Study Shows CEO Pay Decline as It Tracks Performance

A Focus on Long-Term Performance

As uncertainty spread in the market, compensation committees once again began to prefer rewarding CEOs by shifting to increased emphasis on longer-term performance. In fact, performance-based awards accounted for 33% of total compensation—the highest level ever. While the prevalence of long-term performance plans continued to rise to demonstrate a compelling pay-and-performance connection, companies also realized the importance of maintaining some retentive pay element as restricted stock remained at 25% of the total long-term incentive value.

Take-home Pay

Although CEO pay at the largest companies was restrained, stagnant stock price growth in 2015 didn’t necessarily translate into poor gains in realized pay from exercises of stock options and the vesting of restricted stock and performance equity; these typically related to awards granted three to five years ago. The momentum on gains from historically high long-term incentive grants may have slowed, but median realized (“take-home”) long-term incentive values rose a solid 18% to $9.4 million. Therefore, CEOs may not be “losing” as much as recent award levels may have indicated.

Engagement with Shareholders

Declining stock prices are often accompanied by increasing shareholder pressures and proxy advisory scrutiny. In countering these headwinds, many companies boosted efforts to maintain high levels of support in say-on-pay votes. While 90% of companies continued to receive high approval ratings, various efforts have been required to do so, including increased shareholder outreach, ongoing dialogue with institutional shareholders and proxy advisors to understand desired pay practices, enhanced proxy disclosure, and rigorous testing of the shareholder landscape.
Engaging with and responding to shareholders will be equally, if not more, important in a stalled or depressed market as companies begin to rationalize pay programs that are aligned with the longer-term business strategy rather than “checking the boxes” with proxy advisory groups. In 2015, shareholder outreach continued to gain momentum as companies engaged investors throughout the year to discuss pay issues within the context of the economic climate. We may see a further increase in the use of performance awards and a TSR metric in the next several years from late adopters responding to such pressures.

What’s next?

Aligning pay and performance within the context of economic uncertainty is tricky and entails some difficult judgments: Do you cater to shareholders or the longer-term business strategy where their respective priorities diverge? A balance may require some tough decisions, as not all pay-program changes may fare well with shareholders and proxy advisory groups. Coordinating the pay program with the intended longer-term business strategy will require some trust on the part of shareholders; companies need to be cautious about making pay-program changes that are all about “checking the box” in a down market.

Whatever the compensation committee’s decisions on CEO pay, it should be prepared to explain and justify—in clear terms that align with both economic conditions and the company strategy—why the committee arrived at such decisions.