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How boards can address discontent over executive pay

By | 03/10/2019 in Blog posts

The ability of boards to regulate executive pay is again being questioned, as MPs fast track an inquiry into “corporate greed” at Thomas Cook

Few people would question the need for a Thomas Cook inquiry to investigate why bosses took £20m in bonuses while overseeing the collapse of the company, resulting in the loss of 9,000 jobs and stranding 150,000 Brits abroad. However, it’s not just corporate failures creating a backlash against current levels of executive pay.

Since January, listed companies employing over 250 people have had to publish the difference between what their CEO is paid and what the average worker gets paid, under new corporate governance requirements. This has revealed that it would take most workers two lifetimes to earn what top execs get in a single year, with the average FTSE 100 boss earning £3.5m a year, 117 times more than the average full-time UK worker, at £29,574.

Although this has fallen by 13% compared to last year, the Business Select Committee wants more to be done to make sure businesses are sharing rewards with workers, while the High Pay Centre, an independent think tank, is urging boards to ‘align pay with the wider interests of society.’

At the same time, the recent decision of 70% of Royal Mail shareholders to vote against a £5.8m “golden hello” for new boss Rico Back highlights the extent to which shareholders are becoming increasingly willing to object to what they see as excessive pay.

This all puts pressure on boards to do more to link executive pay to high performance over the long term. So what can boards do to respond?

Three ways to prevent executive pay becoming an issue

1. Broaden your talent pool

The pressure that boards are under to be seen to be governing wisely and not taking unnecessary risks often creates boardroom desire to hire a ‘tried and tested’ chief executive, someone with a ‘proven’ track record and relevant industry experience.

However, these individuals come with a hefty price tag and no guarantee of success. So one of the best ways to close the differential between CEO and employee pay, is to look outside of the usual closed groups and networks, placing less importance of existing track record and industry experience and more focus on the behaviours and competencies needed to successfully run a business.

Female CEOs, for example, cost 54 per cent less than their male counterparts, even though research by McKinsey shows companies in the top quartile for gender diversity are 20 per cent more likely to have above average financial performance. Despite this, there are more CEOs called Dave than women CEOs in the FSTE 100, highlighting the extent to which companies are still paying a huge premium to compete for ‘proven’ talent. This makes it harder for new talent to gain the experience needed to enter these pools and increases the market rate for those who already reside in them.

2. Support remuneration committees

Remuneration committees need to be given the same level of support as risk and audit committees so that important issues can be discussed, such as what more could be done to link bonuses to the long-term sustainability of the business and whether or not the business is doing enough to establish an internal pipeline of future leaders.

However, in reality, the topic of executive pay may well fall down the agenda, or not have enough time allocated to it. So while individual directors might highlight concerns to the chair of the remuneration committee, there often isn’t the opportunity to raise and discuss them collectively in board meetings.

At the same time, chairs of remuneration committees often report what a lonely and unrewarding job it can be. So, it’s important that boards recognise and engage with the individuals tasked with this huge responsibility, giving them the time and support needed to get under the skin of what action needs to take place and how best to make it happen. As well as giving them the opportunity to interact with other remuneration chairs so they can share fresh insights and bring best practice back to the organisation.

3. Recognise it’s an emotive issue

With one in five workers skipping meals to make ends meet and two thirds saying their biggest concern about work is pay not keeping up with living costs, tolerance for large director bonuses, while wages continue to stagnate, is at an all-time low.

Boards that want to reduce the reputational risks now associated with the issue must think carefully about their duties under revisions to section 172 of the Companies Act 2006, which requires the director of a company to ‘act in the way he [or she] considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole’ – specifically including ‘the interests of the company’s employees’.

This requires thinking about how best to create a culture of fairness when it comes to sharing any company profits. For example, could the consequence of a multi-million pound director bonus be that no-one else gets a pay rise? Are directors carrying enough risk, with their packages linked to transparent and meaningful long-term measures of performance? And where rewards for success are offered, are these being linked to broader objectives, such as the impact of the company on the employees, society and the environment?

Only by setting aside sufficient time to properly debate the board’s approach to executive pay, supporting the remuneration committee and ensuring all appropriately talented people are considered for the top jobs, can boards that haven’t already addressed the issue to good effect start to do so.

The annual board review can be a good time to do this, allowing the time and space needed to review the topic of executive pay, and how openly board members feel able to discuss this, in the context of other governance issues.

Alison Gill is a behavioural psychologist, triple Olympian and the co-founder of Bvalco, a board evaluation consultancy focused on helping boards become fit for the future.

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