Despite many companies in North America anticipating a decline in shareholder value in 2011, pressures about executive pay by the Occupy movement and a slow-to-recover economy, a majority of companies expect to pay executive bonuses that are as large as or larger than last year’s awards. Additionally, the majority of companies plan to fund this year’s bonuses at or above target levels, reflecting strong operating results, according to the Towers Watson survey.
“Given that many companies have seen strong financial results this year, it’s no surprise that the majority of companies will fund their incentive pools at or above target levels,” says Doug Friske, global head of executive compensation consulting at Towers Watson. “However, for companies that must submit their pay programs to a shareholder vote, the prospect of above-target incentive awards combined with shareholder losses could pose complications and communication challenges as they head into the 2012 proxy season.”
The percentage of compensation committees expected to exercise discretion to override their executive incentive plan formulas has declined sharply from 35% three years ago to only 13% this year, which can be attributed to less market volatility.
"Goal setting was a big challenge, so companies had to revert to taking a more judgmental, discretionary look at what doing the right thing was. Now, it's normal," says Eric Larre, consulting director in Towers Watson's executive compensation business. Of the 13% of committees that expect to change bonuses, 7% said they would increase payment levels significantly, as opposed to decreasing them. "Maybe they think the numbers don't reflect how good a year they had, they might have experienced solid shareholder returns, so it may be perfectly logical, but it would surprise me if you get to the end of bonus season and 7% had exercised positive discretion. That would rock my boat."
The Towers Watson survey of 265 midsize and large organizations found 61% expect their total shareholder return for 2011 to decline or remain flat. Meanwhile, the same number (61%) expect their annual bonus pools for 2011 to be as large or larger than those for 2010. Additionally, 58% expect to fund their annual incentive plans at or above target levels based on their companies’ year-to-date performance. Nearly half (48%) of respondents also expect long-term incentive plans that are tied to explicit performance conditions to be funded at or above target levels based on year-to-date performance.
"I can say that I've been in a couple of boardrooms where they haven't specifically talked about the Occupy movement, but they are sensitive to the overall environment and the potential disconnects and how they're going to pay out on bonuses. There's more sensitivity to do the 'right' thing, vs. possibly what the formulas say," says Larre. Bonus plans operate on a scheduled basis and are planned at the beginning of each year.
Most companies also expect to keep the same incentive plan measures and designs for the next performance cycle. One in four companies are planning to change the design of their long-term incentive plans for 2012, with the vast majority of those increasing the use of performance-based restricted stock and restricted stock/unit grants.
“In the say-on-pay world, the potential for real or perceived disconnects between executive rewards and shareholder value creation puts an even greater premium on proper incentive design, effective executive compensation disclosures and overall shareholder engagement efforts. The complexity of today’s executive incentives, combined with the fact that the timing of incentive payouts and performance can vary between different forms of pay, really puts companies under the gun to make sure they have a clear and compelling rationale behind their programs,” said Friske.
