Top 5 Compensation Governance and Pay Trends · Top 5 Compensation and Governance Trends 1. Realign compensation with business strategy 2. Demand rigor in goal setting 3. Consider

©2015 Pearl Meyer & Partners, LLC

Top 5 Compensation Governance and Pay Trends

March 2, 2015

Laura A. Hay Managing Director and Head, National Banking Group Pearl Meyer & Partners (704) 651-4885 or laura.hay@pearlmeyer .com

mailto:laura.hay@pearlmeyer

http://www.ncba.com/index.php

1 ©2015 Pearl Meyer & Partners, LLC

Agenda

Top 5 Compensation and Governance Trends

1. Realign compensation with business strategy

2. Demand rigor in goal setting

3. Consider a combination of long-term incentive awards

4. Continue focus on pay for performance

5. Revisit director compensation levels


Agenda








Realign Compensation with Business Strategy

Business Strategy

Compensation Strategy

Compensation Program Design

Compensation Outcomes &

Decisions

Shareholder / Proxy Advisor Perspectives

Public Optics and Governance Issues

Prevalent Market Practices

Inform

Inform

Drive

Effective Compensation Strategy should be driven by Business Strategy, informed by competitive market practices and other external influences

Situation and Circumstances

Companies should not be afraid to deviate from prevalent or even “best practice”, but must understand implications of doing so

“Best Practice”



Base Salary Annual

Incentive Plan

Long-Term Incentives Performance-Based

Service-Based

Stock Ownership / Holding

Requirements

Retirement Plans, SERPs,

Deferred Comp

Board / Committee Oversight, Clawback Policy, Anti-Hedging & Anti-Pledging Policies, CIC/Severance Plan, Employment Agreements

Short-Term Mid-Term Long-Term

Compensation programs should strive for balance.



Questions to Ask

Does your pay program align with business value drivers?

– Understand what drives value creation

– Develop a strategy-incentive map

– Give equal weight to lead and lag indicators

Does your pay program support your talent management strategy?

– Identify the competencies and experience you need

– Identify opportunities for managers to develop into future leaders

– Define the culture you want to create and maintain

– Identify the unique attributes integral to your business strategy

Is your pay program informed or dictated by external pressures?

– Allow external viewpoints and market practices to inform, not drive, pay program design

– Exercise business judgment

Does your pay program resonate with both executives and shareholders?


Agenda








Demand Rigor in Goal Setting

Base Salary Increases

Consistent with the last several years, merit increases are expected to be around 3% for executives and the general employee population.

Annual Incentives

Annual incentives are paying out:

– 39% of banks are expecting the same level of payout for 2014; 37% are anticipating payout levels higher than last year.

– 41% are expecting payouts 75% - 99% of target; 32% are anticipating target or higher.

46% of Banks are setting 2015 targets similar to 2014 and 48% are expecting to set more challenging targets.

Companies are setting performance goals more rigorously (general industry):

– 43% establish threshold performance at 90% or higher of target.

– 50% set maximum performance at 115% or higher, with 29% setting it above 120%.



Comparisons both internally and externally are helpful in determining goal rigor:

– Historical performance

– Budget

– Peer group performance

A greater number of plans include a discretion or a qualitative component to help “right size” awards.



We tend to set our incentive plan goals based on our budgets/forecasts … how can we evaluate the level of rigor represented by the goals?


Demand Rigor in Goal Setting Internal Perspective

To understand the rigor of various levels of goal achievement, we can look at a Company’s own historical performance relative to the annual incentive plan metric (e.g. diluted EPS growth)

EPS Target Levels and Probabilities

2014 Goals Proposed Threshold

Threshold Target Maximum

Diluted EPS % Growth 9% 12% 17% 34%

Company A Historical Probability of Achievement

80% 80% 20% 0%

-18%

-13%

-8%

-3%

2%

7%

12%

17%

22%

2013 2012 2011 2010 2009 2008 2007 2006 2005 2004

15.8% 15.0%

-15.9%

14.8% 15.1%

18.9%

13.0%

17.7%

6.1%

15.4%

Company A Historical 1-Year Diluted EPS Growth

Relatively Narrow Spread


Demand Rigor in Goal Setting External Perspective

The chart below shows Company A’s peers’ cumulative probability of achieving various levels of 1-year diluted EPS growth

Company A’s threshold, target, and maximum level are within a narrow range of probable achievement for peers (39% - 67%)

– Implies “probable achievement” spread is likely wider for most peers in both directions

EPS Target Levels and Probabilities

2014 Goals Proposed Threshold

Threshold Target Maximum

Diluted EPS % Growth 9% 12% 17% 34%

Peer Probability of Achievement

67% 60% 52% 39%

Company A Historical Probability

80% 80% 20% 0%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Pro

bab

ility

of

Ach

ieve

me

nt

Growth Achievement

1-Year Diluted EPS Growth Cumulative Probability of Achievement

Proposed threshold growth (9%)

Target growth (17%) Maximum growth (34%)

Threshold growth (12%)



We feel confident about our “target” performance and payout levels, but less certain about how payout levels should respond to performance below or above target …


Demand Rigor in Goal Setting Determining the “Right” Amount of Leverage

Banks are re-examining and modifying incentive metrics and payout slopes to help find the proper balance between pay for performance and prudent risk management

Regulators have expressed displeasure with excessive upside leverage in incentive arrangements

A company’s compensation philosophy should provide parameters for the desired amount of overall leverage within the incentive arrangements

Responsiveness of payouts to performance often varies based on the specific measure and/or participant group

75% 80% 85% 90% 95% 100% 105% 110% 115% 120%

Pay

ou

t as

% o

f Ta

rget

Achievement % of Target Performance

Division A Division B Corporate

Range of Peer Practices

200%

175%

150%

125%

100%

75%

50%


Agenda








Combination of Long-term Incentive Awards

Long-term Incentives (LTI)

84% use two or three LTI vehicles for senior executives. LTI can serve a number of goals including:

– Retention

– Rewards for long-term operational performance

– Rewards for shareholder value creation

The most common mix is the use of time vested restricted stock and performance shares.

The most common change in LTI mix is adding performance based awards.

Stock options usage is declining.

– ISS methodology can be punitive. Time vesting stock options are not considered performance-based.

– Bank regulators can be wary of stock option usage.

The most common performance period is 3 years, often using relative measures.


Agenda








Focus on Pay for Performance

Shareholders are demanding that companies demonstrate the relationship between executive pay and performance.

In addition to total shareholder return, using a composite of operational performance can show another valuable view.

One, three and five-year comparisons may be helpful.

The definition of compensation matters in the analysis.

– Pay opportunity

– Realized pay


Focus on Pay for Performance

We would like a better understanding of our relative pay-performance alignment compared to peer banks … how can we do that?


0%

50%

100%

0% 50% 100%

Low Relative Pay forHigh Relative Performance

High Relative Pay forLow Relative Performance

Focus on Pay for Performance Pay-Performance Alignment

Quantification of Relative Pay-Performance Alignment Requires:

Identification of relevant comparator companies

Definitions of “Pay” and “Performance”

Time period(s) over which relative comparisons are evaluated

Perf

orm

ance

Per

cen

tile

Ran

k

Pay Percentile Rank


Agenda








Revisit Director Compensation Levels

Director pay during the financial crisis remained relatively flat.

– Minor changes; more committee pay.

As bank profitability and share prices recover, institutions are considering changes to director pay

Boards are starting to consider retainer-only approaches.

– Less administration.

– SEC rules or internal policies require acceptable levels of attendance.

Questions to ask:

– Should regular, periodic cash and equity distributions be made (e.g., quarterly)?

– Should the payments be upfront or in arrears?

– Should there be a meeting fee if board or committee meetings go over a certain number?

– Does the board have ad hoc or infrequent committee meetings for certain committees?

Documents

Top 5 Compensation Governance and Pay Trends · Top 5 Compensation and Governance Trends 1. Realign compensation with business strategy 2. Demand rigor in goal setting 3. Consider