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May 05, 2020

Companies warned against executive bonuses by UK investor group

Investment Association sharpens focus on corporate reputation and stakeholder value during Covid-19 outbreak

Investors expect UK-listed companies seeking to raise additional capital from shareholders or furloughing employees during the pandemic to rein in executive pay this year to avoid reputational risk for years to come. 

The Investment Association (IA), which represents 250 fund managers with £7.7 tn ($9.4 tn) in assets under management, released remuneration guidance for British companies last week, presenting shareholder expectations on how remuneration committees should weigh the impact of Covid-19 in structuring executive pay arrangements this year. In the guidance, the IA has sharpened its focus on company reputation and stakeholder value.

For companies that have applied for any government support, furloughed staff or capital-raised from shareholders during the pandemic, the executive pay arrangements should reflect those steps, according to the lobby group. ‘Shareholders expect executive remuneration to be aligned with the experience of the company, its employees and its other stakeholders,’ write the authors of the guidance. ‘Failure to do so may have significant reputational ramifications.’  

Showing solidarity with employees proved successful in the previous financial crisis, says Gregg Passin of Mercer, a US human resources consulting firm. ‘How you treat your employees today is certainly how they will treat you tomorrow. What we saw in 2009 and 2010… those organizations that were thoughtful about [executive] compensation and how they treated their employees fared better and recovered [from the financial crisis].’

Bonuses and incentive plans under scrutiny
The IA recommends that issuers that are suspending dividends, in a move to save cash, should review bonuses. It also cautions corporations against offering windfall gains from long-term incentive plans (LTIPs), which could rise significantly in value when stock markets overcome the crisis.

The UK trade body suggests companies that have already decided on bonus amounts or paid them, and have then decided to cut dividends, should consider clawing back bonuses and cutting unpaid bonuses. 

According to the guidance, both companies and shareholders have raised concerns over setting up well-grounded three-year targets and appropriate grant sizes for LTIPs as the pandemic has triggered unprecedented levels of volatility in share prices.

At the current uncertain time, investors suggest postponing LTIP arrangements for up to six months – if possible – to gain clarity on the evolving market environment, although shareholders accept that the decision should depend on the individual circumstances of the company.

The guidance suggests, in cases where firms decide to proceed with LTIPs on their normal timeline, they still have the option of setting performance conditions within the next six months. Setting performance conditions and grant size at the current time is also acceptable as long as the issuer explains the approach it has taken to its shareholders and the executives’ remuneration is consistent with the approach to the general workforce.

For December year-end companies that have already made LTIP grants, if the share price is solely driven by Covid-19 market movements then shareholders will not ask for an adjustment to the grant size, according to the guidance. The IA adds that ‘shareholders will expect the [remuneration] committee to use its discretion to reduce vesting outcomes where windfall gains have been received.’

The guidance’s authors note that companies that have their three-year remuneration policy up for a shareholder vote at their forthcoming AGM should not rewrite them if they spent significant time consulting with their shareholders on the new remuneration policies.

Another end of the spectrum
Given the different impacts on UK issuers, the IA suggests remuneration committees consider the individual circumstances of the company in structuring executive pay plans. 

‘Certain sectors – travel, leisure and non-essential retail, for example – are massively impacted and their revenues dropped to zero very quickly,’ says Richard Belfield, head of Willis Towers Watson’s global biopharma industry team for talent and rewards. ‘At the other end of the spectrum, you have companies – essential retail, medical devices [suppliers] – benefiting from the crisis.’ According to Belfield, those companies not being significantly impacted or benefiting from the crisis are in a wait-and-see position.

He sees a common feature of both ends of the spectrum: UK-listed companies are paying close attention to the views of their investors and proxy agencies around executive pay.

‘Airlines are already making material changes to executive arrangements because of the severity of impact on their business. That might mean a temporary reduction in base salary and reduction in bonuses this year, reducing the value of long-term incentive awards,’ says Belfield.