It’s that time of year again. With the holidays looming, are you prepared for the festivities? When it comes to celebrations, we typically see people falling into two categories. You’re either:
- The over-prepared type – you know what you’re buying Aunt Sue, all your gifts are sitting in your Amazon basket and you have the grocery list for the big meal stuck on the fridge; or
- You’re the opposite – still reminiscing about summer, leaving planning until the last minute, and likely to rush out to panic buy the last toys off the shelves.
And what is true for festive preparations can sometimes be true in relation to wrapping up your year in reward and preparing for the year to come. Whichever category you fall into, there are three things we believe you should consider in order to ensure investor and governance requirements – as well as those of our other stakeholders – are met.
1. Learn from last year
2018 was not a regular policy review year, and only a third of FTSE 100 companies tabled a new policy for shareholder approval at the 2018 AGM so big design shifts were not expected. However, a few notable themes emerged, as shown in Figure 1:
- Median salary increases were slightly higher in 2017/2018. The FTSE 100 median increase for CEOs was around 2% but one third of companies continued to freeze salaries, showing that quantum restraint continues.
- Bonus targets were roughly in line with prior year, but actual payouts fell slightly in comparison to 2016/2017 reflecting softer performance at many companies.
- LTI opportunity and vesting levels were generally consistent with the prior year. Performance shares continue to prevail, with one plan based on two or three performance measures most common (traditionally one of which is market-based and at least one profit linked). Restricted stock and share options remain rare.
Figure 1: 2018 UK Market Trends
*Average median base salary increases across the following groups: CEO/Executive Chairman, Executives reporting to CEO/Executive Chairman, Executives reporting to Level 2, Executives reporting to Level 3
What went down well, and what didn’t?
Those pigs in blankets were a hit last year but the healthy lentil dip was left sitting for hours…it’s worth considering what to do more – or less – of this year.
Proxy agency recommendations were slightly more negative in 2018 than in 2017 with a greater number of “Contentious For“ recommendations. The number of FTSE 100 companies receiving votes of less than 90% on remuneration resolutions also doubled from 8% to 17%.
Most companies, however, had similar results to prior years – median voting outturns remained high with remuneration report voting outcomes of 93% (91% for policy).
The top reasons for contention did not change much either, although some new sub-themes emerged. Areas of contention were:
- Bonus target disclosure on personal objectives in particular, including the weighting of each individual measure, targets set and achievement against each (and areas for improvement when not met in full). This granular focus on personal target disclosure was not something we had seen much before this year.
- Lack of disclosure related to the stretch in targets, with investors questioning the rigour of the target-setting process.
- Year-on-year pay increases in the context of already-competitive quantum, even if in line with broader workforce increases.
2. Do you need to spice things up?
This AGM season saw a trickle of change away from the norm with four notable examples of companies introducing substantial changes to their remuneration frameworks – two companies introduced new restricted share plans, one simplified their arrangements to a single fixed pay element, combined with bonus and a co-investment plan, and another proposed a single incentive plan with a high level of deferral.
Although ISS and shareholder reactions varied, provision of strong rationale for why these changes were right for the business was of key importance in their gaining approval. It is worth considering whether substantial change is required at your organisation even if out of step with market “norms”.
3. Keep up with the competition
Take a look at those leading the way. The revised UK Corporate Governance Code (“the Code”) applies from 1 January 2019 and includes new provisions relating to executive compensation structures, broadening the RemCo remit and seeking to strengthen the employee voice. So which companies are ahead of the game in terms of their response?
Figure 2: What are other companies doing when it comes to the key Code requirements?
- Post-employment shareholding guidelines: 10% of FTSE 100 companies now operate post-employment shareholding guidelines following pressure from the IA, LGIM and Hermes, with the majority having a post-employment holding period of two years. Typically, the requirement is set at either 50% of the normal shareholding guideline for two years, or 100% for one year followed by 50% for the following year.
- LTI holding periods: The Code states that LTI awards should be subject to a total vesting and holding period of five years or more, to support alignment with long-term shareholder interests. Of the 110 LTIs in operation within the FTSE 100, 89 have a total vesting and holding period of five years or more, satisfying the Code requirement – leaving 21 that do not, although we expect this number to decrease in the coming year.
- Executive director pension level alignment: The Code states that pension contribution rates for executive directors should be aligned with those among the wider workforce. 18 FTSE 100 companies reduced executive pension contributions in 2018, although 14 of these were for new hires only. Despite the number of companies reducing their pension provision practices, there was little change to the median employer contribution (which remains at 25% of salary for the CEO). Considering just those companies that have reduced pension this year, for new hires the median pension contribution has decreased to 15%.
We expect to see more of the above next year and especially in 2020 (the next policy renewal year for many companies), but the Code provisions are ‘comply or explain’ and we expect some will choose to explain where they feel the provisions do not fit their culture, strategy or position in the business cycle. That said, some provisions (executive pension level alignment, for example) may be more difficult to ‘explain’ than others.
New reporting regulations mandating employee engagement and disclosure of the CEO Pay Ratio have also got companies moving. Around 7% of FTSE 250 companies disclosed a CEO pay ratio early, with 15 FTSE 100 companies disclosing early on a voluntary basis. Unsurprisingly, those that disclosed before the regulations were finalised used a variety of methodologies, although this will clearly change now the required methods are known. These companies also tended to be those that were keen to “tell their story”, either because the ratio was high or because they wanted to be leaders in this space.
In response to a significant number of questions from clients on these topics, we recently ran an Executive Pay Matters UK pulse survey to gather early insights into how companies are responding. If you participated in this survey, thank you – we will share the findings with you by the end of November.
The Willis Towers Watson View
With November ticking by and the holidays almost here it’s time to get ready to wrap up 2018 and look to 2019 and – in many cases – start thinking about policy review again. Even if you’re not the type to do your festive shopping early, we encourage you to:
- Learn your lessons from the year just ending – while there was less activity than in prior years, there were some helpful indications of where the market – and shareholders – are heading
- Consider whether more significant change might help – as always, be guided by your strategy and culture. It is true that acceptable practice is broadening somewhat, and some companies have succeeded in doing relatively novel things; and finally
- Understand the implications of the new Code and regulatory requirements. How can you turn them into positives for your company, and an opportunity to tell your story differently?