Investors call for major rethink on boardroom pay

Companies must do more to align executive remuneration with long-term business performance, a report from Hermes Equity Ownership Services and the National Association of Pension Funds says.

The organisations, in conjunction with BT Pension Scheme, RPMI Railpen Investments and USS Investment Management, called for “a major rethink” on how firms approach reward packages in the run up to this year’s remuneration committee votes.

The report sets out four principles to encourage companies to change their reward structures as they begin to think ahead to the introduction of the binding vote on remuneration policy next year.

They include:

1. Management should make a material long-term investment in shares of the businesses they manage. The report claims shares granted to executive directors should be owned for at least 10 years, whether or not the executive is still in post. This would encourage succession planning and reduce the need for ‘golden hellos’ for new directors, it adds.

1. Pay should be aligned to long-termsuccess and the desired corporate culturethroughout the organisation. Pay awards and pensions arrangements should be consistent throughout the organisation and, if not, there should be a justifiable explanation, it believes.

1. Pay schemes should be simple,understandable for both investors and executives, and ensure that rewardsreflect long-term returns to shareholders. For example, large awards should not be paid where returns to shareholders are below the cost of capital.

1. Remuneration committees shouldjustify how their decisions will help deliver long-termbusiness success. The report argues committees should consider scaling back or eliminating awards where targets have been met by, for example, aggressive accounting or high leverage, or if the company has suffered reputational damage.

Hermes Equity Ownership Services head of UK engagement Jennifer Walmsley said it “was clear” through talks with FTSE 100 companies and  large pension schemes from the UK and overseas that there was a growing desire to re-evaluate current remuneration arrangements and embrace a new approach.

She added: “Flawed remuneration schemes can create inappropriate incentives with even the best designed schemes potentially resulting in outcomes that do not match up to a deeper analysis of company performance.”

“By publishing these principles we hope to encourage companies to reconsider their current remuneration arrangements to better align the interests of executives and shareholders, and ultimately enable companies to position themselves for future success.”