10 Executive Compensation Predictions for 2014

Last year turned out to be a very good one for U.S. corporations. Strong profit growth and even stronger stock price appreciation were an indication that shareholders were happy.

Thus we can predict that executive pay in 2014 will rise proportionate to profits and stock prices. Nevertheless, economic uncertainty, political machinations, media pressure and evolving governance rules can make it very challenging for boards and management to navigate those rocky shoals. Here are 10 predictions and resolutions that should guide them in that journey.

Boards will continue to successfully balance the tension between motivating the executive team to enhance shareholder value and satisfy the ever-evolving corporate governance pressures created by a proxy advisor–influenced say-on-pay world.

Boards will continue to emphasize large stock and cash incentives in executive pay packages, with an 80% or higher allocation being typical for annual and long-term incentive plans. This approach will continue to instill a high level of executive motivation in the year ahead, helping to ensure continued alignment of pay outcomes, including realizable and realized pay, with performance and total shareholder return.

This alignment of pay and performance will continue to yield successful say-on-pay votes, with strong shareholder endorsement of the pay programs at 98% of companies. Since 2011, businesses have faced more than 7,000 say-on-pay votes, with only roughly 150 of those companies failing to gather the needed votes.

Board members will continue to remain confident that their company pay programs are aligned with performance. An October 2013 opinion survey by Pay Governance and the NYSE found that 80% of compensation committee members believe that is the case. As we know, shareholders agree.

Nevertheless, ISS and say-on-pay votes will continue to put pressure on companies to homogenize their executive pay programs. Boards can count the rising usage of relative total shareholder return as a performance metric as the most obvious example of this development. While this may be appropriate for some companies, it is unlikely to be the ideal metric for many companies that have recently added it to their performance share plans.

Boards will challenge homogenization pressure by diversifying the metrics in their incentive plans to include more strategic and appropriate metrics in addition to, or in place of, total shareholder return.

Companies will continue to monitor and possibly reduce and eliminate the so-called shareholder irritants that attract the attention of proxy advisors, such as excessive change-in-control severance agreements; pensions for senior executives; and expensive perquisites. Importantly, our research has shown that while those irritants are highly impactful on the ISS qualitative reviews, they are of limited concern to the majority of shareholders.

As the job tenure of top executives continues to shorten, companies will continue to address the challenge of how much stock to vest at retirement and other managed terminations. This will also impact various contract features, including the modification of severance rules and similar provisions at retirement.

Creative and successful companies will continue to push back on proxy advisors and go directly to shareholders with their pay-for-performance story. The results will be market-leading performance and the creation of enormous shareholder value. The pay programs at the vast majority of companies are working as planned and the shareholders are more than satisfied.

Despite all of this drama, executive pay opportunities and realizable pay will continue to correlate (positively and negatively) with performance. We forecast an increase of 10% to 15%, reflecting strong stock market performance.

Strong shareholder support and correlations of realizable pay to stock market returns suggest boards have been largely successful in structuring pay programs that align pay and performance. We expect boards will build on their success, continuing to drive changes that will further enhance pay-for-performance alignment, while resisting homogenization pressures. In turn, we anticipate shareholders will reward boards’ efforts through strong levels of say-on-pay support.

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