GECN ESG Report 2023: ESG becoming more important in long term incentives

March 21, 2023

MM&K (the UK partner firm in the GECN group) has published its 2022/23 research on how the world’s largest firms use ESG (environmental, social, governance) metrics in their executive incentive plans.

Download your free copy here.

ESG metrics have historically been more prevalent in short-term incentives (STI), since financial or market-based measures – e.g., eps or share-price – are likely to take priority when it comes to the greater commitment of long-term incentives (LTI). However, we found this year that ESG is becoming increasingly common in LTI plans.

In the UK, STI plans typically have performance periods set for one year, whereas LTI plans, typically, are over three, four or five years.

Globally, there was a 7 percentage point growth in LTI plans which feature ESG, including an 8 percentage point growth in both Europe and the UK.

The UK lags behind its European counterparts a significant 19%, though it’s still ahead of the rest of the world by 5%.

Growth of ESG-related performance measures in LTIs is encouraging and suggests a level of commitment by companies to environmental and social goals, for example the target of net-zero carbon emissions by 2050.

The US, the world’s economic powerhouse, lags behind the rest of the world at a 17% difference but has made significant improvements in recent years, albeit from a low base. Hopefully it will soon follow the world in this regard.

Many companies face a challenge when it comes to identifying and selecting effective ESG metrics for their long-term incentive plans. Metrics directly tied to the financial success of the business – such as revenue or production – are easier to design and measure. But ESG is more at risk of under- / over-ambitious goals, or irrelevant goals. A poorly designed LTI could affect an executive’s remuneration for three to five years. Highlighting this risk are high levels of pay-outs against ESG metrics. 61% of STI ESG-related measures paid above target which might suggest that these targets are too weak.

The increasing use of ESG-related measures in executive incentives is evidence of a growing awareness of such factors by corporates. However, there has been no change in the actual weighting attributable to these measures. The research shoes that LTI measures have a 20% weighting at the median, and STI measures have a 25% weighting at the median. Perhaps the growth in the use of ESG metrics will one day be reflected also in the weightings, but for now it seems a ceiling has been reached:

MM&K, together with our GECN partners, publishes research annually on how ESG shapes CEO incentive pay in the world’s top companies. This is the comprehensive guide to ESG in firms of the FTSE100, S&P100, ASX100, DAX30, CAC40, TSX60, JSE TOP40, SMI20 and STI30.

Download the report here

Further MM&K reports and research can be found here. Or for further information please contact James Sharp.

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