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Article | Executive Pay Matters

Unanswered questions remain about executive incentives in 2020

Executive Compensation
COVID 19 Coronavirus

By Heather Marshall , Derek Mordente and Megan Boyce | June 1, 2020

Companies consider actions as they fight to keep incentive plans motivating, engaging and acceptable.

In their initial reactions to the COVID-19 pandemic, companies have focused on human capital in the primary areas of employee wellbeing and the safe continuation of operations to meet customer demand where it is. Accordingly, many companies have yet to fully address issues relating to incentives. Some companies made incentive awards before the onset of COVID-19, while others proceeded on a business-as-usual basis with an eye to adjusting when more information was available. Regardless of the approach taken, upcoming compensation committee meetings promise to tackle complex and potentially controversial topics.

Since the COVID-19 crisis began, Willis Towers Watson has been regularly surveying organizations on various related reward and broader human capital issues. We have specifically inquired about incentives (both short and long term) on three separate occasions over the past several months. Our latest survey on the topic, published May 18, 2020, covered 681 organizations across a range of industries in North America. Below is a summary of what they are doing and considering as their areas of focus evolve, and the next round of compensation committee meetings approaches.

Annual incentives

Companies are treating annual incentive plan participants on a broadly consistent basis

The majority of survey respondents (74%) are proceeding with an annual incentive plan that is broadly consistent with last year’s, with a minority of companies (12%) indicating they have made more substantive changes. A small number of companies (5%) indicated that as a result of COVID-19 they suspended their plan entirely for the year.

In our experience working with clients, actions are more likely to be observed in the harder-hit sectors, where there is more pronounced misalignment of goals and metrics with business realities or cash constraints, than in sectors less impacted which are afforded the benefit of a more conservative approach.

Among those respondents with incentive plans, one in six report they have taken action, and over half are planning or considering changes. The most common responses include planning for discretion at year-end, adjusting previously approved goals, changing performance metrics, delaying goal setting, widening ranges and moving to a purely discretionary plan. Most of these are actions being considered and are likely to be topics of discussion at upcoming compensation committee meetings over the coming weeks. The prevailing actions that have been taken, are planned or are under consideration are shown in Exhibit 1.

Figure 1. Annual incentive plan anticipated actions
Figure 1. Annual incentive plan anticipated actions

(% of companies that are operating an annual incentive plan for executives this year)

The most common response has remained consistent since we started surveying incentive plan actions: Plan for discretion. This is an important discussion to have ahead of time to ensure the appropriate accruals are happening throughout the year. Many companies either approved their annual incentive plans prior to the full global onset of COVID-19 or decided to proceed on a business-as-usual basis recognizing the near impossibility of goal setting in the current environment. As a result, many plans are tracking below threshold, which may not reflect the efforts being taken by participants, including but not limited to executives. Despite this, we are still not seeing many companies adjusting previously approved goals reflecting the continuing uncertainty.

Where more proactive action is happening, we find the following:

  • When goal setting has been delayed, most companies anticipate finalizing goals during Q2.
  • When target bonus award values have been or could be reduced, it is typically by less than 50%, although around 15% of those making/planning reductions might make larger reductions.
  • When performance periods are being modified, practice is mixed with a slight bias toward using two six-month periods for the 2020 performance year.

Many companies' focus has changed significantly during COVID

For many companies, another significant reason either to consider discretion in the annual incentive plan or to move to a purely discretionary one is the diminished relevance of the performance metrics established at the start of the performance period. While in a “typical” year, the organizational focus may be on top-line sales, if customers are not buying, that focus is pivoting to areas more within participants’ control, such as margin, cost management, cash flow and liquidity.

A minority of companies (26%) indicated that they have made changes to performance metrics or are planning or considering changes. Profit, top-line and earnings metrics were the most commonly observed to have a reduction in goal level. Where companies added new metrics, the most common included human capital metrics, nonfinancial metrics such as milestones or environment- or employee-related goals — the “E” and the “S” in ESG (environment, social and governance) — individual performance, cash and efficiency metrics.

Figure 2: Changes to performance metric usage in 2020 - part A

Figure 2: Changes to performance metric usage in 2020 - part B
Figure 2: Changes to performance metric usage in 2020

(% of companies that have changed or are planning/considering a change to their performance metrics this year)

We expect that the use of human capital metrics may increase more rapidly following this pandemic, as boards and investors become more acutely aware of the importance of effective human capital management. This is perhaps an early sign of bigger things to come. (View a replay of our recent webinar discussing the role of the compensation committee in human capital governance and read our article on general ESG issues.) 

With so much uncertainty, how do we avoid paying too much — or too little?

A very small number of companies responded that annual incentive guarantees (7%) or caps (12%) may be used. Guarantees are most likely to be set at threshold (35% to 40%) or target (25%), with caps most likely to be set at target (one-third) or between target and maximum (40% to 45%). The most frequently cited reason by over half of respondents for applying a cap is to avoid any inconsistency a high outcome might result in with the broader workforce experience.

A related consideration is the affordability of cash bonuses in the current environment. A minority of companies (11%) anticipate that some or all of the earned bonus will be delivered in equity, ranging all the way from less than a quarter to 100%. This practice is much more likely to be heavily influenced by a company’s cash flow.

Long-term incentives

With uncertainty about vesting and depressed stock prices, there is renewed interest in one-time awards

Long-term incentives represent a significant investment for companies — a way to deliver meaningful value while aligning recipients’ interests with those of shareholders and focusing on key performance priorities. Generally speaking, companies have a limited appetite for adjusting long-term incentive awards, often reflecting both the fact that they are targeted at a much smaller group and the significant disdain among proxy advisors and institutional investors for such actions.

The prevailing actions that companies report have been taken, are planned or are under consideration are shown in Figure 3.

Exhibit 3: Long-term incentive plan anticipated actions
Figure 3: Long-term incentive plan anticipated actions 

(% of companies that are operating a long-term incentive plan for executives this year)

Around a quarter of companies indicate that they are considering the use of supplemental awards — either for select individuals (28%) or broader populations (19%) — likely reflecting concerns around retention with projected low levels of vesting and depressed award values in the current environment.

More specifically pertaining to performance-based long-term incentive plans, we see some similar patterns to annual incentives. One in five organizations has already taken action, but almost 60% of companies are considering action in at least one area, most commonly intending to consider discretion on vesting, changing performance metrics, adjusting previously approved goals or delaying goal setting altogether.

The need for companies to protect investments in their people and, by extension, their long-term success, is likely to be magnified in the hardest hit sectors balanced with the market realities of alternative roles available to them as they seek to restore stability and better position themselves for a post-crisis environment.

Figure 4: Performance-based long-term incentive anticipated actions
Figure 4: Performance-based long-term incentive anticipated actions

(% of companies that are operating a performance-based long-term incentive plan for executives this year)

Start thinking now about disclosure

Any actions that impact the named executive officers will require disclosure in the compensation discussion and analysis (CD&A) at year-end. As compensation committees consider the merits of potential actions, it can also be helpful to start thinking about how to disclose those actions to your shareholders. Proxy advisors have acknowledged they will likely have to use more judgement than in prior years; therefore, transparent and compelling disclosure will be critical. Contextualizing potential actions through an external lens may help inform discussions and decision making. Read our collaborative guide to impactful CD&As from 2017, due to be updated over the summer to reflect COVID-19 specific considerations, and a summary of proxy advisor guidance issued to date.


These data are a summary of findings from our recent May 11 – 13 flash survey, Returning to the Workplace: Pay practices, incentives and the employee experience. Full detailed results are available to participants now.

Authors

Senior Director, Executive Compensation (New York)

Director, Executive Compensation (New York)

Analyst, Rewards (New York)

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