Women Get On Board Inc. (WGOB) is a member-based company that connects, promotes and empowers women to corporate boards.
On January 26, WGOB hosted the first part of their virtual WGOB Speaker Series on Stakeholder Incentives & Director Compensation Trends for 2023, sponsored by Southlea Group. In an engaging fireside chat, compensation experts from Southlea Group discussed the growing trend of linking ESG priorities and incentives to compensation.
To begin the event, Deborah Rosati, FCPA, FCA, ICD.D, GCB.D, CCB.D, Corporate Director and WGOB Founder and CEO, introduced the speakers:
As a central theme, the conversation focused on the high-level findings from Southlea Group’s latest global report, 2023 Global Trends in Stakeholder Incentives: The Staying Power of ESG, which they conducted with the Global Governance and Executive Compensation Group (GECN). The report documents a now three-year worldwide trend, showing many of the world’s largest corporations incorporating stakeholder metrics into executive compensation. Southlea’s conclusion? Linking executive pay to stakeholder incentives is here to stay.
Clearly, this is a critical topic for board members to understand. To determine if and how your company incorporates ESG incentives into its compensation plans, it’s vital to link it to the company’s strategy.
“Compensation must follow strategy. It cannot lead the strategy,” said Amanda.
What is the process of implementing stakeholder incentives?
Amanda and Ryan outlined the four stages of any company’s stakeholder incentive journey.
The first step is to determine if stakeholder incentives are right for your organization. In North America, there are still mixed views on this topic, given the political environment and the tension between stakeholder and shareholder interests.
In their research, Southlea Group reported that more than three-fourths of large companies now incorporate stakeholder measures in their incentive plans, and the rate of adoption has continued to increase—although it’s slowing. Canada and U.S. continue to trail the rest of the world in this area, along with Singapore.
Ryan explained that this regional difference could also be attributed to different investor philosophies, with European and Australian investors putting more emphasis on ESG issues. Still, Amanda and Ryan noted that they’ve recently seen more companies in North America preparing for the adoption of stakeholder incentives.
“I do have confidence that over the next couple years, we’ll see more adoption in Canada,” said Amanda.
The next step is to decide which metrics should be included in the incentive plans. Stakeholder incentive measures can be divided into five categories:
- Social measures
- Environmental measures
- Customer measures
- Governance measures
- Community measures
In their report, Southlea Group’s analysis shows that environmental and social measures are the most popular within large companies. Environmental measures have made the most significant gains in prevalence, up from 30% to 50% of companies using them since last year. Social measures continue to be the most prevalent and are up five percentage points this year to 72% of companies incorporating them. GHG emissions are the primary measure for environmental issues, and DEI remains the primary measure for social issues.
Ryan explained that many companies are still working on developing their DEI measures to understand which are most effective in improving outcomes. However, he also noted that environmental measures are a little further along.
“We’re starting to see more interesting discussions, particularly around GHG and carbon reduction measures,” said Ryan.
For example, he pointed to oil companies that have adopted GHG emission intensity targets in their short-term plans, as well as companies such as Fortis and Suncor that have added carbon reduction measures to their long-term incentives.
To examine how your company prioritizes the incentives within compensation plans, Amanda and Ryan suggested analyzing the plan’s maturity in terms of how well-defined the targets are. They also recommended reviewing the materiality of the plan—meaning how closely it’s linked to long-term value and the core of the business. This framework can help with decision-making moving forward.
Once your company has determined the measures to include, you can then incorporate them into your compensation plans. How an organization integrates stakeholder incentives into their plans will depend on the measures they selected, the industry and the materiality.
There is a noticeable trend towards incorporating long-term incentives rather than relying exclusively on short-term incentives. Southlea Group’s research reveals that globally, more than one-quarter of companies with stakeholder measures now use them in their long-term incentive plans and almost three-quarters of companies use at least one quantitative measure.
To ensure that your company successfully incorporates and executes long-term measures, Amanda and Ryan suggested breaking them down into shorter-term milestones to help your board determine if the organization is on track to meet its ESG goals.
The final step is to verify the plan. As a board, you should be ensuring not only that your company is setting rigorous targets but that you are making stakeholder incentives a meaningful portion of overall pay.
According to the Southlea report, 61% of current stakeholder measures pay out above target, 23% pay out below target and 16% pay out at target. However, payout levels vary by region, and stakeholder incentives represent just 3-4% of total pay in Canada and the U.S. That puts North America behind the rest of the world, which sits at an average of 8%. Europe is leading, with an average of 10%.
The primary reason for this gap is that Canadian and American companies are currently less likely to implement long-term incentives, which make up a larger portion of pay.
To ensure accountability, Ryan recommended clear communication between the HR Committee, the Audit Committee, and any additional committees that might be involved, such as the Health and Safety Committee. Each committee should be engaged in helping to inform the targets, select the measures, and verify the results.
Ryan explained that as more companies incorporate quantitative stakeholder incentives, standard practices will emerge, making it easier to define and verify the outcomes of the measures in the future.
“It’s the area where we’re going to start to see more alignment overall,” he said.
With more companies moving towards incorporating stakeholder incentives globally, the practice is quickly becoming the norm for compensation plans. For board members, there is no better time to become informed about the topic, understand the process of implementing such measures, and explore how to incorporate them into your organization’s governance.