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The Pearl Meyer survey, On Point: Looking Ahead to Executive Pay Practices in 2017 reveals that companies are nervous about adapting to new guidelines issued by the Securities and Exchange Commission stipulating that pay ratios for executive compensation must be compared to the company’s median level of employee salaries. Companies are preparing for the CEO pay ratio rule, which takes effect on Jan. 1, 2018, and 86% surveyed said they are concerned about how their employees will react when they compare their compensation to that of the CEO and the executive team, and most of all, to that of other colleagues. Moreover, 61% of respondents said they are “not confident” or “are concerned” about how their HR managers and line managers will handle employee questions about the comparisons.
Sharon Podstupka, a principal at Pearl Meyer who specializes in communication, warns that the management teams at many companies may have a wide range of issues to deal with resulting from the new rule. “The first and foremost effect is going to be the media attention. The pay ratio is going to be a lightning rod for news stories about pay equality,” she says.
Secondly, it will trigger an “increased awareness by the broad workforce that salaries are public information, and not just CEO and executive pay, but now the salaries of their co-workers.” That will lead the rank-and-file employees to “start questioning what [their] value to a company is,” Podstupka says. If the median income is $50,000, employees will wonder why their salary is below it or only $10,000 above it. It could also generate more pressure to raise rank-and-file pay.
In a worst-case scenario, Podstupka says fallout from the rule’s pay disclosures could potentially contribute to business disruption. “If employees don’t trust they’re being paid fairly, it could lead to increased turnover or low morale,” which could damage a company’s bottom line, she says.
Given the disruption that could surface, companies need to be proactive and prepare a strategy to best handle the situation. Waiting until it happens is not wise. “Companies must determine how much they’re going to say above and beyond what’s required and how to put these numbers into context,” Podstupka advises.
To make sure companies have a unified and consistent approach, they “should be preparing HR and line managers with some kind of employee response kit,” urges Podstupka. HR and other leaders should be able to explain “what the median employee pay represents and why it doesn’t—or, in limited cases, does—make good sense to compare one’s own pay to that figure. Having prepared talking points and frequently asked questions will help ensure those messages are consistent.”
Given that companies still have a year before all of this data goes public, the waiting period provides an opportunity to clarify and refine their compensation strategies. In the intervening time period, firms can brief staff about “their compensation philosophy, how we approach pay at our company, how we reward people, and how you can impact your incentive opportunities,” Podstupka explains.
Regarding the new SEC guidelines, proactive communication, anticipating any problems and developing a defined strategy can help companies grapple with and anticipate most issues that arise.
Most executives can expect moderate base salary increases, bonus payouts on par with last year and changes to the mix of long-term incentives (LTI) that make up their pay plans, according to the survey. Most companies expect to increase base salaries by 3%. Furthermore, 47% of companies expect annual bonuses to be the same as last year and 40% say they may modify their LTI performance metrics.
There is indication that boards may be spending more time developing incentive metrics and setting goals, as 44% of respondents said the board’s involvement had increased. One reason for the increased time commitment might be that 60% of companies indicated that it is somewhat difficult (about 45%) or difficult (15%) for management and comp committees to agree to incentive targets.
New SEC guidelines are having a minimal impact on most companies’ ability to develop long-term incentive plans. According to the survey, nearly two out of three respondents (63%) were satisfied with the direction of their LTIs. The majority of firms don’t expect any disruption regarding crafting their long-term incentive plans, says David Seitz, managing director at Pearl Meyer.
The use of long-term incentives is on the rise and, as the survey suggests, they’ve been met with overwhelming acceptance and success. Seitz says long-term incentive plans cover four major areas—what companies pay for, what goals and levels are achieved by compensation, what leverage compensation provides, and how companies can best communicate about it. According to the survey, 90% of respondents believe the financial metrics of their LTI plan are aligned with total shareholder return. But selecting the right metrics to align these two criteria is extremely complex, Seitz says.
The best way to maximize the use of long-term incentive plans entails enhancing communication, explains Seitz. Firms “should be going to employees, saying this is the plan we’re offering, here are the metrics we’re using and why, and show the connection to business plans. And here’s how you can influence these metrics. And then provide progress reports,” Seitz adds.
The bottom line is most respondents see tremendous value in developing long-term incentive plans.