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22 July 2019
In May 2019, comp consultant Mercer conducted a spot survey of 135 companies, looking at the prevalence and types of ESG (environmental, social and governance) metrics used in incentive compensation plans, including metrics related to the environment, employee engagement and culture, and diversity and inclusion. The survey found that 30% of respondents used ESG metrics in their incentive plans and 21% were considering using them. Mercer observes that with the "growing expectations for organizations to operate in an environmentally and socially conscious way, [ESG] incentive plan metrics are increasingly being considered as effective tools to reinforce positive actions."
Of the respondents, 85 were based in the U.S. and 50 in Canada, and 93 were public, 33 private and nine non-profit or public sector. Participants included companies in a variety of industries, including energy (20%), manufacturing (13%), consumer goods (10%), mining (8%), banking/financial services (8%), life sciences and high tech (each 6%). Mercer noted that the survey results might be skewed somewhat because of the high proportion of companies in the energy sector, which tends to use ESG metrics more than others (52%). (Notably, 82% of mining and metals companies also use ESG metrics in their plans.) ESG metrics were used by 28% of respondents in their short-term incentive plans, most commonly environmental metrics (66%), followed by social metrics (employee engagement and culture) (37%), governance (diversity/inclusion) (18%) and other (most commonly employee health and safety) (13%). ESG metrics were used in only 9% of long-term incentive plans, again most commonly environmental metrics (67%) followed by social (58%) and 17% for governance. In the energy and metals and mining sectors, 96% used an environmental metric, compared to 22% for other sectors, while 76% of other sectors used a social metric, compared to only 22% for energy and mining.
Efforts to link ESG factors to executive comp have been a common thread in a number of shareholder proposals. According to Alliance Advisors, as of March 31, there were 19 shareholder proposals that sought to link various social issues to compensation. For example, a union pension fund requested that the comp committee of an operator of private prisons and immigrant detention centers incorporate into its senior executive pay arrangements "respect for inmate and detainee human rights." A socially responsible investment fund submitted proposals requesting that companies' comp committees prepare reports "assessing the feasibility of integrating sustainability metrics, including metrics regarding diversity among senior executives, into performance measures or vesting conditions that may apply to senior executives under the Company's compensation plans or arrangements." The proponent cited studies suggesting that companies that integrate ESG factors into business strategy "reduce reputational, legal, and regulatory risks and improve long-term performance."
James McRitchie submitted at least one proposal requesting that the company publish a report "assessing the feasibility of integrating additional cyber security and data privacy metrics into the performance measures of senior executives" under the company's compensation incentive plans. (As discussed in this PubCo post, McRitchie and his wife—both members of the Chevedden group and prolific and persistent proponents of shareholder proposals—decided last year to broaden their focus beyond governance issues and to turn their attention to shareholder proposals on environmental, social and political spending issue.) A similar proposal was submitted to a different company by a socially responsible investment fund. A number of big pharmas faced proposals from Oxfam and various religious orders urging their comp committees to report annually "on the extent to which risks related to public concern over drug pricing strategies are integrated into [these companies'] incentive compensation policies, plans and programs ("arrangements") for senior executives. The report should include, but need not be limited to, discussion of whether (i) incentive compensation arrangements reward, or not penalize, senior executives for adopting pricing strategies, or making and honoring commitments about pricing, that incorporate public concern regarding prescription drug prices; and (ii) such concern is considered when setting financial targets for incentive compensation arrangements."
Mercer also found that, in short-term incentive plans, ESG factors were assigned a weight of 5% or less in 33% of the cases, with 24% weighted at 5% to 10% and 22% weighted at 10% to 25%. For 15% of respondents, no weight at all was assigned to ESG factors, and only 6% weighted ESG factors more 25%. Compared to other ESG metrics, Mercer found, environmental metrics "are more likely to be assigned a weighting of more than 10% of the overall short-term incentive plan (36%)." For short-term plans, most ESG metrics (71%) were quantitative; only metrics related to diversity and inclusion were primarily qualitative (57%). For the most part, ESG incentives applied to all plan participants (75%); in only 18% of the cases were ESG metrics limited to senior executives. However, for social metrics, 29% were limited to senior executives and 43% of governance metrics were so limited.
With regard to long-term incentive plans, Mercer found that 33% of ESG metrics were not assigned any weight and 33% were assigned weights between 5% and 10%; 17% were weighted at levels over 25%. Of the ESG metrics, 38% of environmental metrics were assigned no weight and 38% were weighted between 5% and 10%. With regard to social metrics, 43% were weighted between 5% and 10% and 29% weighted at less than 5%. With regard to all ESG metrics in long-term plans, 39% were qualitative and 61% were quantitative, with 75% or environmental metrics being quantitative. As in short-term plans, most ESG metrics applied to all plan participants (72%), although 43% of social metrics were limited to senior executives.
For further information on this topic please contact Cydney Posner at Cooley LLP by telephone (+1 415 693 2000) or email (email@example.com). The Cooley LLP website can be accessed at www.cooley.com.
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