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Current Trends in
Compensation
Dallas CPA Society
Continuing Education Day Conference
May 26, 2011
Today’s Agenda
Update on Compensation Committee Governance Issues
Differences in Executive and Managerial Compensation
Trends in Executive and Managerial Compensation
Current Equity Based Compensation Techniques
Current Board Compensation Issues
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Update on Compensation Committee
Governance Issues
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Slide 3
Executive Compensation Climate – 2011
Extended period of stormy weather
Regulatory developments and impact since the financial crisis
2009
• Federal Reserve Board (FRB):
Proposed Guidance on Sound
Incentive Compensation Policies;
Horizontal review of 28 LCBOs
• SEC: Revised disclosure rules
focused on compensation and risk
and compensation committee
processes
• Global regulators: Principles for
sound incentive compensation
2010
• FRB: Final Guidance on Sound
Incentive Compensation Policies
(June)
SEC: Rulemaking on Dodd-Frank
provisions:
• Congress: Dodd-Frank Act
o Say on pay, say on pay
frequency, say on “parachutes”
o Compensation committee
independence
o CEO pay ratio disclosure
o Pay for performance disclosure
o Recovery of executive
compensation (clawbacks)
o Executive hedging
o Enhanced disclosure of
incentives for financial
institutions
• Guidance to exchanges on
compensation committee
independence (March)
• Global regulators: Capital
Requirements Directive III and
related territory guidance
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2011
• Say on pay provisions (January)
• FRB, FDIC, OCC, OTS, SEC,
NCUA, FLHMA: Incentive-based
Compensation Arrangements
(April)
• Other rulemaking not scheduled
before August 2011:
o CEO pay ratio disclosure
o Pay for performance disclosure
o Clawback policies
o Executive hedging
Slide 4
Impact On Compensation Committees
Increased time commitment and diligence
• Among the trends in compensation committee processes, we have observed
the following:
- Two-step decision making (one meeting to review proposals, second
meeting for approvals)
- Requests for additional documentation of compensation processes
- Longer committee meeting agendas
- Greater interaction with other board committees and full board
• The push for increased shareholder interaction may affect committee chairs:
- Accepted practice in the UK for “RemCo” chairs to present to shareholders
- Encouraged by selected US director associations
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Slide 5
Say On Pay Preparation
Reflections on 2011 proxy season
Companies
have modified
practices for
say on pay –
right up until
the vote
• Disclosure
- CD&A “executive summary” – focusing on pay
for performance, risk alignment, peer groups,
severance/change in control, executive
benefits, and governance
- Pay for performance supplemental disclosures
• Program changes
- Elimination of gross up provisions and other
executive benefits
- Establishment of performance conditions on
long-term incentive grants
• Shareholder Engagement
- Proxy advisor “rebuttals”
- Institutional shareholder outreach
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Slide 6
Say On Pay Results
Early returns
Most companies • Fortune 100 companies (15 as of 4/29):
are receiving a
- Yes votes (14):
strong majority
◦ Median – 93% in favor
of “say on pay”
◦ 25th percentile – 82% in favor
votes in favor of
- No votes (1): 48% in favor
compensation
• Broad sample (503 as of 4/29)
- 98% received majority in favor
- 2% (11 companies) received majority “no”
votes
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Slide 7
Say On Pay Frequency Results
Early returns
Annual votes
are preferred
by shareholders
– and
increasingly
recommended
by companies
Company
Recommendations
Fortune 100
Broad
Sample
Annual
60%
51%
Biennial
1%
3%
Triennial
30%
43%
No recommendation*
9%
3%
Sample size
75
2,177
• Companies recommending triennial vote, but receiving
annual majority:
– Fortune 100: 4 of 6 (75%)
– Broad sample: 62 of 145 (43%)
* Includes those precluded from making a recommendation due to
TARP restrictions
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Slide 8
Say On Pay Post Mortem
Interpreting the results
Companies will reflect on say on pay results during 2011
• SEC regulations require companies to report on the impact of say on pay
votes in future year proxy statements
- Covers most recent say on pay vote
- Whether issuer considered say on pay in determining policies and
decisions
- How say on pay results affected policies and decisions
• Shareholder engagement
- How will companies gain insights on reasons for “no” votes?
- What methods of engagement will companies use outside the annual
proxy statement?
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Slide 9
Expected 2011 Rulemaking
More to come, with questions to be answered
• CEO pay ratio disclosure (ratio of CEO pay to “median” employee pay)
- Potential “repeal” (H.R. 1062)
- Questions on population and definitions
• Pay for performance disclosure
- What are the relevant definitions of “pay”?
- What performance metrics can be used (market, operating)?
- What is the appropriate time horizon for measurement
• Recovery of executive compensation (clawbacks)
- “Excess” incentive-based compensation, including stock options
- Three-year look-back on any restatement (not subject to misconduct)
- All executive officers
- Questions on affected metrics, board discretion, and treatment of equity
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Slide 10
Differences in Executive and
Managerial Compensation
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Slide 11
Executive vs. Managerial Pay Structures
Pay Component
Executive
Manager
Salary
Smaller % of overall pay
Larger % of overall pay
Annual Incentives
Larger % of overall pay
Generally available to all execs
and tied to overall company
performance
Smaller % of overall pay
Generally available to all senior
management and most
managers but may be tied to
performance of company
overall, business unit, and/or
individual metrics.
Long-term Incentives
Larger % of overall pay
Generally available to all execs
May be in multiple forms (e.g.,
stock, options, cash, etc.)
Smaller % of overall pay
Availability depends on
company but most managers
and higher eligible
Limited in forms
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Slide 12
Executive vs. Managerial Pay Structures
Pay Component
Executive
Manager
Health & Welfare
Benefits
Eligible for company-wide
plans
May also receive premium
benefits (e.g., reimbursement)*
Eligible for company-wide
plans
Retirement Benefits
Eligible for company-wide
plans
May also be eligible for NQDC,
SERP, and/or Restoration Plan*
Eligible for company-wide
plans
May also be eligible for NQDC
Perquisites
Generally available to execs*
Less prevalent
Severance/CIC
Generally limited to officers*
Not prevalent
* Many benefits which have been historically executive-only are on the
decline with many companies completely eliminating them.
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Slide 13
Trends in Executive and Managerial
Compensation
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Slide 14
Overall Trends
Overall, compensation trends have been focused on:
• Performance measurement
• Compensation risk
• Elements of remuneration
- Elimination of executive benefits (e.g., SERPs, perquisites)
- Focus on severance periods, “single trigger” change in control benefits, tax
gross-ups
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Slide 15
Trends In Program Design
Assessing the impact of the regulatory climate
Trends have been developing since the financial crisis
• Re-evaluating performance metrics:
- Risk adjustment and sustainability
- Less emphasis on “formulaic” plans
• Lengthening time horizons:
- Greater proportion of compensation deferred
- Performance conditions applied to deferrals
- Pressure on dilutive impact of equity plans
• Reducing executive “protection”:
- Elimination of executive benefits (e.g., SERPs, perquisites)
- Focus on severance periods, “single trigger” change in control benefits, tax
gross-ups
• New requirements for financial institutions to disclose compensation to
regulatory agencies (SEC, Federal Reserve, FDIC, OCC, OTS, NCUA, FHFA)
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Slide 16
Refining The Pay-For-Performance Model
Highlights:
• New compensation guidance is equal parts business opportunity and
compliance.
• Compensation policies will need to focus more on long-term value creation
and corporate stability.
• Companies must now consider the interaction of risk and performance across
their entire organization, not just within the C-suite.
• Businesses may have to disclose more about their risk-and-reward models, as
well as rethink the roles of key control.
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Slide 17
Today’s Perspectives
• Pay-for-performance models are under increasing scrutiny from US
policymakers and their global counterparts.
• Collective goal is to ensure that compensation does not put the long term
health of businesses and the overall economy at undue risk.
- Not just banks and financial services institutions
• US lawmakers and regulators want to lessen companies’ emphasis on shortterm performance.
- Want greater disclosure about how public companies' compensation policies
might precipitate events that businesses don't have the financial
wherewithal to withstand.
• New guidance will force companies to take a much broader view of both
performance and risk.
- If viewed as an opportunity, rather than just a compliance exercise,
companies may derive long-term benefits from the pay-for performance
model's evolution.
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Slide 18
What Does It Mean For Companies?
Spotlight on the Risk-Compensation relationship—
What it means for companies:
• Companies will need to demonstrate that compensation models are layering
in risk considerations.
• Boards will have to assess the compensation policies for any employee who
could put the business at heightened risk.
• Putting compensation "at risk" for longer periods so that the timing of
incentive pay and performance are not misaligned.
- May pose challenges for companies in light of recent tax rule changes.
• Greater disclosure on risk and reward may inform shareholder views/votes
on compensation decisions.
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Slide 19
Redefining Performance
• In their effort to address the various complex causes of the financial crisis,
policymakers have been contemplating the role corporate pay packages
played.
- The result is compensation guidance from multiple agencies.
• Collectively, the guidance aims to ensure that compensation policies do not
promote behavior that could put companies—and, by extension, markets—in
jeopardy.
• To this end, policymakers want corporate compensation plans to take risk
and long-term performance into greater account.
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Slide 20
Redefining Performance
Regulator/shareholder tension
Some shareholders have traditionally focused on short-term returns, paying
less attention to long-term value creation and risk.
- This was particularly evident in the run-up to the financial crisis.
• Various companies that have fared relatively well in the wake of the crisis
were criticized by shareholders (one to two years earlier) for not playing
more aggressively in the subprime loan market.
• Many policymakers argue that the interests of such shareholders are not
necessarily aligned with the interests of the general public and the goal of
market stability.
• The new guidance attempts to bring those interests into balance.
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Slide 21
Redefining Performance
Pressure on boards
• Shareholders are beginning to bring about some of that balance themselves,
post-crisis, giving greater consideration to the long-term corporate health of
the companies they invest in.
• As a result, shareholders' usual pressure on boards to show a demonstrable
and explicit link between pay and performance may start to shift in
emphasis—so that the long-term view of performance is stressed as much as
the short-term view.
• Indeed, certain institutional investors (e.g., pension funds) have long made
this their policy.
• Such pressure will be easier to apply if Congress requires public companies to
grant shareholders a nonbinding advisory vote on executive pay ("say on
pay").
PwC
Slide 22
Redefining Performance
Pressure on boards (Cont’d)
• Boards also continue to confront public pressure, with negative sentiment
about executive pay potentially diminishing corporate reputation and value.
• And, there may be pressure from within the board itself:
- Although much of the new compensation guidance is directed at banks
and other financial institutions, its core elements are likely to migrate to
other sectors through cross-directorships and broader director education.
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Slide 23
Viewing Risk Through a Wider Lens
Looking past the habitual sightlines
• As the SEC and Fed see it, the risk compensation relationship isn't
necessarily confined to the C-suite.
• Rather, any employee and business unit may, depending on their role,
function, and how they are paid, put a company at heightened risk—and, in
turn, pose an indirect risk to the financial system and broader economy.
• Those two agencies, therefore, expect companies to assess the compensation
policies for non-officer employees whose individual or collective decisions
create such risks.
• The SEC also wants companies to disclose those policies in their proxy
statements if they could result in potentially harmful consequences for the
companies.
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Slide 24
Is Workforce Talent a New Measure?
Talent may be biggest challenge during economic recovery
•
Many companies that downsized aggressively could soon face a shortage of
skills suited to the new global economy
•
Increased workloads, job reductions, and overall economic and employment
uncertainty have strained employee morale
•
Companies focusing more on finding and motivating the right talent to
support the company’s business strategy
-
May be driven outside of HR if not a strategic partner
Understand how management is reshaping the skills and size of the company’s
workforce in light of its strategy and today’s economic conditions
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Slide 25
Current Equity-based Compensation
Techniques
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Slide 26
Equity-based Compensation Plans
Past practice
• Historically, stock options were the most common form of equity-based
compensation.
• Often leveraged down to all employees in the organization.
• May be tax qualified or nonqualified.
• Companies also historically offered ESPPs but many companies discontinued
or modified their plans following 123R.
• Companies which used restricted stock generally awarded them with serviceonly requirements.
PwC
Slide 27
Equity-based Compensation Plans
Current landscape and techniques
• Shift away from pure stock options
• Limited employee population eligible for awards
- May be limited to employees directly responsible for driving company
growth
- Cash may be used for other employees instead of equity
• Organizations, such as ISS, and shareholders recommend the use of
performance measures to earn awards (both stock and options)
-
Internal measures such as EPS and Cash Flows have been used more
often
◦ Prevalence towards metrics highly visible to shareholders
- External measures have been used more recently such as tied to solely to
stock price appreciation or based on relative performance to competitors
or indices.
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Slide 28
Current Board Compensation Issues
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Slide 29
Role of the Compensation Committee
Maintain and Review
•
Review philosophy and Compensation Committee Charter periodically
•
Review compensation process periodically
•
Review proxy disclosures / CD&A annually
•
Conduct competitive compensation analyses annually
•
Review peer set annually for any changes in size or operations through
acquisition / divestiture
•
Develop incentive metrics and performance targets annually
•
Review aggregate share use annually
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Slide 30
Role of the Compensation Committee (Cont’d)
Maintain and Review
•
Review CEO (and other key executive pay) annually
•
Review incentive plan targets annually
•
Review Board of Director pay periodically
•
Periodic review of retirement and benefits plans (cost review annually)
•
Key executive shareholdings (annually) and stock transactions (quarterly)
•
Review of external relationships and fees annually
•
Review of succession planning annually
•
Review of policies and procedures as needed
•
Engagement with key executive hires and employment agreements
•
Education / training / update of trends
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Slide 31
Compensating the Board
Board Trends
• Majority of Boards have 10 members (8 outside Directors)
• 6 Board meetings per year
• Members spend on average 10 to 15 hours a month on Board matters
- Trend for 2011 indicates a continued increase
• Sub-committee meetings range from 3 to 5 meetings per year
• Position of Chairperson and CEO is divided
• Compensation levels has stayed flat for 2010 compared to 2009
* Source: Compensation Resources: 2010 BOD Compensation Survey
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Slide 32
Compensating the Board
Components of Board Compensation
• Annual Cash Retainers
- Typically cash payments, some companies provide in form of equity
• Equity Grants
- Stock options still prevalent, with Restricted Stock a strong second
- Equity size determined on “value” versus “number” of shares
- Stock ownership guidelines
• Board Meeting Fees
- Still prevalent, but trend is reducing and to include in retainer
• Benefits and Perquisites
- Majority of companies do not provide
- Life, medical, dental
- Matching gift programs
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Slide 33
Compensating the Board
Components of Board Compensation
• Committee Chair Retainers
- Audit and Compensation Committee Chairs highest paid
• Committee Meeting Fees
- Still prevalent, but trend is to pay only committee retainer
• Chairman Of the Board Retainers
- Generally only to independent chairman or lead independent director
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Slide 34
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© 2011 PwC. All rights reserved. In this document, "PwC" refers to
PricewaterhouseCoopers LLP, a Delaware limited liability partnership, which is a
member firm of PricewaterhouseCoopers International Limited, each member firm of
which is a separate legal entity. This document is for general information purposes
only, and should not be used as a substitute for consultation with professional
advisors.