esg metrics in executive compensation

Or what about management weakening the core business in order to achieve an ESG metric? Lack of standardised climate change metrics is holding back the wider adoption of including climate action in executive compensation. [2] While not driven by disclosure regulation, the topic is receiving attention largely due to a combination of investor, employee, and customer interest. This website uses cookies to provide you the best experience. Found insiderelated to executive incentives for environment, health, and safety (EHS) ... AEP: Ten percent of annual incentive compensation is based on safety metrics, ... And if stakeholder capitalism really is the new approach, shouldn’t companies demonstrate their commitment by measuring more than the financials? Which of those are clearly linked to your business strategy? These market observations are most likely due to the early journey of companies incorporating ESG measures in their incentive plans, as well as there being many areas for companies to focus on with respect to driving ESG results and not wanting to place importance on one area to the potential perceived detriment of another. These goals will likely extend to the long-term incentive (LTI) plan as well since most require multi-year effort. This edition explores the full scope of executive pay, with topics ranging from setting a pay philosophy to arranging deferred compensation programs. However, 45%, or 133, of management teams explained that they do include ESG-related metrics in their executive compensation plans. Found inside – Page 209The combination of non-GAAP metrics (NGMs) with financial metrics based ... Metrics for Executive Compensation Including ESG Consideration,” June 11, 2019. 1 Morgan Stanley Institute for Sustainable Investing, “Sustainable Value: How Emerging Public Companies Can Deliver on ESG Expectations,” 2020. 1Pearl Meyer Quick Poll: Environmental and Social Governance and its Potential Link to Incentives, March 2017. https://pearlmeyer.com/research-reports/quick-poll-esg-and-its-potential-link-to-incentives(go back), 2“FLASH REPORT: 81% of the S&P 500 Index Companies Published Corporate Sustainability Reports in 2015,” press release from The Governance and Accountability Institute, March 15, 2016. https://globenewswire.com/news-release/2016/03/15/819994/0/en/FLASH-REPORT-81-of-the-S-P-500-Index-Companies-Published-Corporate-Sustainability-Reports-in-2015.html(go back), 3Based on data collected and analyzed as part of Pearl Meyer’s authorship of the NACD 2017 Director Compensation Report. ESG metrics into executive compensation, companies can reduce risks related to ESG underperformance by incentivizing executives to meet sustainability goals, thereby achieving greater long-term value for shareholders. The Stakeholder Strategy is the first book to show business leaders and managers how to establish and maintain positive, mutually beneficial stakeholder relationships. Given this and similar statements, it is not surprising that in 2021, many investors have signaled plans to increase support for shareholder sustainability proposals. The Company believes continuously improving all elements of its ESG . When ESG is linked to compensation, it increases investor trust in a company . In practice, the implementation of ESG metrics in executive pay has been less than optimal. The investors asked some pointed questions: State Street met with another of our clients specifically on human capital management (HCM), which is a major ESG area. Linking ESG Metrics to Executive Compensation: Virtue Signaling or Paying for Impact? Integrating ESG considerations into Executive Compensation Governance. : The Rise of ESG Metrics in Executive Compensation. As investors’, regulators’, and other stakeholders’ demands for corporate ESG responsiveness continue to grow, more and more board members have discussed whether ESG measures should be incorporated into executive incentive plan designs to highlight how management will be held accountable for ESG results. Found inside – Page 104satisfaction.80 Indeed, ESG compensation metrics are being used more and more as ... Implementing a stakeholder approach to executive compensation requires ... But compensation is a sensitive instrument, so we urge caution. In terms of weighted metrics, 30 percent is probably higher than most companies are aiming for, with 10 percent to 15 percent more common, Krauser commented. She leads the Center to help both corporate board members fulfill their governance-related responsibilities and aspir... More. This post is based on their Semler Brossy memorandum. The United Nations Principles of Responsible Investment (UNPRI) is facilitating a project between companies and a group of 11 institutional investors with the aim of creating overarching principles of how ESG metrics are linked to executive remuneration. Boards are feeling pressure from other stakeholders as well. But the level of inquiry from our clients (predominately corporate boards) has increased dramatically. Found inside – Page 136As public interest in these topics grow, however, the use of ESG metrics is ... in the details of executive compensation planning and implementation, ... Companies themselves seem to be driving most adoption, some as a way to strengthen their corporate brands, and others after losing a Say on Pay vote or suffering from public troubles. Meridian Compensation Partners, LLC is conducting a study of a group of S&P 500 companies' disclosures related to the use of environmental, social and governance metrics in their short-term and long-term incentive programs.The study's initial findings are discussed below, and will be periodically updated to reflect our review of additional proxy statements. Moving further along the scale, for some firms these more basic measures and additional factors, such as supply-chain processes or waste reduction, may be less on the margins and well incorporated into the functioning of the organization. On June 29, 2021, SEC Commissioner Allison Herren publicly called for corporate boards to tie ESG metrics to executive compensation. By clicking the "Accept" button below, you are consenting to receive and store cookies from our site. A: Typically such metrics are given only modest weight in the overall incentive funding formula—something along the lines of 10-20% of the total. A number of recent Securities and Exchange Commission (SEC) activities demonstrate how quickly the SEC’s attention is shifting around ESG and climate, including the appointment of its first policy adviser for climate and ESG.2 This announcement was quickly followed by the creation of a Climate and ESG Task Force within the SEC’s Division of Enforcement,3 as well as a published statement from the acting chair directing the Division of Corporation Finance to focus on climate-related disclosures and use the insights gained from the reviews to update guidance.4 Allison Herren Lee, in her capacity as acting chair prior to the recent confirmation of Gary Gensler as chair of the SEC, requested that investors, registrants, and other market participants provide input on whether current disclosures adequately provide information on climate-related risks, impacts and opportunities.5 At the global level, the International Financial Reporting Standards (IFRS) Foundation Trustees are proceeding with a strategic plan to stand up a Sustainability Standards Board (SSB) to sit side by side with the International Accounting Standards Board (IASB) to bring sustainability and financial reporting standard-setting under a common architecture, governance infrastructure, and due process. In the past year, S&P 500 companies rapidly changed their executive compensation to incentivize diversity, worker health and safety, and other ESG metrics. For example, Kohl's evaluates CEO performance based on several performance objectives, 10% of which takes into account the progress achieved in "enhancing Company diversity, and social . Found inside – Page 1-119... these proposals even seek to tie social and sustainability considerations to compensation.614 Shareholder proposals related to ESG metrics are usually ... © 2021. Last year, Apple opposed a shareholder measure that asked for a substantially similar compensation change and the . Pre-set formulaic metrics, where employed, provide a clear window into the behaviors and performance that compensation committees are rewarding. If present at all, the metrics are most likely indirect and folded into larger measurement components. Found insideScores that combine E, S and G to give a single ESG metric – while worthy – are dominated by the S ... and – embedding metrics in executive compensation. Found inside – Page 25... as well as by some (but far from all) corporate executive compensation schemes. By its nature most (but not all) ESG factors are medium and long term, ... Leading beyond the disruption. Discussions on environmental, social, and governance ("ESG") topics are not new to companies in the energy sector. For those boards that strongly believe in moving their companies along this continuum and pursuing a deeper operationalization of ESG factors—whether in response to regulation, stakeholder push, and/or the bottom line—incentives may be a catalyst. The pioneers in these areas started with asking pointed questions, customizing ESG goals and metrics for their company, and measuring them. Found insideIn the US, 93 percent of S&P companies report on ESG matters, ... all actively promote the adoption of executive compensation packages that promote all ... "Linking ESG metrics to executive pay is a powerful way to drive change. Pressure for companies to perform well in the areas of environmental, social and governance (ESG), in addition to traditional financial and shareholder measures, continues . Found inside... of these strategies or use additional ESG metrics for portfolio creation. ... and top governance issues were executive compensation and independence of ... This story is familiar, for good reason: as this book clearly demonstrates, structural flaws in corporate governance have produced widespread distortions in executive pay. Below are some key questions and considerations that the board and management can discuss when determining the appropriate ESG measure(s) to include in executive incentive arrangements: After the board and management agree on the type(s) of ESG measure(s) to include in the executive incentive plan, they will need to determine the best way to reward (or penalize) executives for driving ESG results. The second was a push to vote against the company's compensation plans for executive officers. As published in Governance Challenges 2017: Board Oversight of ESG, a publication of the National Association of Corporate Directors Corporate boards appear to have taken note. Read the Spring 2021 issue now. From an external reporting perspective, the Governance and Accountability Institute, a consulting and research firm focused on sustainability issues, says that in 2015, 81 percent of the S&P 500 published corporate reports on their ESG positions, up from just 20 percent four years prior. Deloitte’s review of the Fortune 100 companies’ proxy statements found that the most common approach used to evaluate ESG measures in executive annual incentive plans is by far the scorecard approach, followed by a modifier and stand-alone measure. The United Nations Principles of Responsible Investment (UNPRI) is facilitating a project between companies and a group of 11 institutional investors with the aim of creating overarching principles of how ESG metrics are linked to executive remuneration. The board should also test a metric before including it in compensation, to reveal unintended consequences or the possibility of gaming. ESG is more than a hot topic--it is an… Liked by Jamie McGough (go back), 4In-Depth: Linking Compensation to Sustainability, Glass Lewis, March 2016. https://globenewswire.com/news-release/2016/03/15/819994/0/en/FLASH-REPORT-81-of-the-S-P-500-Index-Companies-Published-Corporate-Sustainability-Reports-in-2015.html(go back), 5Robert G. Eccles, Ioannis Ioannou, and George Serafeim, “The Impact of Corporate Sustainability on Organizational Processes and Performance,” revised March 2014. http://www.nber.org/papers/w17950.pdf(go back), 62013 Six Growing Trends in Corporate Sustainability, EYGM Limited, 2013. http://www.ey.com/Publication/vwLUAssets/Six_growing_trends_in_corporate_sustainability_2013/$FILE/Six_growing_trends_in_corporate_sustainability_2013.pdf(go back), 7Gaining Ground: Corporate Progress on the Ceres Roadmap for Sustainability, Ceres, 2014. https://www.ceres.org/resources/reports/gaining-ground-corporate-progress-on-the-ceres-roadmap-for-sustainability/view(go back), Posted by Janice Koors, Pearl Meyer & Partners LLC, on, Harvard Law School Forum on Corporate Governance, https://pearlmeyer.com/research-reports/quick-poll-esg-and-its-potential-link-to-incentives, https://globenewswire.com/news-release/2016/03/15/819994/0/en/FLASH-REPORT-81-of-the-S-P-500-Index-Companies-Published-Corporate-Sustainability-Reports-in-2015.html, http://www.ey.com/Publication/vwLUAssets/Six_growing_trends_in_corporate_sustainability_2013/$FILE/Six_growing_trends_in_corporate_sustainability_2013.pdf, https://www.ceres.org/resources/reports/gaining-ground-corporate-progress-on-the-ceres-roadmap-for-sustainability/view. The SEC has also been named to co-chair the IOSCO Technical Expert Group to advise on standing up the SSB. On some level, these types of identified actions may also be represented as a component of some executives’ performance-based compensation (particularly health and safety, as noted), but it is unlikely these factors are explicitly stated as ESG performance metrics. 1 In addition, a 2020 survey of 338 global boards of directors . Rather than a single decision, new pay metrics involve a journey that begins with elevating certain issues internally and externally. But how will companies demonstrate their commitment to these strategies, and how will boards hold management accountable for meaningful progress against the company’s goals? Each new metric may dampen the push from existing metrics. New metric ties Chipotle executive compensation to ESG goals. It is important to ensure that the measurement of success on ESG factors is as objective as possible. We believe an ESG metric is worth considering for compensation if management and the board: The board’s commitment is critical—this must not be a short-term publicity exercise. Amid a cacophony of articles suggesting new approaches for companies considering tying ESG metrics to executive pay, a recent Alex Edmans blog post in the Wall Street Journal takes a contrarian view. The analysis shows that ESG issues are usually the responsibility of the governance committee and sometimes the audit committee. Boards that are thinking about these issues now and taking steps to advance their progress are clearly ahead of the curve. Found insideAccording to Pearl Meyer, a major compensation consulting firm, CEO pay is typically ... to meet various environmental, social and governance (ESG) metrics. At this point, most boards seem to be addressing ESG issues either through current standing committees or at the full board level. In Canada, a 2019 Compensation Governance Partners survey of proxy circulars of 196 companies in the S & P/TSX . And a 2012 study from Harvard Business School says these “high sustainability” companies “are more likely to make executive compensation a function of environmental, social, and external perception metrics.” [5], We believe that most public companies are taking some sort of ESG action. Should Public Company Boards Tie ESG Performance Metrics To CEO / C-Suite Compensation & Incentives? What is your process for board oversight and governance on ESG issues? Professor Edmans, a frequent writer on the topics of finance and executive compensation, has long held that executives should be compensated in long-term shares that can't be sold for 5-7 years . Shareholder proposals in these areas are becoming more prevalent and garnering more support. According to a recent study, investors that collectively manage $17.1 trillion in US-domiciled assets have adopted sustainable investing strategies, which integrate ESG criteria within investment decisions. ESG encompasses many areas, and each industry or sector will have a different set of priorities. Compensation committees currently determining when and how to design ESG-based incentives will need to focus more on impact and readiness of potential metrics and rely less on competitive practice compared to other areas of the executive compensation structure. Those hard numbers help make the evaluation meaningful and communicate to the organization what successful progress looks like. ESG Metrics Gain Prominence. The types of metrics discussed in ESG disclosures are so unique to each organization as to make it nearly impossible to create reliable benchmarks. With such strong board-level and investor focus on the topic, many have asked about the link between ESG and shareholder value. The Ceres report noted previously calls out Alcoa as a shining example—where “20 percent of executive cash compensation is tied to safety, environmental stewardship (including GHG reductions and energy efficiency), and diversity goals”—and Exelon, a Fortune 100 energy company where the executive team is rewarded for “meeting non-financial performance goals, including safety targets, GHG emissions reduction targets, and goals engaging stakeholders to help shape the company’s public policy positions.”, These firms are certainly outliers, yet the Pearl Meyer survey shows that a remarkable number of executives and directors do believe ESG issues have a large role in their companies. Identify the issue as a strategic priority, Understand that elevating one ESG issue may send unintended signals about other issues, Have clarity on an effective strategy and the outcomes that define success, Are committed to maintaining the metric for an extended time period, with durable goals, Are willing to set real, stretch goals for driving change, not easily-achieved goals for publicity, Understand that goals may be missed and is willing to disclose why, Shell committed to carbon footprint reductions in the long-term component of its incentive plan, as well as measuring it annually, McDonalds and Starbucks announced goals focused on Human Capital Management, Clorox and Mondelēz are focused on sustainability and recyclability initiatives (e.g., in packaging); Mondelēz also has metrics for DE&I, A global apparel retailer emphasizes sustainable growing and human rights via sustainably sourced cotton, Chipotle branded itself a “clean food company” and recently announced it would base 10% of its annual executive bonus on multiple dimensions of that mission: racial and gender DE&I, sustainable food sourcing, and accelerated disclosure of a new environmental report, Companies in this sector could focus on reducing carbon emissions with a more climate–friendly fleet, or working with suppliers for sustainable sourcing, manufacturing, and packaging, Companies want to show their commitment on DE&I, and compensation can be an important signaling device, Starbucks & Prudential introduced a mechanism to vary the size of LTI performance-based share awards based on their ability to meet DE&I goals related to representation, Promoting individuals who lead on these issues as well as accelerating their pay trajectories may be more effective than compensation metrics, Many of the pioneers are based in Europe. Vague ESG factors can add to the complexity of remuneration structures, excessive focus on certain ESG metrics could hinder sustainability objectives (e.g. While this generally provides a clear-cut way to measure . What engagement have you done with stakeholders to determine these? Found inside – Page 42... of executive compensation with ESG ratings and customer satisfaction metrics are more likely to outperform their counterparts over the long-term. Another approach is to use ESG factors as a modifier in executive compensation, he added. Found inside – Page 23ESG comprises Environmental, Social and Governance dimensions in indexes and ratings. ... executive compensation, ethics, and employee compensation. Investors are keenly interested in understanding executive compensation programs, especially how these pay programs tie in with and support major elements of a company's business strategy. Incorporating ESG measures into executive compensation plans has been saved, Incorporating ESG measures into executive compensation plans has been removed, An Article Titled Incorporating ESG measures into executive compensation plans already exists in Saved items. The sectors with the highest percentage of companies incorporating ESG metrics in executive compensation are the energy and utilities sectors, with 59% and 64% of companies incorporating ESG metrics. These are real risks, which is why companies should walk before they run: First track the incentive for a while, then incorporate it into compensation. With increased regulatory attention on ESG, continued investor focus, the potential for a new Sustainability Standards Board on the horizon, and the US regulatory agenda taking shape, it is clear that companies will need to be thoughtful about their ESG strategy and how it is communicated to stakeholders. Even if you start with qualitative assessments, it’s important to use objective metrics to inform the assessments. Historically, executive compensation has been linked to purely financial metrics. ESG issues are becoming important to the corporate brand, for employees as well as customers. Dow expanded ESG accountability across the company by adding ESG metrics to our Executive Compensation and employee Performance Award programs. JetBlue announced a series of new sustainability initiatives, adding a new link between executive compensation and ESG performance, as well as introducing new emissions reduction targets, including a goal to achieve net zero carbon emissions by 2040. Of those companies that have used ESG measures in their annual incentive plan, the most common ESG category falls under the “S,” Social, followed by “E,” Environmental. In that same survey, most companies with ESG incentives use them within the annual bonus only; fewer than 10% had adopted them in a substantial way in LTI. Companies are focusing "on a stronger alignment of executive compensation plans and ESG priorities, particularly with climate change and environmental measures . . Where a company lands on this continuum may be driven in part by the size of the enterprise and/or its industry. Trane Technologies (NYSE: TT), a global climate innovator, announced today that it has revised its executive and senior leader incentive plan to link directly to Environmental, Social and Governance (ESG) metrics that align with the company's bold 2030 Sustainability Commitments . They began holding themselves accountable, and the board oversaw the process to make sure it happened. Create a methodology by balancing various metrics (both leading and lagging) to determine nonfinancial metrics linked to ESG. Such measures include the achievement of revenue, EBIT/EBITDA, EPS, or cash flow goals. The shareholder community has turned its attention . In some cases, the metrics were added as one-time modifiers to individual payouts, and in many cases — particularly for D&I — the . Linking ESG metrics to executive pay is a powerful way to drive change, but compensation is a sensitive instrument, so we urge caution. Communicating a company’s ESG story can be done effectively by providing high-quality, consistent, reliable disclosure. With contributions by distinguished scholars from legal and financial backgrounds, this collection of essays analyses four main topics in the corporate governance of European listed firms: (i) board structure, composition and functioning ... The modest weighting may be due to the amount of practical control and influence an executive team may have over the goal. Incorporating ESG metrics into executives' incentive plans requires clear objectives, assessing your level of readiness and selecting elements that support business goals. Beginning in 2017, public companies in Europe with more than 500 employees will be required to report on several nonfinancial metrics related to the environment and their social and employment policies. Found inside – Page 6The results show an increasing use of these metrics by banks. ... The linking of remuneration to ESG performance can be analysed from a double point of view ... Including ESG metrics in executive pay packages is a tangible way to close the say-do gap for a skeptical audience, but is not without its challenges. While the full board may take the lead in the oversight of the company’s strategy, including the integration and execution of ESG, the audit, compensation, and nominating and governance committees each have an oversight role as it relates to ESG and executive compensation, requiring them to carefully coordinate when executive incentives are used to drive ESG outcomes and oversee the reliability of information used to determine success. What if management misses its targets and take a hit on pay? More organizations are proceeding tactfully when it comes to designing incentive plans for executives, according to Mercer's "2019 ESG Spot Survey." Perhaps due to growing expectations, 51% of companies are either using or considering using environmental, social and governance (ESG) metrics when designing their executive compensation packages to hold leadership accountable for the . ESG goals almost always require multi-year efforts. Many companies are taking the customer, employee, and/or shareholder interest in ESG seriously and identifying those long-standing activities already taking place in their organizations that fall into the ESG category.
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