It goes without saying that during a crisis like COVID-19, business continuity and human resourcing will undoubtedly be front of mind for boards. Cash flow is thinning and so too are workforces, with many companies now undergoing redundancies or taking measures such as forced leave and stand down periods for large parts of their organisation.
Against that backdrop, while it seems perverse for boards to be turning their minds to executive remuneration during this time, it is nonetheless an issue that needs addressing – particularly at a time where demonstrating solidarity and alignment with broader organisational changes, not to mention diminished shareholder returns, will go a long way. Companies will also be judged by stakeholders and the broader community harshly if their decisions are seen to be tone deaf and inconsistent with societal expectations.
In a recent statement by the Bank of England’s Prudential Regulation Authority (PRA), an expectation has been placed on banks in the UK to not pay any cash bonuses to senior staff, including all material risk takers, noting it “is confident that bank boards are already considering and will take any appropriate further actions with regard to the accrual, payment and vesting of variable remuneration over coming months”.
Similarly, some proxies and investor groups, such as the Australian Council of Superannuation Investors have called for bonuses to be zeroed given the current environment.
Closer to home, we have already seen examples of significant executive pay reductions by companies in the aviation and tourism, retail and media industries. Notably, in one of the earlier announcements to the market, Qantas has outlined measures that until the end of FY20 will see all executive and senior employee bonuses cancelled, CEO fixed pay waived and executive fixed pay reduced by 30%, while NED fees will be reduced by 30% and the Chairman will take no fees.
With many companies approaching their financial year end, the biggest challenge will be ensuring that both pay outcomes and targets set going forward are reflective of the impacts COVID-19 has, and is continuing to have, on the organisation. While there is by no means a no one-size-fits-all approach, we highlight some key considerations for boards and remuneration committees to be thinking about at this time.
Key considerations for boards and remuneration committees
- Assess the impact on business.
COVID-19 will understandably be a key variable for performance against annual targets for FY20, so confirming the impact on business early both upstream and downstream (for example, on revenue, workforce, supply chain and operations) will help boards assess how this should translate to bonus outcomes. This assessment should also flow through to revised performance metrics for FY21.
- Establish a robust framework for exercising discretion.
For many organisations, exercising discretion for outcomes may not be required (given targets will simply not be hit). For other companies, boards should exercise discretion to determine an appropriate outcome – whether this be a blanket suspension of all executive and senior employee bonuses (clearly appropriate where there is an immediate need to preserve cash), or an adjustment downwards. If not already in place, boards should establish a principled framework for applying discretion that considers both shareholder and employee expectations (as well as legal rights). In applying the framework, relevant considerations might include the degree to which COVID-19 impacts can be isolated from broader business performance (perhaps up until a certain period) or how other unforeseen events have been treated when determining outcomes in the past. Ultimately, for many in corporate Australia, no payment of incentives is likely to be the end outcome, particularly when viewed from a stakeholder perspective. For those companies that have received windfall gains due to COVID-19, boards should think carefully about the reputational impact of their variable pay decisions. Nobody should be seen as unfairly profiting from this public health and economic crisis.
- Adjustments should be consistent.
While it is not ideal to tell senior leaders they will receive less for doing more (particularly those expected to keep the lights on during the pandemic and steer the rebuild on the other side), boards needs to be thoughtful with adjustments and ensure treatment cascades appropriately down through the organisation. If large sections of the workforce are being made redundant or stood down, taking salary cuts or accepting reduced hours, then there may well be an expectation from shareholders, employees and the broader community that boards zero out all executive incentives.
- All remuneration should be on the table.
There may be other measures that can be taken to pay to reflect proportionate treatment at all levels of the organisations, including a reduction in fixed pay for executives and senior employees for a period of time as well as corresponding reductions in NED fees. Of course, contractual arrangements in place will mean that consent will need to be obtained from relevant employees. For many companies, the obvious place to start is the CEO and senior management team.
- Consider shareholder expectations and communicate clearly.
Shareholder and proxy adviser expectations should remain a relevant consideration for boards. In the current climate, it is important now more than ever that shareholders and proxy advisers understand and are supportive of the board’s approach to remuneration, particularly given the levers available to shareholders come AGM season, including the ‘two strikes’ rule. In a recent investor statement on ‘Coronavirus Response’, 195 global institutional investors have already weighed in on the issue, calling on companies to consider suspending share buybacks and limiting executive and senior management compensation for the duration of the pandemic. Accordingly, boards should be speaking with investors early to get their perspective on what would be appropriate pay outcomes in the current circumstances.
- Be realistic for the go-forward.
From a financial perspective, the list of companies that are adjusting financial forecasts and withdrawing earnings guidance based on what they know now is growing daily. With the goalposts continuing to shift, boards will soon face the difficult task of crystal ball gazing as they look to set incentives for the year ahead. The challenge herein will lie in setting appropriate targets for FY21 – short term incentive frameworks more broadly will also need to be closely examined. For example, by granting equity from a low starting share price, boards will run the risk of over-rewarding if the financials recover quicker than expected. However, allowing a broader range of outcomes based on high, medium, and low scenarios for the COVID-19 impact will help engender support from executives for business turnaround (as well as shareholders) and place organisations in a better position come the remuneration review next year.
More fundamental change?
Even when the spread of COVID-19 is contained, its broader economic and social impact will likely linger. Accordingly, early consideration of these key areas, and establishment of clear principles to guide decisions, should become a focus for boards and remuneration committees.
More fundamentally, there may well be a broader re-think of remuneration settings in light of COVID-19 particularly given investor concerns regarding the robustness of short-term incentive programs and the degree to which they are truly ‘at risk’, as well as long-running community concerns regarding ‘excessive’ executive pay. In an environment where many Australians will suffer a major personal and/or financial cost from COVID-19, boards will need to think carefully about the short, medium and long-term consequences of their decisions for their reputation in the market, and indeed community.
Decisions around executive pay are often some of the most scrutinised and most difficult for boards – and this will not get any easier with COVID-19. If in doubt, boards should ask themselves whether they would be able to defend their remuneration decisions to their broader workforce or indeed publicly to media and the broader community. Decisions made now will be highly scrutinised and give some insights into how boards truly take into account competing stakeholder interests.
For a further discussion on board might navigate employee relations and pay issues for the broader workforce, see AICD article here.
This material is not intended to constitute legal, business or other professional advice but is for information only. It is not intended as a substitute for advice from a qualified professional.