How Boards Are Reimagining Compensation As A Driver Of Strategy

Redefining the compensation committee
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More and more directors are saying their companies have adjusted pay packages to help attract and retain talent.

Board directors are helping to drive growth and deliver value for shareholders, but they face a tight labor market, persistent inflationary pressures, rising interest rates and concerns about a potential recession. These conditions have further elevated the importance of compensation for employees and executives. More organizations are adjusting compensation packages to support recruitment and retention, and boards have a complex task in helping ensure compensation aligns with business objectives and stakeholder expectations.

Competing for Talent

The 2022 BDO Fall Board Pulse Survey polled 247 public company directors about their top priorities and challenges. Nearly three-quarters of directors (72%) say their company has adjusted compensation packages to help attract and retain talent.

A combination of low unemployment, a high number of job postings and rapid wage growth has put employers in a difficult position, especially as many companies have seen increased turnover. Coupled with rising inflation, compensation packages have come under scrutiny as a main lever for recruitment and retention.

Although the talent shortage has affected some industry sectors more than others, all businesses face pressure to ensure competitive compensation levels. Some workers have changed industries to pursue roles that offer better wages and benefits. In return, businesses have increasingly felt pressure to offer sign-on bonuses for both new employees and senior management roles, along with off-cycle salary adjustments for existing employees.

Right behind increasing liquidity (28%), nearly a quarter of directors (24%) say their company has changed corporate strategy on compensation specifically to help address inflation and rising interest rates. After years of historically low interest rates, the Federal Reserve has raised rates at five consecutive meetings in hopes of counteracting inflation. That bumped the target range for the federal funds rate to the highest level since early 2008, which has significantly raised the cost of borrowing for businesses and consumers. Rising prices for food, utilities, gas are adding to the stress on both American workers and their employers.

That said, compensation is not the only means to support recruitment and retention. As workers continue to seek more job flexibility, 56% of directors say their company is re-imagining remote work strategies, and 38% say they are enhancing employee benefits. There is no one-size-fits-all solution for a challenging confluence of economic factors and shifting worker preferences. Nevertheless, providing a competitive package of compensation and benefits, along with flexibility to include remote and hybrid work options, can help address the needs of current and prospective employees.

Evolving Executive Compensation

Organizations are increasingly seeking to ensure executive compensation aligns with overall business objectives and stakeholder expectations. As noted in BDO’s 2022 Shareholder Meeting Agenda, public companies have to strike a balance between offering competitive compensation and gaining shareholder approval. Scrutiny of executive compensation has increased, and “say on pay” votes continue to be a common proposal tactic used by shareholders to align wages with performance.

On executive compensation, two-thirds of directors (67%) say they are aligning performance goals with the probability of achievement. Compensation committees review threshold and maximum performance goals on an annual basis, which presents an opportunity to adjust payouts in line with changing strategic needs and shareholder priorities.

Other mechanisms being used by compensation committees include:

• 36%: Shifting incentive compensation from a periodic bonus structure to longer-term equity grants.

• 34%: Enhancing compensation communication and disclosures.

• 27%: Expanding the oversight role of the compensation committee.

• 24%: Establishing regular communication channels with key shareholders.

• 19%: Increasingly tying annual and/or long-term incentives to ESG metrics.

Those tactics reflect evolving priorities for compensation committees, including aligning compensation with strategic business priorities—which increasingly include ESG considerations—assessing factors for recruitment and retention beyond compensation, and navigating reporting and disclosure needs.

The reporting and disclosure requirements have increased this year as well. In August, the SEC announced the adoption of “pay versus performance” rules, which require registrants to provide expanded information describing how executive compensation relates to financial performance measures for the five most recently completed fiscal years. The enhanced disclosures take effect this year.

Looking Ahead

Some of the factors contributing to the challenging labor market may be easing during the months ahead, as noted in an August report from the Kansas City Fed. Job vacancies are likely to decline with lower expectations for growth in the coming months, and rate increases should help ease inflation. The United Nations Conference on Trade and Development also used its annual economic outlook report to suggest the Fed and other central banks halt rate increases to help avoid a global recession.

As economic conditions evolve, boards are encouraged to work with management teams to ensure that strategies for recruitment and retention align with business needs and priorities. Compensation committees have a pivotal role to play, particularly in making sure executive compensation is linked to performance and meeting the evolving disclosure requirements. As shareholders and stakeholders increase their scrutiny of compensation, it presents an opportunity for heightened engagement with these groups and expanded disclosure so that changes in compensation strategies are well understood in the context of the dynamic conditions companies are navigating.

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