The economic uncertainty that reached a fever pitch during the presidential election gave way to a new kind of uncertainty tied to a changing administration. Whether and how will the Compensation Committee address the uncertainty brought about by deregulation, tariffs and other macroeconomic changes that may arise when designing incentive plans for 2025 and beyond. You realize you are working on the question of whether to do it.
A comprehensive question – how much of an executive should be exposed to risks associated with events that have limited control – philosophical. “That's a big fundamental question that the Compensation Committee must consider,” said Rachel Gibbons, Principal of FW Cook. This question is not specific to your current environment. The committee faced similar confusion just a few years ago, navigating the uncertainty surrounding Covid. “In 2020, many committees concluded that executive salaries should not be fully exposed to unpredictable events that took place that year,” Gibbons explains. “As a result, there has been a considerable backlash from shareholders and representative advisory companies in the years following the pandemic. These outside parties have become unhappy with companies that make discretionary adjustments after the facts, and thus, We have declared management from events that affected shareholder outcomes.”
Heading towards the 2025 incentive design plan, the challenge of the Compensation Committee is to avoid such scrutiny from the proxy advisory firm by ensuring that incentive salaries are lined with shareholder outcomes, while also uncertain. Find an approach that motivates performance in sex. FW Cook principal Stephen Boshardt said: “The most appropriate solution will vary depending on the company and the specific circumstances. As a result, the committee considers all possibilities and potential unintended consequences, including shareholder/proxy advisor responses, before making a decision. It's important to do that.”
Some approach compensation committees may consider:
I'll stick to the current situation
Perhaps the easiest option available is to take the stance that executives should be exposed to the same uncertainty as executives by maintaining current compensation practices. Some companies used discretion during Covid, while others chose to maintain consistency between managers and shareholders. Here we can take the latter approach. This will set goals according to revenue guidance and will not be made aggressive adjustments.
Expanding the target range
As long as the compensation committee wants to actively explain potential external uncertainties, adjusting target-perior goal setting is a simple way to do so. This approach helps the Compensation Committee adhere to the need to consider making discretionary changes after the facts.
The most common adjustment involves providing negative side protection by simply expanding the range of performance outcomes that earn some payment. “An evenly increasing the performance range on both sides rarely attracts scrutiny,” Bosshard said. The key to avoiding external scrutiny in this approach is to ensure that the payout curve is equally expanded on both sides of the target. So, if performance goals are needed to achieve threshold payments, the performance goals required to hit the maximum payment are: It rose proportionally more than the target. “Another approach involves implementing strike zones around the target,” Bosshard says. “If there is significant uncertainty that prevents a company from setting accurate performance metric targets, the Compensation Committee will provide ranges around the target to create a more easily predicted “strike zone.” You can place it. ”
Delay in goal setting
In the short term, at least, another way to deal with uncertainty is to postpone incentive targeting until the second half of the first quarter of 2025. This approach will allow businesses to make their plans clearer for the new administration. “At that point, there could be more information available to the compensation committee and management. For example, the planned tariff magnitude, timeline and potential impact could be more clear. It's proficiency and could allow for more accurate predictions and goal setting,” Gibbons said. The goal should not be too late for the year, but there are no bright line rules for timing. Defining your targets later in the first quarter is unlikely to attract scrutiny.
Rethinking mathematics
Companies can also make formulaic adjustments that can reduce management uncertainty by reducing the impact of factors other than management. “There are discretionary ways to avoid post-mortem adjustments, for example, by preemptively adjusting the impact of tariffs on the supply chain,” explains Bosshard. “However, such adjustments may appear poor externally, as fully protecting executives from the reality of an unpredictable external environment can cause inconsistency with shareholder outcomes. .
“The Compensation Committee also has the option of reducing the impact rather than using 'collar' around incentive metrics,” adds Bosshard. “Colors can be used to mitigate the impact of items outside of management control and prevent the outcome of extreme awards outside management control, which will maintain consistency between managers and shareholders. While protecting your management to some extent. For example, when applying color to incentive metrics, tariffs affect these metrics only within a certain range, but must not exceed this range. , acknowledges that volatility is controlled and management cannot hedge or mitigate the impact of tariffs completely, and that it cannot adjust management to shareholder outcomes.”
Use relative metrics
If long-term goal setting is too difficult in uncertainty, you can shift the program to the use of relative metrics in which the company's performance is measured against custom comparator groups or broader market indexes. Masu. “Using relative metrics, either in itself or in combination with absolute target-driven metrics, avoids the need to set goals in uncertain environments. This can be particularly useful in long-term planning.” Gibbons explains. “Ideally, a comparator group would be chosen so that all components are in the same situation with regard to external factors, such as all components have suppliers subject to customs duties.”
Discretion applies
Regardless of which of the above options are selected, the Compensation Committee will see how 2025 will unfold and at the end of the performance period if the influence of external factors on incentive payments is shown. You also have the option to wait for discretionary adjustments to occur. It's too extreme. This approach has the advantage of allowing the compensation committee to be certain that it will respond to the actual effects of adverse events. However, proxy advisors have historically been critical of the backward-looking adjustments, even published in the year when the pandemic turbulent economy. This is because such adjustments can lead to administrative salary outcomes that are not consistent with shareholder experience. Additionally, these adjustments are made at the end of the year, which also lacks the motivational security that measures taken at the end of the year can provide management.
Like other approaches, companies need to clearly outline the rationale for their pay decisions, especially when discretion is applied. CD&A disclosures provide businesses with the opportunity to preempt criticism by telling reward stories with details about the parameters used to assess performance.
Ultimately, each of these approaches requires a variety of trades that the Compensation Committee must be carefully weighed to ensure that the Compensation Committee remains consistent with the changing reality of 2025 and beyond. I present an off. Clear and robust disclosure of wage practice decisions and the “why” behind them is also important. “The Compensation Committee now needs to be more agile and communication than before,” Bosshard said. “In a business environment where volatility, economic uncertainty and business disruption are standard, committees take a step backwards, consider options, adapt to change when guaranteed, and clarify their decisions to stakeholders. It is important to express it in
