measure and reward performance, particularly long-term performance. The vast majority of long-term incentive plans currently operate in a fairly traditional manner – regular annual awards are made that vest three years after grant, often subject to EPS and/or relative TSR targets. However, some companies are now challenging this approach and we are starting to see more innovative thought given to the performance conditions used.
The use of private equity style ‘value creation’ plans is also being considered by some companies, where a larger ‘one-off’ award is made with an absolute target set (perhaps based on share price, profit or some other metric). Once this absolute target is achieved, executives can share in any outperformance – possibly on an uncapped basis – with rewards delivered in either cash or shares. However, some investors are already questioning whether this approach is appropriate, save in exceptional circumstances.
It is very refreshing that companies are looking at alternative approaches and are willing to defend them robustly to their shareholders. However, many may still prefer a more ‘tried and tested’ route, provided that this approach still takes full account of the company’s particular circumstances. If it does not, the pay policy will not resonate with executives and, in turn, will neither drive nor reward the right behaviours.
In any event, irrespective of the specific approaches adopted by companies, there are some key issues that virtually all Remuneration Committees will need to address given the current economic, political and regulatory climate:
- Are annual pay benchmark reviews necessary or does this just fuel a pay ratchet?
- If above target bonuses are paid virtually every year, are the targets really tough enough?
- Do annual bonus and long-term incentive targets reflect corporate strategy?
- Should the targets be based on absolute and/or relative performance?
- Has the issue of ‘risk’ been fully taken into account (while recognising that not all risk is necessarily ‘bad’)?
- Do the rewards received by executives (whether via base salary, bonus out-turns, long-term incentive grant levels and/or vestings) genuinely reflect the overall circumstances of the business (including recent financial performance, current share price and expected future growth)?
- Is the ‘tried and tested’ route the best way forward, or should alternative/non-standard approaches be considered?
- Can the executive pay policy be justified to all stakeholders – investors, customers, suppliers and the workforce as a whole?
We hope to explore these (and other) issues at our annual conference. To help us do so, we are delighted to be joined by Daniel Finkelstein, OBE (the award winning journalist and broadcaster) who will provide his ‘take’ on the executive pay debate.
We hope you will be able to join us this year at our new venue, The Conference Centre, Dean’s Yard, London SW1P 3NZ.
Location
| Venue: | The Conference Centre, Church House, Dean’s Yard, Westminster, London SW1P 3NZ |
| Date: | 5 July 2011 |
| Time: | 8.45 a.m. – 2.00 p.m. |
View full details here (PDF).