Continuing with the trend of Environmental, Social, and Governance (ESG) goal adoption in 2020 and 2021, we are beginning to see more regular adoption and shifts towards specific and measurable ESG goals for 2022. Compared to the early phases of ESG goal adoption, where we would typically see a list of declared metrics without much standardization, companies are beginning to set more specific and quantitative goals with defined weights and payout leverage for 2022. This standardization is partly driven by ESG scorecards being viewed as qualitative goals by institutional investors. In response, some companies are attempting to frame ESG goals as more quantitative by linking number of goals met to a set threshold/target/and maximum (e.g, target performance equals 50% of ESG goals met).
In addition to ESG goals, some companies are still grappling with the challenge of properly setting financial goals given continued uncertainty in the market. Specifically, some companies are attempting to balance lower target goals for 2022 compared to 2021 target and actual performance while simultaneously avoiding the appearance of consecutive above-target/maximum payouts due to depressed goals and/or adjusted metrics.
As the economy continues to recover from the impact of the COVID pandemic, companies face several challenges stemming from decisions made during 2020. One such challenge includes having overestimated the pace of economic recovery, thereby leading to 2021 bonus plans tracking below threshold following a challenging 2020. Conversely, several other companies have underestimated the economic recovery in establishing 2021 bonus targets and are set to perform beyond maximum. Both situations illustrate how prolonged market uncertainty has led to the difficulty in setting financial goals for 2020 and 2021.
Director compensation, overall, remained flat in 2020. The challenge presented in 2021 is whether any increases to director compensation should be made. While broader director compensation changes for 2021 will not be fully known until 2022, there have been some situations of good company performance, sufficient recovery, or sustained below-market pay levels leading to director compensation increases in 2021. However, overall, we believe that board pay rates will escalate at levels that are lower than historical practice.
Environmental, social, and governance (ESG) metrics continue to be in the forefront of conversations by companies. Several have chosen to highlight the inclusion of ESG metrics in their incentive plans in recent proxies covering 2020, and many have chosen to disclose these metrics (or announce the inclusion of these metrics) for 2021. While ESG metric adoption has generally centered around larger companies, conversations have begun to shift towards potential larger-scale ESG adoption at smaller companies as well for future incentive plans.
This week, we have seen increased scrutiny surrounding new ISS “problematic pay practices” among companies. Specifically, ISS has brought attention to large retention awards / one-time awards to executive teams and severance benefits provided to executives that are not described in public filings as terminating involuntarily. Language such as “mutual agreement [of separation]” has been viewed as insufficient, unless further clarified and explicitly tied to involuntary termination.
Environmental, social, and governance (ESG) metrics continue to be an important topic of discussion among companies. With companies more regularly including ESG metrics into annual incentive plans, new discussions have highlighted concerns of the possibility that too many ESG metrics could dilute other established annual incentive metrics or overcomplicate annual incentive plans. Such concerns, however, do leave open the possibility that long-term performance plans could include ESG metrics more commonly in the future.
This past week, conversations have focused on long-term equity incentive opportunity and compensation designs impacting the broader stakeholder community.
We continue to see some companies provide a premium to 2021 LTI grants as compared to 2020 awards, with premiums generally intended to enhance retention given the decline in management’s equity values at some companies resulting from the pandemic. Overall reactions from investors and external proxy advisors remain to be seen; however, early indicators suggest large 2021 pay changes have been viewed unfavorably, particularly when viewed as “make whole awards.” These reactions stem from the view that long-term incentives by nature should smooth out short-term swings in compensation.
ESG (environmental, social, and governance) metrics continue to be of interest to companies, with recent discussions extending beyond annual incentive implementation and into long-term incentive designs. Companies continue to debate how to properly calibrate the weighting and measurement of ESG metrics in current and future compensation plans, including (i) the use of mission-based rather than budgeted financial goals, (ii) how ESG metrics play a role if a company misses financial/TSR targets, and (iii) to what extent positive or negative leverage is applied. These discussions are not uniform across companies, as specific ESG metrics vary in applicability and level of importance among different industries.
This past week, pay conversations have centered around 2021 compensation changes and Environmental, Social, and Governance (ESG) metrics.
Companies are facing the challenge of setting pay levels and what, if any, merit increases should be applied to their executive teams. Specifically, several companies are choosing to take more conservative approaches to merit increases as they balance several considerations including (i) any changes made to merit increases for the broader-employee population in 2020, (ii) the extent of financial recovery/impact, and (iii) optics of large pay increases, among others. Partially attributable to increased scrutiny of executive compensation as the pandemic begins to wane, several companies have drawn criticism from proxy advisors and investors for large pay increases and/or large one-time payments despite positive financial performance in 2020.
ESG continues to be an important topic among companies. While ESG metrics have more commonly appeared in annual incentive plans, conversations have also centered on the potential inclusion of ESG in long-term performance plans. Moreover, the appropriate weighting that should be placed on ESG metrics as a percent of a total award opportunity has been debated, noting that investors and proxy advisors highlight the importance of ESG but may be intolerant of a reduction in financial performance metrics.
This week, companies have been discussing disclosure of compensation actions taken in response to the COVID-19 pandemic for their 2021 proxies, while simultaneously balancing multiple concerns from external counsel, investors, and proxy advisors. Recurring disclosure themes include how to address:
The level of detail companies choose to disclose will vary and will be dependent on the degree of impact of compensation decisions made during 2020 and/or whether or not prior decisions were previously disclosed in 8-Ks.
ESG (environmental, social, and governance) metrics also continue to be a recurring theme among companies, and we have seen an uptick in the number of companies implementing ESG metrics into their annual and, to a lesser extent, long-term incentive plans.
This past week, conversations continue to involve 2021 goal-setting and long-term incentive grant sizes.
During the end of calendar 2020, we observed many off-calendar fiscal year companies defer goal-setting to early calendar 2021 (as opposed to the historical practice of setting goals during late calendar 2020) due to the challenges of forecasting performance in a highly uncertain environment. This week, we have seen this trend of delayed goal-setting apply for many on-calendar fiscal-year companies as well, with several companies choosing to not set goals until March or even the second quarter of 2021, again given the lack of visibility to likely outcomes given the pandemic.
We have also observed several companies revisiting discussions of adding ESG (environmental, social, and governance) metrics to their incentive plans. With the emergence of several prominent companies introducing ESG metrics – especially diversity and inclusion (D&I) – to their 2021 incentive plans, other companies are similarly contemplating the introduction of ESG metrics for either 2021 or 2022. The method in which companies choose to implement ESG metrics in performance plans have varied, with common approaches including performance scorecards, modifiers, or measured quantitative metrics.
We continue to see some companies provide a premium to 2021 LTI grants as compared to 2020 awards. With premiums generally intended to make up for lost opportunity in previous LTI grants/performance cycles, some companies are facing internal pressures to provide additional disclosure detailing the amounts and rationale for the grant premiums. In addition, we continue to see companies debate the merits of applying premiums to 2021 awards versus the alternative of augmenting regular ongoing annual LTI with a special LTI grant.
This past week, there has been a focus on compensation expectations for the broader employee population, as well as continuing contemplation of 2020 annual incentive payouts and 2021 long-term incentive grant sizes.
Some companies, especially those not severely impacted by COVID-19 (e.g., technology), are taking the approach that COVID-19 should not impact compensation decisions; as such, in many instances these companies are continuing with normal merit increases for the broader employee population. Conversely, some companies in highly-impacted industries (e.g., retail, REITs, travel, leisure, etc.) are opting for more modest/no merit increases for 2021.
As a result of work-style changes brought about by COVID-19 restrictions, many companies have allowed for remote work for their employees. In certain instances, these employees have chosen to work in less-expensive geographies as compared to their original high-cost employment locations. In response, some companies are discussing removing geographic pay premiums and/or introducing salary grades based on geography.
Despite challenges brought about by COVID-19, some companies have managed to perform at maximum and are discussing payout strategies, including:
We have seen some companies provide a range of premiums to 2021 LTI grants as compared to 2020 awards. While some premiums are intended to make up for lost opportunity in previous LTI grants/performance cycles, we have observed that other companies are freezing or providing more measured LTI award increases due to affordability issues and in order to obviate potential disclosure concerns.
This past week, we have seen companies focus their discussions on the use of discretion in determining 2020 bonuses and changes in long-term incentive plans.
For 2020 annual incentive payouts, companies are contemplating the extent to which discretion may be applied in determining final bonus payouts as a percent of target, noting the following challenges:
Adjustments to future long-term incentive plans have been a recurring topic among companies throughout 2020, with some opting to shift from 3-year performance goals to a series of three, 1-year goals and/or shift towards more time-based equity until there is less volatility in the markets. Some companies are also discussing the merits of introducing/reintroducing relative TSR in their performance plans, which obviates the need for goal-setting.
Continuing with the topics from early November, compensation committees and management teams are continuing to focus on potential adjustments to financial and operating performance results as they consider 2020 bonus payouts and modifications for 2021 bonus and long-term incentive designs:
This past week, we have seen companies focus their discussions on decisions regarding 2020 annual incentive payouts, goal-setting for FY2021 bonuses, and long-term incentive opportunities for 2021.
For companies in industries that were heavily affected by the pandemic (e.g., retail, REITs, travel, leisure, etc.), 2020 bonus payouts are expected to be well below target. However, several industries have experienced positive financial performance despite the market volatility that has arisen from the COVID-19 pandemic, namely the IT, biotech/biopharma, and consumer product sectors among others. Even companies within industry sectors have experienced different financial outcomes resulting from distinctive business models (i.e. strength of omni-channel strategy).
For 2021 annual bonuses, many companies are choosing to delay goal-setting until better financial line-of-sight is obtainable. We have seen these goal-setting delays range from an additional fiscal quarter to several months. Longer delays are largely associated with more heavily impacted industries.
With several companies that are concerned about retention choosing to grant a premium to 2021 equity grants in lieu of adjusting in-flight equity performance cycles, companies have discussed several strategies to properly design these awards:
This past week, we have seen companies contemplate disclosure and metric calculation strategies for their executive and broader employee population incentive outcomes.
Thus far in 2020, we note that several companies have provided “hero bonuses” to their front-line employee populations. As a consequence, there have been discussions surrounding potential adjustments to financial metrics to account for these bonuses, i.e., whether to add back the hero bonus expense as an extraordinary item when calculating adjusted profit metrics for incentive funding purposes. It is likely that 2021 CD&A disclosures will highlight broad-based actions taken by companies to support employees, which will ultimately be viewed favorably by stakeholders, although it remains to be seen how the removal of such actions from the incentive calculation will be perceived by proxy advisors.
We have also seen a greater number of instances of investor and proxy advisor reactions to adjustments in annual bonus payouts as more non-calendar year/fiscal year companies file proxies. So far, the use of resiliency-based discretion has appeared to be acceptable if (i) explained adequately by companies, and (ii) if such adjustments are made within reason and do not make executives whole.
For many companies, make-up LTI awards provide an attractive alternative to in-flight PSU adjustments. While these grants may be intended to replace lost incentive value, companies are exercising caution in how these awards are ultimately calibrated and disclosed so as to avoid any potential negative criticism from investors and proxy advisors. As a result, these supplemental LTI awards are trending towards performance-based equity with multi-year vesting periods.
This past week, we have seen companies focus their discussions on potential actions for 2020 annual incentive payouts and while planning for 2021 compensation decisions.
Companies should be cautious about using survey and proxy-disclosed compensation data for 2021 planning as the pay targets and values represent “pre-Covid-19” opportunities for most sources of data. These data have to be carefully evaluated relative to the impact of the pandemic on each company as some industry segments have rebounded, while others remain in challenging circumstances. Also, it is important to recognize that some compensation surveys have not included temporary salary reductions in survey data.
On the topic of current year annual incentives, we expect that many investors will accept some adjustments to annual bonus payouts, but not to the extent of making executives completely whole. For those companies likely to pay above target bonuses, they may not apply negative discretion to determine actual payouts but might cap certain components (e.g. individual performance factor) of the incentive award while allowing for formulaic outcomes on the other components (e.g. financial, operational).
On the topic of long-term incentives, we believe that in many cases there will be negative investor reaction to adjustments of performance for open cycles of long-term performance awards outside of approved exceptions in the plans. As a result, some companies are considering supplemental equity grants in 2021. While these grants are intended to replace lost incentive value, in most cases we expect the value delivered will be a percentage of the original target value rather than a complete replacement. The amount of the replacement value needs to be tailored to each company’s unique situation and performance. In addition, some companies are considering shifting measurement of long-term plans from multi-year to single year performance periods with additional vesting to equalize the total performance and vesting periods before and after the change.
In terms of target setting for 2021 incentive plans:
Lastly, we are seeing a pronounced trend in interest and discussion of ESG-related issues particularly after the communications by State Street, the World Economic Forum, and the Business Roundtable.
This past week, we have seen companies focus their discussions on potential actions for pending annual incentive payouts and long-term incentive opportunities for 2021.
Companies are contemplating whether to enact normal-course merit increases for executives for 2021, especially in highly impacted industries where liquidity may be of concern. While select survey research across U.S. companies forecast an approximate 3% salary budget increase for 2021, it is likely that companies are choosing not to apply merit increases for their executives.
Setting goals for 2021 annual and long-term incentive plans continue to be challenging for companies in several industries. As a result, we are seeing companies contemplate several strategies for their annual and long-term incentives plans going forward:
Companies are generally avoiding in-cycle PSU adjustments, but rather are more willing to adjust current annual incentive plan payouts.
While less common, some companies have made in-cycle PSU adjustments to current performance awards (2020-2022) versus prior cycles. These modifications to in-cycle plans are more likely to occur in heavily impacted industries.
For companies that have not made in-cycle adjustments, other proposed PSU strategies include:
Regardless of strategy, adjustments to future long-term performance plans remain more favorable over replacing performance-based equity with time-based awards from a proxy advisor/optics standpoint.
Companies continue to discuss pay reduction reversals; however, these will likely be industry-specific, with more heavily affected industries (e.g., retail, REITs, travel, leisure, etc.) reversing pay reductions later than less-affected industries.
Salary restorations will likely not be disclosed, especially in instances where reduction sunsets were enacted (e.g., salary cuts through December 31, 2020) or employees were furloughed.
Setting goals for 2021 annual and long-term incentive plans has been challenging for companies in several industries, especially where there is lack of clarity in company prospects. As a result, we are seeing companies contemplate several strategies for their annual and long-term incentives plans going forward:
This past week, we have seen companies focus their discussions on potential actions for existing and future incentive plans, especially as companies face the challenge of setting appropriate goals for 2021:
Unrelated to COVID issues, companies are increasingly interested in adding diversity and inclusion (D&I) metrics in their incentive plans, especially in light of increased shareholder interest in environmental, social and governance (ESG) issues. There have been discussions as to which plan (either annual incentive or long-term) these metrics should apply, given that D&I metrics are often long-term objectives for companies but have thus far been mostly limited to annual incentive designs as a scorecard component or goal included in a strategic or individual performance category.
Pay reductions seem to have plateaued. As such, conversations are now turning to when, and how, reduction actions will be reversed.
Despite these conversations, companies are generally taking a “wait and see” approach, understanding that salary restorations may be premature given the uncertainty of the current environment. This is further complicated in instances where companies disclosed pay reductions with no specified end date.
In cases where there have been salary reductions for the broader-employee population, some companies have discussed ways to earn forgone compensation through supplemental bonus opportunities.
There continues to be limited disclosure and documented cases of annual goal resets; companies may have little appetite to disclose such changes unless it serves the potential to be viewed positively by the broader shareholder and stakeholder community.
This being said, several companies have discussed and approved splitting the current annual incentive year into two, six-month performance cycles and resetting goals for the second period. In these cases, the maximum opportunity for plan participants is often set to target.
Other companies have chosen to replace their current annual incentive plan with a half-year plan; this half-year plan would operate under reset goals and have the potential to earn less than a target payout.
Adjustments to existing annual plans to account for the COVID-19 pandemic have also been considered:
This past week, we have not seen many new major developments in executive pay quantum as a direct result of market uncertainty driven by the COVID-19 pandemic. However, we have begun to see other developments and emerging trends:
Companies continue to discuss several strategies for existing and future long-term incentive plans, including:
Presented a webinar "Compensation Issues in the Recovery–Setting CEO and Senior Management Compensation". The Webinar discussed how most businesses have lost revenue during the pandemic, whether the business has shut down completely or not. While compensation plans and incentives were likely approved before the rise of COVID-19, it may be necessary to adjust economic forecasts and incentive plans. Many CEOs and board members have announced the suspension or reduction of their salaries, but that isn’t where the bulk of compensation lies. How do you adjust incentives in the wake of an “act of God”?
In this webinar topics explored included:
• How deeply business interruption/revenue losses will affect pay structures and for how long.
• Alternative incentives in order to keep cash on hand.
• How to adjust compensation accordingly while retaining the best talent.
Recent weeks have seen a sharp decline in the number of new companies disclosing reductions to executive salaries and board cash retainers. COVID-19 has impacted sectors in meaningfully different ways, with some companies continuing to reel from the rapid economic downturn while others have already experienced stock price recoveries. For those harder-hit organizations, we have seen companies grapple with balancing pay for performance with seeking to recognize overall company stewardship in a difficult environment.
Further, this past week, companies have taken the time to consider several potential actions in their pay programs:
To date we have seen over 480 companies reduce executive salaries and over 300 companies reduce director cash retainers since the onset of the COVID-19 pandemic, most commonly in severely affected industries (e.g., retail, REITs, travel, leisure, etc.). However, this week we have seen a decline in the number of new companies disclosing reductions. We do note that disclosure of such actions is often voluntary, so the figures being tracked may actually understate the prevalence of pandemic-related executive and director compensation reductions.
As the second fiscal quarter progresses, companies are taking time to discuss the treatment of existing annual bonus and long-term incentive cycles:
We continue to see executive salary reductions (now more than 400 companies) and director cash retainer cuts (more than 225 companies) most commonly in severely affected industries (e.g., retail, REITs, travel, leisure, etc.), although companies in less-affected sectors have also taken salary actions. We also have found strong linkage between companies that have reduced executive salaries and board cash retainers with companies that have announced broad-based employee actions such as furloughs, staff reductions, and broad-based salary reductions. Most of these companies have not indicated a definitive end date to the reductions, but rather intend on reevaluating salaries and retainer reductions when greater clarity and stability emerges in the financial outlook.
Further, this past week, companies have also taken the time to consider several potential actions in their pay programs in response to ongoing macroeconomic uncertainty:
– Delaying goal-setting until summer 2020 or when there is more clarity regarding financial outlook.
– Replacing PSUs with performance cash with a discount to reflect lower “currency” risk
– Replacing PSUs with RSUs, with grant values reduced to reflect lower risk of time-based equity.
– Reducing threshold payout opportunities to ensure downside protection, with some companies leaving maximum opportunities unchanged and others reducing maximum payouts to preserve the symmetry of the plan.
– Historical differences in prices used for director equity awards versus management equity grants during years of stock price volatility.
We continue to see executive salary reductions (more than 350 companies) and director cash retainer cuts (more than 175 companies) most prominently in severely affected industries (e.g., retail, REITs, travel, leisure, etc.), although companies in less-affected sectors have also taken salary actions, often to demonstrate empathy with affected communities, employees, and customers. Further, this past week, companies have taken time to contemplate and evaluate several actions in response to macroeconomic uncertainty: