Women Get On Board Inc. (WGOB) is a member-based company that connects, promotes and empowers women to corporate boards.
On June 16, WGOB hosted their virtual Speaker Series, which Southlea Group sponsored. In an engaging fireside chat, experts from Southlea Group discussed trends in executive compensation and broader governance issues faced by board and HR Committees in today’s environment.
Southlea Group is a top compensation consulting firm that partners with boards and management teams to offer insights on people and pay programs. They offer support across a broad range of solutions, including executive and employee pay benchmarking, incentive plan design and supporting governance programs.
To kick off the event, Deborah Rosati, FCPA, FCA, ICD.D, Corporate Director and WGOB Founder and CEO introduced the speakers:
Amanda and Alex opened the discussion by providing an overview of common compensation philosophies for executives in major Canadian organizations today. While the presentation was based on analysis of TSX60 listed companies and highlighted pay levels and practices for CEO and CFO positions, they clarified that the same principles of pay design are often applied to compensation plans for all executives and can even be cascaded throughout the organization.
Within the scope of executive compensation and governance, boards typically make decisions on three main topics: pay levels, pay design and pay oversight.
Pay levels refer to how much executives are paid, recognizing that organizations must offer sufficient compensation to attract and retain top talent. These levels reflect the company’s pay philosophy, which is typically to align with the median of the market when executives achieve expected performance levels.
“If you underpay, that could present a retention risk. If you overpay, there’s a chance you have a higher cost structure than is necessary to compete in the market,” said Alex.
However, there are also unique or customized compensation philosophies applied in the market. For example, when seeking skills that are currently in high demand, such as technological, engineering, data science or legal expertise, it may be necessary to pay above the median to attract and retain talent. Other considerations for determining pay levels include organization size or expected size, internal alignment across the executive team, and the link between salary and other pay elements including incentive programs and benefits.
Specific industries and fields may also have differing pay philosophies. For example, because the talent market is so competitive in tech, some organizations are targeting the equity portion of their packages to the 75th percentile of the market. Meanwhile, not-for-profits are generally not able to offer bonuses or long-term incentives, so salaries and benefits need to be at a competitive level to ensure these organizations can retain executive talent.
Pay design refers to the way the compensation plan is structured.
To establish annual performance targets, many organizations utilize scorecards, which include both financial and non-financial objectives, as well as quantitative and qualitative metrics. Every organization has different priorities that can be reflected in the scorecard. These priorities could include achieving operating goals, serving customers, engaging employees, and creating value for shareholders.
Most plans are dominated by financial metrics such as profit, but they also utilize a mix of other metrics such as cash flow, expense management, revenue and individual performance. Amanda also mentioned that currently, a hot topic in pay design is ESG. In recent years, more organizations have been establishing specific ESG goals for their executives and linking them to compensation programs.
What is the role of a director in this process? Amanda explained that directors play a key role in not only selecting the metrics in the scorecard but also calibrating the performance range to determine the pay outcome for achieving threshold, target, and maximum performance. This second component is where director oversight is most critical. Her suggestion for calibrating targets effectively?
“Ask lots of questions of management,” she said. “How has the target has been developed? What does the budgeting system look like? How far off from the target are we willing to pay?”
Alex added that boards are no longer placing sole emphasis on financial results. Recently, there has been growing interest in measuring other drivers of performance, including customer satisfaction, employee engagement, and ESG priorities.
Boards are also required to determine the structure of long-term incentive plans—that is, any plan that extends beyond one year. The three typical long-term incentive vehicles in Canada are restricted share units/restricted cash plans, performance share units/performance cash plans, and stock options/phantom options plans.
To decide which plan is most appropriate, directors should ask the following questions:
- Over what performance period(s) should performance be measured and rewarded?
- What is the desired risk/reward relationship?
- What programs are preferred by executives, investors, and proxy advisors?
Boards also play a critical role in pay oversight, ensuring an effective and fair process to evaluate performance and make executive pay decisions in the best interest of the organization.
If serving on a publicly-traded company board, board members should be knowledgeable about “say on pay.” Although this measure is voluntary and non-binding, the majority of publicly traded Canadian companies allow shareholders the opportunity to vote on the executive compensation program. A failed say on pay vote only happens when 50% or more of shareholders disagree with the approach to executive compensation, but most organizations will be displeased if they receive anything less than 90%—or if the score decreases significantly year over year.
For this reason, shareholder engagement should be an integral part of the annual compensation cycle and disclosure process. Companies must maintain an open dialogue with investors to ensure they understand and support the executive compensation framework.
In addition to say on pay, boards are responsible for examining their committee charter and ensuring it includes new topics such as diversity, human capital and ESG. Board members should also be up to date on other prevalent compensation topics such as share ownership, clawback and anti-hedging policies, problematic pay practices and external disclosure best practices.
Discretion has become a major topic of discussion in executive compensation.
Amanda and Alex explained that discretion is a useful tool when addressing compensation during extraordinary events—a global pandemic, for example. Discretion can be helpful for acknowledging factors that were unexpected and evaluating how leadership responded to challenges that couldn’t be predicted when establishing the organization’s annual scorecard. However, decisions made this way require strong justification and clear communication with investors.
“More and more we’ve started calling it “informed judgement” because these decisions are principle-based rather than truly discretionary,” said Amanda.
As the world of executive compensation continues to evolve, it’s crucial that boards stay up to date on the major trends and issues. Being able to speak up and make sensible decisions on executive compensation is a critical skill for any board member.
Are you a serving or aspiring corporate director interested in learning more about ESG? Then, join us for the first event in our three-part speaker series on Environmental, Social and Governance issues on September 28, sponsored by UBS Investment Bank. Part 1 will explore how to integrate environmental initiatives into the core of business strategy, accurately assess the real-life impact of these initiatives and link them to corporate value and cheaper capital. What is the board’s role in ensuring companies manage environmental dynamics and thrive? Register here.