Remuneration committees should ensure they do not make claims which cannot be substantiated due to flawed or oversimplified benchmark practices, warns John Egan, chairman of Egan Associates and a leading adviser on executive and board remuneration.
He says it is not unusual for remuneration benchmarking to cause conflicts between the board and management after both seek information and advice from different providers.
To illustrate possible conflicts that may arise in such a situation, Egan Associates analysed the fixed remuneration and total annual remuneration (including annual incentive payments) of six CFOs in different listed companies based on:
- The population of the ranked sample (either ASX 21-50, 51-100 or 101-200).
- Market capitalisation.
- Total assets.
It found that using information relating to an organisation’s relative rank on the ASX can be unhelpful and achieve vastly different results to those obtained using other more specific filters. Using a customised comparator group had the potential to exacerbate this effect.
“Remuneration consultants will apply more than one lens when conducting a remuneration review, taking the most appropriate metrics for each organisation into account to obtain a well-grounded recommendation,” says Egan.
“Benchmarking will often be overlaid by the application of further lenses, including organisations whose operations are primarily Australasian as distinct from substantially international, or organisations in a comparable industry sector.”
In discussions with both management and members of remuneration committees, Egan Associates has also observed a significant number of other challenges arising from:
- Varying perspectives regarding the most relevant benchmark sample, which may be companies with comparable revenues or assets under management or may be industry specific, a customised company benchmark, a broad ASX index or a blend of local and international companies.
- A different interpretation of the same data.
- Omissions in clarifying the assumptions used.
- Varying interpretations when management or the board seek a prospective as distinct from a retrospective view of market award levels.
- A blurring in some instances of whether payments under a retirement plan or legacy benefit plans are included or excluded when describing fixed remuneration.
- The basis of allocation of share rights.
- Confusion around awards realised under long-term or annual incentive plans, which are at variance with values reached by accounting treatments and the values of target awards or maximum awards.
- Varying views on the degree of difficulty of long-term incentive plan hurdles.
- Erroneous assumptions that executives receiving fixed remuneration at the median are also receiving annual incentives and long term incentives at the median – they may be receiving incentives at well above or well below the median.
“In interpreting reward data, either developed internally or provided externally, boards need to be assured that the criteria used in sampling is the most relevant for the company,” says Egan.
“Consistency year-to-year on the method of choosing the customised comparator group is also important. Boards must also be cognisant of the fact that the smaller the comparator group, every company that is included or excluded will potentially make a large difference to the resulting analysis.
“It is also necessary for boards to carefully examine total reward, not elements of reward in isolation of the other core components and in this context the three critical ingredients would be: fixed remuneration; annual incentive award outcomes and/or annual incentive award opportunity; and long term incentive award value using a common methodology.”
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