Corporate executives in the U.S. can expect moderate salary increases and tougher performance hurdles in 2012, according to a survey from compensation consultancy Pearl Meyer & Partners. The firm's annual preview of executive pay programs shows that companies are modifying incentive-based compensation programs in response to pressures to align executive pay and performance better.
"There is a recognition by corporate leaders that linking pay to performance is absolutely essential—and they're less than satisfied with their current programs in that regard," said Jim Heim, managing director of Pearl Meyer & Partners.
Participants in the firm's Looking Ahead to Executive Pay Practices in 2012 survey included 46 executive officers, 40 board members and 104 HR professionals at organizations ranging from Fortune 50 to emerging high-growth companies. The survey was conducted from August through October 2011.
Performance Hurdles Are Higher
Among the survey findings:
• A significant portion (42 percent) of participants said they are raising their annual performance targets for 2012 incentive programs. This continues a three-year trend that saw 49 percent of participants set higher targets in 2011 and 41 percent raise standards in 2010.
• About one in five participants expect to change their performance measures for 2012, usually to incorporate a metric that is more closely tied to creation of shareholder value. "This continues a trend of moving away from the traditional and simplistic approach to goal setting, in which a few percentage points were just added to the previous year's performance," Heim said.
Long-Term Designs Vary
Many studies have examined how long-term incentive program design (stock options, restricted stock and similar awards) are evolving at the largest companies and have noted a shift toward performance-based awards. However, the survey indicated that stock options remain very popular among small companies as well and in certain sectors:
• Stock options accounted for 42 percent of all executive long-term incentives (LTI) at participating companies with less than $100 million in revenue and for more than 50 percent of value at life sciences companies. On the other end of the spectrum, they were only 15 percent of LTI value for the largest companies with more than $10 billion in revenue.
• Performance shares accounted for 34 percent of LTI value at the largest companies but only 6 percent for companies with revenues less than $100 million.
"It's not surprising to see the largest companies denominating more of their LTI in the form of performance shares," observed Heim. "They're under greater scrutiny from shareholders and are often at a mature stage of development where setting multiyear goals is a bit easier than what you'll see for emerging life sciences or high-tech companies."
High Performing Companies Grant Higher Rewards
Companies that reported outperforming their peers in revenue growth, profitability and shareholder return generally expect to provide higher base salary increases, bonus payouts and LTI awards in 2012:
• Two-thirds of those strong performing companies predicted an increase of 3 percent or more in 2012 executive base salaries.
• 55 percent expect bonuses to exceed internal targets for 2011 performance.
• 31 percent expect larger LTI awards.
In contrast, only one-quarter of the companies performing below their peers projected a base salary increase above 3 percent or an "above target" bonus payout, and only 18 percent said LTI award values will increase.
"Normally we'd expect more of the poor performers to switch up their incentive metrics for fiscal 2012, but apparently their appetite for change is no larger than that of the strong performers," noted Heim. "Most likely, many lesser performers believe they are using the right metrics, but their executive teams just are not executing."
On the flip side, "strong performers may think a change in strategy will help continue their success in 2012, or they might be aiming for even better results," Heim said.
Moderate Base Salary Movement
Relatively modest growth in executive salaries is expected in 2012, marking a continued break from the annual 4 percent pay growth during most of the past two decades. A total of 59 percent of participants projected a 2-to-4 percent salary increase, and 10 percent expect a salary freeze or decrease in 2012.
Severance on the Wane
There is a continued decline in the level of cash severance provided to executives for "without cause" terminations. The survey found that:
• 10 percent of participants trimmed contractual provisions in 2010 and 12 percent in 2011.
• Another 9 percent expect to do so in 2012.
There was a similar decline in use of full "gross-up" payments that cover executives' taxes triggered by "parachute" severance following a change in control. While 35 percent of companies provided full gross-ups in fiscal 2009, only 18 percent expect to do so in 2012.
The 2012 Agenda
Participants ranked the "need to validate alignment of relative pay and performance" as their top priority for compensation programs in 2012, followed by preparation for recent U.S. Securities and Exchange Commission disclosure and governance requirements.
Among other new proxy disclosure rules, companies must explain to shareholders the link between CEO pay and company financial performance and compute the ratio of CEO pay to median employee pay. "Compensation committees in 2012 will be spending significant time deciphering how their programs will appear through these new regulatory lenses and adjusting what they don't like," Heim said.
Stephen Miller, CEBS, is an online editor/manager for SHRM.
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