Incentive Pay, CII update

Strong emphasis on time vesting awards:

CII overhauled its policy on executive compensation, urging public companies to dial back the complexity of pay plans for top executives and set longer periods for measuring performance for incentive pay. The new policy cautions against the pitfalls of performance-vesting awards and encourages companies to explore adopting simpler plans comprised of salary and restricted shares that vest over five years or more. The policy also recommends that companies consider barring the CEO and CFO from selling stock awarded to them until after they depart, to ensure management prioritizes the company’s long-term success. Although performance vesting share plans can work well for some companies, recent studies suggest they may not provide a strong enough connection to long-term company performance on a broad level, and use goals and metrics that can be numerous, overlapping, flexible and hard to understand.

CII notes:

For some companies, emphasis on restricted stock with extended, time-based vesting requirements—for example, those that might begin to vest after five years and fully vest over 10 (including beyond employment termination)—may provide an appropriate balance of risk and reward, while providing particularly strong alignment between shareholders and executives.Extended vesting periods reduce attention to short-term distractions and outcomes. As full-value awards, restricted stock ensures that executives feel positive and negative long-term performance equally, just as shareholders do. Restricted stock is more comprehensible and easier to value than performance-based equity, providing clarity not only to award recipients, but also to compensation committee members and shareholders trying to evaluate appropriateness and rigor of pay plans.

This is in line with work I’ve mentioned previously that Alex Edmans and Tom Gosling have done via the Purposeful Company.

Are Energy Executives Rewarded For Luck?

In an influential paper, Bertrand and Mullainathan (2001) show that energy executives are rewarded for high oil prices, which they term pay-for-luck. Almost twenty years later, performance-based pay as a portion of executive compensation has nearly doubled; total executive compensation has also nearly doubled; and new disclosure laws and tax rules have changed the regulatory landscape. In this paper, we examine whether their results and their interpretation continue to hold in this changing environment. We find that executive compensation at U.S. oil and gas companies is still closely tied to oil prices, indicating that executives continue to be rewarded for luck despite the increased availability of more sophisticated compensation mechanisms. This finding is robust to including time-varying controls for the firms' scale of operations, and it holds not only for total executive compensation but also for several of the separate individuals components of compensation, including bonuses. Moreover, we show there is less pay-for-luck in better-governed companies, and that pay-for-luck is asymmetric – rising with increasing oil prices more than it falls with decreasing oil prices. These patterns are more consistent with rent extraction by executives than with maximizing shareholder value.

Are Energy Executives Rewarded For Luck? Lucas W. Davis, Catherine Hausman (2018)

Link to paper here.