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Article | Executive Pay Matters

At the crossroads of goals and measurable action is accountability

Governance Advisory Services |Executive Compensation|Financial, Executive and Professional Risks (FINEX)
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By Don Delves | August 17, 2018

Accountability is one of the four overarching principles of executive compensation that boards, management and advisors can use to assess the effectiveness and design of executive compensation programs.

Accountability is one of the four overarching principles of executive compensation. When we interviewed hundreds of board members on the key roles and functions of executive compensation, accountability was one of the most common and important terms they mentioned. Board members felt that executive compensation – and incentive plans in particular  – were a key way to set goals and objectives and make management accountable to them.

Most organizations require strong accountability systems to operate effectively and efficiently. Annual and long-term incentive programs are perhaps the most important and powerful mechanism an organization has to communicate vision and direction, quantify success, set objectives, assess performance, and deliver rewards and consequences.

In an incentive system with a high level of accountability, performance measures are clearly defined, and performance goals and ranges are clearly established and communicated at the beginning of each performance cycle. Incentive plan participants must understand how performance is measured and how it will be evaluated. Actual performance relative to objectives is communicated at regular intervals, and incentive payouts are clearly tied to the degree of performance achieved.

Another key aspect of accountability is the degree to which the company and board allow adjustments to actual results when they assess performance and determine incentive awards. A performance system can lose its accountability if too many adjustments are allowed, or if the adjustments appear to give management a “pass” for poor performance. Conversely, adjustments that fail to give management credit for exceptional performance can also affect accountability. The point is for the board to use the compensation system to accurately and honestly assess performance and hold management accountable for achieving or not achieving agreed-to objectives for the organization.

Compensation systems are also a key mechanism senior management uses to cascade goals and objectives down through the entire organization. When properly designed and administered, compensation systems help create a structure and culture of accountability that keeps the whole organization focused and on track towards a common set of objectives.

Annual and long-term incentives are not the only elements of a compensation system that promote accountability. Base salaries should reflect relative levels of accountability and responsibility in the organization. Executive and management positions with greater accountability and responsibility are typically paid higher salaries and have greater incentive opportunities. Pay level increases should at least partially reflect an individual taking on more accountability for the performance and success of the organization.

So, along with purpose, alignment and engagement, accountability is a core, overarching principle that boards, management and advisors can use to assess the effectiveness and design of executive compensation programs. These four overarching principles provide a shorthand terminology for capturing and discussing the complex array of competing objectives we are always trying to address in designing and administering compensation programs.

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