Equity Methods at the Equilar Summit 2023
Equity Methods was a sponsor of the Equilar Summit, which took place from May 31 to June 2 in Nashville. We helped lead three of the sessions and two of the breakout roundtables. We’ve attended this conference since its beginnings over 10 years ago, and this year’s was nothing short of outstanding. Our kudos to David Chun, Belen Gomez, Will Main, and the entire Equilar team.
Below we share takeaways from the sessions we led as well as other sessions we had the opportunity to join and listen in to.
Compensation Committee: Fireside Chat
On the last day of the conference, Anna Catalano (board member) and Ron Schneider (Donnelley Financial Solutions) hosted an interesting discussion about the evolving role of the compensation committee of the board of directors. Anna is a serial board member and, prior to this vocation, built an exemplary career in marketing, sales, and operations.
The key message: The compensation committee must take a more active role in exercising oversight of the human capital management of the organization. It’s not enough to simply meet a few times each year, review some benchmarking statistics for the top five executives, and approve annual grants.
As a former marketer, Anna emphasized the importance of clearly articulating the company’s pay for performance story in the proxy. With a stable and small number of companies failing say-on-pay each year, it’s easy for complacency to set in. Reviews of the proxy may become rote, last-minute, and too much of a mechanical roll-forward of the prior year. Management, the compensation committee, and the committee’s consultant should start early and carefully assess key themes from shareholder outreach, what elements of the proxy message are resonating, and important program changes to highlight.
Similarly, the compensation committee and chief human resources officer (CHRO) need to stay on top of trends in SEC rule-making and program design. The landscape is changing too rapidly to be a passive observer and respond in the moment instead of setting proactive plans in motion before they’re needed. Examples include long-term incentive design and anticipating new program design features, regulations such as the new 10b5-1 rule, and even longer-run areas like external disclosure of pay equity progress.
In this vein, the compensation committee’s charter is undoubtedly widening, whether or not it’s formally reflected in the charter. Leading committees are engaging more broadly on human capital topics as a whole, including culture, employee engagement, pay equity, and succession at all levels.
As conference participants, we were so pleased to visit with multiple compensation committee members and CHROs, and see how engaged they were with the various agenda topics.
Navigating the New SEC Pay vs. Performance Rules: Lessons Learned and What’s Around the Corner
Our CEO Takis Makridis joined Will Main (Equilar), Chris Hamilton (PwC), and Rob Miceli (Bank of America) to run the conference’s closing session. They offered a look back and look forward on the SEC’s pay vs. performance (PvP) disclosure rule.
Will moderated this cross-functional panel, beginning with a walk-through of key lessons. The final PvP rules were released on August 25, 2022 and most large companies were expected to supply their compensation committees with drafts by November or December. By way of contrast, the SEC gave a three-year preparation runway for the CEO pay ratio disclosure, which most would consider to be an easier feat. The panel unanimously agreed that aside from mastering the theory, PvP presented major challenges in cross-functional collaboration as executive compensation, finance, legal, the compensation committee, external counsel, and valuation consultants needed to quickly align on roles and responsibilities.
Looking forward, year two is largely going to be about superior analytics and explanations of the “why” behind movements in the new metric: compensation actually paid (CAP). Year one showed that CAP can move in unexpected ways given the sheer volume of data behind it. Compensation committees and management will need clear, pithy, and precise explanations that address the classic finance question, “What changed and why?”
Year two will also involve strengthening controls and stabilizing processes. With so many moving parts, there are significant risks of errors in producing the PvP disclosure. The proxy is a particularly risky document since it’s not audited and the control benefits of an external audit don’t exist. (This is one of many reasons why we at Equity Methods have invested so heavily in automation. Our clients need not only subject matter expertise, but greater reliability and more robust processes.)
Looking even farther into the future, two big questions are whether the media will weaponize PvP disclosures and proxy advisors will find a way to grade these disclosures and incorporate those grades into their say-on-pay vote recommendations. The panel was mixed in its views, but agreed that proxy advisors have every motivation to design models that can assess and grade PvP outcomes.
Executive Compensation Practices: Should They Stay or Should They Go?
David Outlaw co-hosted a lively panel that also included Eric Hosken (Compensation Advisory Partners), Kristine Bhalla (ClearBridge Compensation Group), David Martin (PJT Camberview), and Lisa Coulson (Principal Financial Group). The panel argued pros and cons of various executive compensation practices, including some that are controversial and some that seem to be settled (or are they)?
The discussion touched on moonshot awards, stock options, CEO turnover, change-in-control vesting, and ESG metrics in compensation plans. In many cases, there are thought-provoking reasons why one size almost never fits all. For example, double-trigger vesting upon a change in control is the common practice, but that’s driven substantially by larger companies who are unlikely to be acquired. Industry practices vary much more where acquisition is a common goal. And even something controversial like a moonshot award can make perfect sense—even garner shareholder support—in cases where they’re constructed well and tailored to the company’s strategic goals.
As always, the lesson we take away is that every company and strategy is different. What works for most doesn’t work for all. A thoughtfully crafted, well-analyzed course of action that occasionally departs from best practices will almost always be preferable to following the crowd for its own sake.
Strategic Role of Cross-Functional Collaboration on Pay Equity
Therese Sebastian, Isabel Lazar (Baxter), and Stephania Sanon (McDermott Will & Emery) delivered a session on the different stakeholders, success factors, and pitfalls in running a best-in-class pay equity study.
The panel started by discussing the evolving requirements around pay equity and pay transparency laws across various states in the US—including more stringent rules in New York, California, and Illinois. Amidst the patchwork of pay equity laws domestically and internationally, fostering cross-functional collaboration between HR, legal, finance, business unit executives, and senior leadership teams is imperative to achieve and sustain pay equity within organizations. In particular, the CEO and the C-suite need to actively champion pay equity and set the tone at the top to ensure buy-in from the entire firm. The panel also highlighted the criticality of conducting thorough, robust pay audits to identify and rectify potential pay discrepancies. Collaboration, panelists added, is important for the development and implementation of comprehensive policies to ensure fair and equitable compensation practices across the organization.
Panelists then discussed key considerations related to external pay equity disclosure amidst pressure from various sources, including employees and investors. Less than one-third of publicly traded companies in the US disclose that they perform pay equity audits. An even smaller fraction disclose their actual pay equity results. While transparency can be a powerful tool in addressing pay disparities and advancing diversity and inclusion, the panelists remarked that currently low disclosure rates are unsurprising given the lack of mandatory pay gap reporting rules in the US as well as the potential drawbacks that come with disclosure. The latter includes the risk of misinterpretation, negative publicity, and litigation risk. The panel acknowledged that while external pay equity disclosure can have significant benefits, it requires a thoughtful approach that balances transparency with the organization’s specific circumstances and goals. The panelists also emphasized the importance of doing pay equity audits, ideally over multiple years, before taking the next step around external disclosure.
The session ended with a discussion of other aspects of fair pay beyond pay equity. These include leveling equity, promotion equity, and opportunity equity. While ensuring pay equity is an important first step, the conversation among multiple stakeholders—including employees, investors, and regulatory agencies—is evolving to capture these broader aspects of fair pay.
Evolving Compensation Strategies to Adapt to Market Volatility
The whole economy, and the tech sector in particular, has seen major whiplash in the last few years. Spiking valuations and the Great Resignation led to one of the most intense wars for talent in years, followed by slumping valuations and a reversal of hiring trends. Amidst all of this, it’s critical for compensation strategies to keep up.
That was the message of the panel hosted by Sara Bourdouane (Semler Brossy) and Michael McLernon (Instacart). The discussion covered practical elements like share pool management in a time of high equity needs and employee equity liquidity in a private company environment. Panelists also talked through frameworks for compensation philosophy, like how to balance the need for agility amid volatility without incessantly reacting to every change in the business climate.
It’s critical to use compensation as a means to support the business strategy as opposed to making it an end in itself. And the right moves to support the business may not be the same moves that the loudest market peers are making. By crafting a thoughtful philosophy, you can guide your decisions toward what will create long-term value for all of your stakeholders.
Ultimately, it’s a call for thoughtfulness and why the total rewards function has become so integral to a company’s talent strategy. It’s no surprise that compensation committees are either formally or informally broadening their charters to encompass human capital management as a whole.
Pay Equity on the Rocks: The Mixology of the Great Resignation, Mobility, and More
Therese Sebastian and Saswati Sen moderated an interactive roundtable session on pay equity. Many of the participants were from companies that have completed at least one gender and race-based pay equity audit, while a few were about to embark on doing the exercise for the very first time. The variety in experiences and perspectives represented in the room enabled sharing of ideas and best practices.
Participants recognized that regular pay equity audits are critical for organizations to monitor pay equity and proactively address any disparities that arise. A robust job architecture is a critical ingredient because it enables more objective salary structures that can be benchmarked to external market pay data. This is one reason why off-the-shelf tools often fail, as there’s judgment and iteration that goes into identifying and creating groups of like employees who perform substantially similar work.
There was also a lively discussion around compensation philosophies related to geographic pay differentials, particularly in the world of remote work, and how this has impacted pay equity. In order to retain and attract key talent in a tight labor market, participants shared that they sometimes had to agree to pay geo differentials when employees moved to higher cost of living areas, even though the move may not have been business critical. A discussion on best practices around the topic ensued.
Finally, participants shared their experiences around remediation when negative outliers are flagged in the analysis. (Negative outliers are employees with pay levels that are below a particular threshold predicted by the pay equity model.) Virtually everyone in the room shared that their companies had made pay adjustments to all types of employees, regardless of race or gender. While this approach may be more expensive to execute, participants agreed that it’s the right thing to do to ensure fair and equitable pay.
Pay Vs. Performance: Proxy Lessons Learned and Product Lab
One of the topical roundtables covered lessons learned in the recent proxy season for the pay vs. performance disclosure. Moderaters were David Outlaw, Brad Hayes, Boxian Kolb, Courtney Yu (Equilar), Luis Mendoza (Equilar), and Jervis Fernando (Equilar). Most of the room represented calendar-year companies who had recently gone live with PvP compliance for the first time. While they catch their breath at the finish line, issuers with later fiscal years are looking for tips on how to navigate their first disclosure without starting from scratch.
After sharing some statistics from the Equilar PvP Tracker and example disclosures, moderators fielded comments from the audience about their biggest challenges and lessons. Some felt their process was ultimately straightforward, albeit rushed. Others who didn’t have as much external or internal help bore a much larger burden. All felt that year two would be simpler from a compliance perspective, which opens up the question of how second-year expectations will differ—from investors, from proxy advisors, and from their own boards of directors.
Our take: Those expectations will be higher. Investors and proxy advisors had just as little warning as issuers, and therefore didn’t have a chance to form opinions on how to use the disclosures. But as the years of disclosure stack up, a clearer picture will start to form, and the information will become more decision-useful. Similarly, boards and compensation committees’ attention will go from the pure compliance of year one to wanting a year-two understanding of why things changed and how their decisions affect the results, just like they do for other elements of the proxy.