Why the next “people conversation” you have is likely to be the most important one yet

Why the next “people conversation” you have is likely to be the most important one yet

The recent summer solstice reminds us that the year is half way through and for those involved in managing people, this is likely to be the time for a half year or even full year review. However, even if it isn’t, now is still the time to have these conversations.

Given all of the recent challenges offered to businesses, it may be tempting to think that not enough has happened to warrant a conversation, or that the wider circumstances in the economy means that any meaningful assessment of someone’s performance is not possible or even appropriate.

However, as with many situations, what might be considered a challenge is actually an opportunity. Here are three thoughts regarding why taking the time to have some sort of “review” with your team over the next month will be important to your business:

1. Connection
Even for those people who spend all their days in Zoom meetings, there is a fundamental difference between a business call, often where interaction is stilted and often involves multiple parties, and a video (or even regular phone call) focused on that person and how they are doing.

Making your team member feel connected to you (and by proxy the wider organisation) can help them deal with feelings of self-isolation or stress – feelings they may not even realise they are having as they move towards whatever the “new normal” may be for them.

Honest conversations, built on trust, are the best way to raise early warning flags that someone might be struggling or could be struggling soon. Given that the cost of prevention is always cheaper than the cost of treatment or rectification (both in terms of productivity and money) making this connection is essential.

2. Loyalty to Leadership
Simply put, the more loyal a person feels towards someone or something, the harder they will work and the more effort they will give. Showing leadership and understanding in times of uncertainty is a sure-fire way to increase loyalty.

3. Performance
There are two ways in which a review of someone’s performance will be critical to the business now.

Firstly, it should afford you the ability to see whether some important work skills like adaptability, resilience and innovation are being displayed. It is likely that these types of skills will be the most valuable in moving any business out of its current situation and into smoother waters. Even if your current people-management system does not allow for it, reviewing against these skills sets should be done.

Conversely, a well planned and executed conversation with your team member may start to show that they are displaying “limited thinking”. Again, early identification of a potential issue can lead to early interventions which are always beneficial for people development and cost savings.

For further information about the issues raised in this article or to discuss any questions you may have, please contact Stuart James.

Designing remuneration policy for the “new normal”

Designing remuneration policy for the “new normal”

All of us have had to make major adjustments to our lives over the past three months. Boards of directors and their remuneration committees are no exception. Many companies have been required to make transformational changes to their operations and their remuneration policies, and may yet have to make more.

Here are five key agenda items for remuneration committees as companies navigate their way to a successful transition to the “new normal”, whatever that might look like for them:

1. Incentives

In many cases, corporate objectives and related performance targets, set before lock-down for both annual bonus and LTIs, will not be achievable. The Investment Association recently published guidance on the way investors expect companies to deal with this. However, their approach may not work for everyone.

Some have commented that the current, economic situation, highlights the importance of relative performance, particularly TSR. We do not share this view.

Remuneration committees and investors should be concerned about the ability of relative TSR comparisons to produce maximum vesting for management, despite lower returns to shareholders. Mitigation, based on the underlying financial performance of the company determined at the discretion of the committee, may do little to avert criticism if it is perceived, at a time when executive pay is likely to be subject to even closer scrutiny, that executives have not shared the pain with investors.

Three-year rolling LTI cycles will be affected, possibly up to 2022, by 2020 performance. As a result, many companies have had (and will have) to re-think the design of their incentive programmes, paying particular attention to:

• funding and
• performance measures  /  targets.

MM&K has written about the emergence (and benefits) of restricted share plans as a way of retaining executive talent and aligning their interests with those of their shareholders over time.   We expect this trend to quicken.

2. Use of discretion

In our experience, remuneration committees are sometimes wary about exercising discretion, on the grounds that they will be damned if they do and damned if they don’t. However, we expect to see greater use of discretion, particularly in relation to annual bonus, as committees battle with the difficulty of identifying performance targets and need to find some basis on which to set incentive awards.

But the exercise of discretion requires care. More than ever, committees need to be in touch with remuneration policies for the wider workforce, whose incentives may be formulaic.  It may be hard for the committee to justify a maximum bonus award for top executives after exercising discretion to adjust for missed objectives if, in the wider workforce, bonus awards are reduced owing to missed targets.

Proxy agencies oppose discretion. This is not likely to change but there is pressure to reduce their influence, which should reduce the dependence placed on their views by some committees. Therefore, committees need support to develop clear policies which they can justify to stakeholders. Early engagement to present well thought-through proposals to investors has never been more important.

3. Diversity/fairness

A stronger focus on diversity and inequality, apart from disclosure requirements, is likely to create heightened attention on the CEO pay ratio, which will require committees to balance carefully:

• performance and competitiveness
• ESG priorities and
• customer, employee and shareholder expectations

as part of their assessment of the justifiability of the company’s remuneration policy and practice.

Committees may also be asked to pay interim bonuses to retain key executives. Such awards must be considered on their individual merits. However, committees might consider the quid pro quo of a commitment to repay the award if the executive resigns before the end of the financial year to which the bonus relates.

4. Reviews

Remuneration data for 2019 may be unreliable in relation to 2020 and, possibly, 2021. Committees will need to work with their HR departments and external advisers to reach decisions about the positioning of remuneration for the next year or two.

It may, therefore, be prudent to make an early start on the 2020 review.

5. Working practices

Mass scale working from home has transformed working practices, aided by technology. It will be interesting to see its effect on pay policies; lower pay as a trade-off for a better lifestyle or higher pay because there are fewer people to do the work?

Lower employee numbers are likely to increase focus on diversity and impact on training, recruitment and culture. Unless the “new normal” is the same as the “old normal” (which is looking increasingly doubtful), companies will need their remuneration, recruitment, diversity and ESG policies to come together to manage the future.

With thanks to our friends at Johnson Associates Inc. in New York, whose observations about pay in the financial services sector, in which they are specialists, provided the inspiration for this article. For further information or if you would like to discuss any of the points or issues raised, please contact Paul Norris.

Revised Stewardship Code sharpens the focus on ESG factors

Revised Stewardship Code sharpens the focus on ESG factors

The UK Stewardship Code forms part of the FRC’s mission to promote transparency and integrity in business. The 2020 version of the Code was published by the FRC earlier this month. Under the Code, it is incumbent on asset owners and asset managers to disclose how they have prioritised ESG factors when assessing investments.

The introduction to the 2020 Code recognises that, in addition to governance, environmental and social factors have become material issues for investors to consider when making investment decisions and carrying out their stewardship role. The revised Code sets out 12 principles for asset owners and managers. Principle 7 requires asset owners and managers to explain in their Stewardship Reports, which will be public documents, either:

• how integration of stewardship and investment has differed for funds, asset classes and territories and the way they have ensured that tenders have included material ESG factors as part of a requirement to integrate stewardship and investment, or

• the processes used to integrate stewardship and investment, including material ESG issues, to align with the investment time horizons of clients and beneficiaries and to ensure service providers have received clear and actionable criteria to support integration of stewardship and investment, including ESG factors.

The Stewardship Code is not the only set of principles urging corporates and investors to concentrate on sustainability and ESG factors. The Sustainable Development Goals and Principles of Responsible Investment, published under the auspices of the UN, have a similar purpose. Corporates are under increasing pressure to incorporate ESG factors into their executive remuneration policy and practice. And there is evidence that corporates are taking positive action. Interestingly, however (and, perhaps, counter-intuitively) whilst many ESG factors are long term in nature, research indicates that those corporates which have included ESG metrics in their remuneration policies have done so in connection with their short-term incentives.

Whilst corporates have been required to address a range of Governance issues for some time, under various corporate governance codes, now they are paying closer attention to Environmental and Social factors. One of the difficulties is that ESG is likely to mean different things to different companies. For example, research indicates that oil & gas companies place greater emphasis on employment conditions, safety and physical damage to the environment, whilst financial services companies are more likely to be concerned about customer service.

Larger companies have established ESG/Sustainability teams or departments and committees. One of the first questions to consider is: what does ESG mean for us? Other important initial questions are: what are we going to do about it? and who is accountable? For a multi-national company, what it is going to do about ESG may well differ for each of the territories in which it operates.

Not all companies will have the resources to establish a department dedicated to ESG. However, there can be a positive financial advantage for corporates that have developed a coherent ESG policy, as increasingly lenders offer finer rates to corporates with a clear ESG policy.

To comply with the Stewardship Code, asset owners and managers must ask themselves and address questions similar to those asked of the Boards of the corporates in which they invest. In addition, they must understand the action corporates have taken (or intend to take) to address ESG factors and the reasons for taking such action. That understanding can only be achieved through constructive engagement, as encouraged by the Stewardship Code and a willingness on all sides to listen and to be clear and open. Corporates and their investors will need to start on their respective sides of the bridge and walk to the centre. That will require a good deal of co-operation and commitment (both of time and thought) and flexibility. If the Stewardship Code, adherence to which is voluntary, can help to bring that about, it will have made a stride towards breaking down the antipathy, which has sometimes existed between corporate Boards and their investors, for the benefit of all stakeholders globally.

For further information about the issues raised in this article or to discuss any questions you may have, please contact Paul Norris.

Green Finance Strategy will increase companies’ disclosure requirements

Green Finance Strategy will increase companies’ disclosure requirements

On 2 July 2019, the UK Government published its Green Finance Strategy: Transforming Finance for a Greener Future, which is intended to ensure that “our financial system is robust and agile enough to respond to the profound challenges that climate change and the transition to a clean and resilient economy bring with them”.  The paper includes proposals which will increase the requirements for listed companies and pension funds to disclose climate-related risks.

Climate change presents companies with far-reaching financial risks from physical factors, such as extreme weather events, and transition risks that arise from the adjustment to a low-carbon economy.  There are also great opportunities: the expected transition is estimated to require around $1 trillion of investments a year for the foreseeable future.

There are already requirements for companies to disclose these risks and opportunities:

• The UK Corporate Governance Code 2018 requires that a company’s annual report should include a description of its principal risks, what procedures are in place to identify emerging risks, and an explanation of how these are being managed or mitigated.

 • The FRC’s Guidance on the Strategic Report states “an entity should consider the risks and opportunities arising from factors such as climate change and the environment, and where material, discuss in its Strategic Report the effect of these trends on the entity’s future business model and strategy”.

However, the Task Force on Climate-related Financial Disclosures (TCFD), in its Final Report (June 2017), found that there were inconsistencies in companies’ disclosure practices and warned that inadequate information about risks can lead to a mispricing of assets and misallocation of capital.  The report recommended a new framework for disclosing:

• The organisation’s governance around climate-related risks and opportunities.

• The actual and potential impacts of climate-related risks and opportunities on the organization’s businesses, strategy, and financial planning.

• The processes used by the organization to identify, assess, and manage climate-related risks.

• The metrics and targets used to assess and manage relevant climate-related risks and opportunities.

Action against climate change has become more urgent following the publication in October 2018 by the Intergovernmental Panel on Climate Change (IPCC) of its Special Report: Global Warming of 1.5 ºC, which highlighted the potential catastrophic impacts of global warming if it exceeds 1.5°C above pre-industrial levels.  Following considerable political pressure, the UK Government recently legislated to reduce carbon emissions to net zero by 2050.

In the Green Finance Strategy, the Government set out its expectation for all listed companies and large asset owners to disclose in line with the TCFD recommendations by 2022.  It has established a joint taskforce with UK regulators to “examine the most effective way to approach disclosure, including the appropriateness of mandatory reporting”.

In addition, from October 2019, occupational pension schemes will be required to publish their policy on financially material considerations, including those arising from climate change.

Companies will therefore need to demonstrate not only that they have a good understanding of how the risks and opportunities arising from climate change will affect them but also that they have integrated their response to these in their business strategies and governance procedures.  The Government has promised further guidance on these issues.  In the meantime, some companies will find it helpful to participate in initiatives such as CDP (formerly the Carbon Disclosure Project), the Transition Pathway Initiative (TPI) and Science-Based Targets.

Once companies have fully integrated their plans to deal with climate change and the transition to a low carbon economy within their business strategies, they must ensure that their performance targets for executive incentive arrangements are aligned with them. The Investment Association’s Principles of Remuneration state that “Remuneration committees may consider including non-financial performance criteria in variable remuneration, for example relating to environmental, social and governance (ESG) objectives, or to particular operational or strategic objectives. ESG measures should be material to the business and quantifiable”.

The Shell Sustainability Report 2018 demonstrates how Royal Dutch Shell has already included climate change targets as part of its executive incentives.

For further information contact Michael Landon.

The Holt – MM&K – Buyouts Insider North American PE Compensation Survey 2018

The Holt – MM&K – Buyouts Insider North American PE Compensation Survey 2018

Holt Private Equity Consultants, MM&K’s allied firm in the US for Private Equity compensation matters, recently published the results of its North American PE Compensation Survey.  This survey is the sister survey of our European PE and VC Compensation Survey.  The results from the North American survey make for interesting reading.

The survey analyses compensation data from over 100 North American PE and VC firms. The headlines include:

• In 2018, compensation in North American Private Equity and Venture Capital spiked for many employees.

• For non-partner level employees, the median total cash (salary + bonus) increased by 20%.

• The biggest increases were seen at the Associate and Vice-President levels.

• The standard model of two and twenty still pertains.

• Partners tend to take 71% of the carry pot.

• The vesting of carry plans now is spread over a longer period.  The typical length of time that it takes to get to full vesting is now eight years.

• Only 31% of VC funds in North America require a hurdle rate of return before carry clicks in.

MM&K is pleased to announce that copies of the North American survey report are available to be purchased from us at a price of £2,000 (plus VAT).

A copy of the Preview of the North American PE Compensation report can be found here:

For further information contact Nigel Mills or Margarita Skripina

Please click here for the notes from our 11 June 2018 MM&K Remuneration Dinner for Chairmen, CEO’s and Remuneration Committee Chairs.

The theme for discussion was: “Bonus plans and how to make them better”