Remuneration Reviews: Consider the Whole Picture

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Many Boards will have already begun the process of considering the management team’s remuneration as part of their annual performance and remuneration review.

Egan Associates is involved in a large number of these processes and has found that many organisations are tempted to nominate salary increases or changes to incentive plans based solely on peer benchmarking and/or whether executives have met performance targets over the past year. These organisations may be perplexed when their remuneration decisions are questioned in future investor discussions.

The element lacking in such situations is often a defining context. The consideration of the suitability of a management team’s remuneration should be like peeling an onion. It is only once the outer layers have successfully been considered that the core of the matter can be appraised.

The broad hierarchy of information collection and analysis that Egan Associates undertakes when reviewing remuneration levels is as follows:

Context for remuneration reviewsEconomy

Shareholders will be less prepared to accept significant remuneration increases when large numbers of workers in the community are losing their jobs or experiencing low wage increases. Questions should include:

  • Is the Australian economy achieving above or below trend growth?
  • Is productivity (labour and multifactor) increasing or decreasing?
  • How fast are average wages increasing? What is happening to the consumer price index?
  • Is unemployment on the rise or decline?
  • Is there a high level of job vacancies?
  • What is the current cash rate set by the Reserve Bank of Australia?
  • How strong is consumer confidence? What is investment sentiment like?
  • How competitive is Australia’s tax and regulatory regime? Is this improving or becoming worse?
  • Is performance the same in the public and private sector?

Since many organisations are now operating on a global scale, or are affected by movements in the global economy, a broad examination of global conditions may also need to be undertaken, with more detailed analysis required when executives are serving overseas.

Sector & Geographies

Sector conditions can be considered as a subset of the economy, with most of the questions subject to the economic overview being relevant within the sector and/or regional context. Questions include:

  • Is the sector/region growing, stagnant or contracting?
  • Are wages increasing faster than the average or more slowly?
  • Is there a skills shortage or a broad choice of suitably qualified employees?
  • Is productivity on the rise or decline?
  • How does performance compare to other sectors/regions?

The questions below may add to the company’s considerations:

  • Do factors such as the current cash rate level or exchange rate affect the sector/region in a positive or negative fashion?
  • Is the current legislative environment favourable?
  • Is it changing? If so, will it become worse or better?
  • Is the sector dependent on factors such as commodity prices, seasonal/climatic variability or property cycles?

All of these factors, among others, will have bearing on the ability of organisations to increase remuneration levels.

Company

Just as some sectors will lag the general economy while others outperform, each sector will have its stars, battlers and up-and-comers. Boards will have more scope to vary remuneration in the first setting than the second, while the third case will depend heavily on growth prospects.

This is the point at which benchmarking and performance against company-wide performance targets can be considered. Questions include:

  • How does performance and remuneration quantum compare with comparable companies? Has the organisation’s budget been met?
  • Have stretch targets been met?
  • What about milestones and strategic targets? Is the company tracking to meet long term goals?
  • How is the company performing against shareholder and analyst expectations?
  • Is the company at a point in its strategy implementation where losing executives from the team would result in significant damage?
  • Are there other implicit requirements not detailed in incentive plans that have not been met? For example, does the company’s culture match the desired ideal and if not, are remedial measures prepared or in process to change this? Or has the company’s brand been damaged in the past year following issues in the business?

Individual

Even when a company is performing well, it is important to distinguish between top performers and “come-to-work” contributors. Questions include:

  • Has the individual met their personal targets?
  • How has their business group/division performed?
  • What did they do to contribute to overall group performance?
  • Have they been proactively innovative?
  • Have they positively contributed to the desired company culture?
  • What is the likelihood of the individual being promoted internally or poached by another organisation?
  • What sort of “skin in the game” does the individual have?
  • Were there specific reasons the individual was brought into the role that will have bearing on the path their remuneration takes? Were there particular understandings when the individual began in the role about progression with proven performance?

Only by considering information within the context presented above can Boards correctly assess whether incentive plans are appropriate and whether to increase remuneration for the executive team and by how much.

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