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Aligning Executive Pay with Company Performance Goals

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Director of Stewardship
Sr. Portfolio Manager
Research Analyst
Executive Managing Director

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March 10, 2021

While public investors and corporate compensation committees both strive to align executive pay with long-term performance, such alignment often remains elusive. At the recent Council of Institutional Investors’ Spring Conference, Portfolio Manager Brian Christiansen discussed strategies investors might take to help companies improve pay practices.

Christiansen participated in the MSCI-sponsored panel “Incentivizing the Future,” during which MSCI shared initial research that revealed less than half (46 percent) of chief executives in their sample showed evidence of strong pay-performance alignment based on total shareholder returns and average annual realized pay over the course of a chief executive’s tenure. The finding raises questions about the current efficacy of pay as an incentive tool for the average listed company in the United States.

“There are a half a dozen things board of directors have to get right to be effective in their obligations to both the business and long-term shareholders. The first two of those are making sure we have the right chief executive and succession planning in place, and the second is setting executive compensation and appropriately aligning incentives, both of which are related”, noted Christiansen.

Christiansen and other participants agreed that investors are not against rewarding executive performance. Christiansen noted that pay should be aligned in scale to performance – exceptional pay should come only from exceptional performance and below average pay should come with below average performance. Panelists noted that it is incumbent upon investors to help boards create a compensation structure that rewards performance and is also compelling enough to attract and retain talent.

Engagement with boards about the alignment of executive pay is critical because, Christiansen said, proxy disclosures often lack the detail or transparency about the key performance metrics to which executive compensation plans are supposedly being aligned. That lack of transparency, he added, can make it extremely difficult to evaluate the compensation plan, let alone determine whether executives are meeting performance objectives or not, without effective engagement.

When Sands Capital talks with boards, he said, analysts strive to drill down into the several areas that the board needs to get right to ensure it is fulfilling shareholder obligations. Boards must create an executive compensation plan that is based on long-term performance expectations. This plan, Christiansen said, should detail, with qualitative and quantitative metrics, what longer-term performance goals the business needs to meet to deliver the best outcome for the business and long-term shareholders and how compensation is designed to encourage the executive team to achieve these goals.

While board engagement and shared problem solving with the board is preferable, investors must take definitive action if boards resist, said Christiansen. In the case of misalignment, investors have several levers to pull that vary in degrees of escalation, including constructive engagement for change, voting against say on pay proposals, voting against compensation committee members, to ultimately, selling the company. It is unusual for compensation alone to drive a sell decision, but it could be a symptom of a dysfunctional management or governance structure more generally. However, if the choice to sell is made, Christiansen said it is important the investor makes the company aware of the reasons the decision to sell was taken. “Boards should know that their actions can have consequences,” Christiansen said.

The webcast, originally recorded on March 10, 2012 is now available on demand. The Council of Institutional Investors (CII) is an association of more than 135 public pension funds, corporate and labor funds, and foundations and endowments with combined assets in excess of $4 trillion. Sands Capital has actively contributed to CII’s Spring conference programming for the last three years.

Disclosures:

The views expressed are the opinion of Sands Capital Management and are not intended as a forecast, a guarantee of future results, investment recommendations, or an offer to buy or sell any securities. The views expressed were current as of the date indicated and are subject to change. This material may contain forward-looking statements, which are subject to uncertainty and contingencies outside of Sands Capital’s control. Readers should not place undue reliance upon these forward-looking statements. There is no guarantee that Sands Capital will meet its stated goals. Past performance is not indicative of future results. You should not assume that any investment is or will be profitable. GIPS® reports and additional disclosures for the related composites may be found at Sands Capital Annual Disclosure Report.

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