Proxy adviser perspectives on non-financial incentive measures
12/08/2024
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CGI Glass Lewis recently released guidance on how companies can incorporate non-financial metrics in their remuneration structures as required by APRA’s Prudential Standard, CPS 511 Remuneration.

This regulation, and a “stakeholder” rather than “shareholder” focus had led to more weight being placed on non-financial metrics and the addition of non-financial metrics in LTI plans. Recently, however, we have been observing a shift back towards financial metrics (See HERE).

CGI Glass Lewis highlights that non-financial measures have their critics, pointing to the unquantifiable nature of most non-financial measures and the lack of specificity and robustness. There is also the argument that non-financial measures cover the regular responsibilities of executives’ duties, for which executives should not receive additional incentives. Financial metrics are generally more favoured by investors as the link to shareholder value is widely understood. Some investors question the relevance of the metrics that have been introduced in the wake of CPS 511.

CGI Glass Lewis described what it considers a best practice framework for non-financial performance measures, providing three categories of non-financial measures and examples of how companies might implement measures in each category.

Non-Financial Priority

Implementation

1. Long-term transformation

Transformation projects that require years, or decades of planning and execution. Examples can include:

  • Transitioning to a low-carbon economy
  • Undertaking significant cultural change or integration
  • Restoring impaired corporate reputation or impaired social license to operate

Clear project milestone measures, or quantifiable emissions reduction targets (and similar) within the LTI.

2. Ongoing operational Performance

Well understood operational performance with generally accepted quantifiable KPIs. Examples can include:

  • Safety indicators
  • Customer complaints
  • Employee engagement

Quantifiable annual targets within the STI

3. License maintenance

Maintenance of the company’s license to operate or regulatory license. Theses typically focus on avoiding adverse events, often discretionary in nature. Examples can include:

  • Managing unexpected or unforeseen risks (e.g. cyber, legal)
  • Maintaining corporate reputation or social license to operate
  • Maintaining stakeholder relations
  • Avoiding regulatory action
  • Preventing workplace fatalities

Downward modifiers or gateways over STI, LTI or other remuneration component. 

 

Consideration of malus and clawback in cases of more extreme matters.

 

CGI Glass Lewis also made the argument for using financial gateways to ease concerns that non-financial measures will be used to inflate outcomes or compensate for poor financial performance. The trick is setting the threshold such that it is high enough to ease the above concerns, yet not so high as to devalue the importance of the non-financial metric.

CGI Glass Lewis did not consider the above framework to be rigid. It will continue to expect a clear, logical rationale for any performance measure, along with a direct link to financial materiality in determining whether to recommend support.

The CGI Glass Lewis article can be found HERE.

© Guerdon Associates 2024
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