Historically speaking, remuneration issues largely consisted of discussions between board directors and their top executives. The upset in the marketplace and the failings of major corporations have caused shareholders and institutional investors to take a deeper interest in remuneration issues than they have in the past, and even to become activists as they see fit. The extra scrutiny of remuneration issues by shareholders and others puts increased pressure on boards to put together competitive and fair remuneration packages.
The level and extent of remuneration varies greatly between companies and within industries. The complexity of striking a balance between rewarding top talent and aligning pay with performance requires boards to be informed before making decisions. Remuneration committees have the time and expertise to help inform the board. Thus, their recommendations are highly valued by their boards. The challenge for remuneration is getting the right data and considering all factors to help the committee make sound recommendations for the board.
What Is the Role of the Remuneration Committee in Corporate Governance?
Almost any board director can serve on a remuneration committee; however, it's best if at least one member has some experience in developing remuneration packages, including the structure and cost of all elements of the executive package.
In addition to being adept at designing remuneration packages, the role of the remuneration committee requires committee members to have a thorough understanding of the company and the internal and external forces that shape director and executive remuneration.
Remuneration committee members must also be aware of the external pressures to link remuneration with performance.
The role of the remuneration committee in corporate governance is to help boards fulfill all of their board duties with integrity and in an ethical manner.
What Are the Key Factors in the Role of Remuneration Decisions?
Multiple factors play a role in a committee's decision to make recommendations to their boards for remuneration consideration. Remuneration committees consider the following issues some of the most common factors in finalizing remuneration packages:
Market capitalization is a factor in remuneration, but it isn't usually a factor on its own accord. The size and success of the corporation certainly affect how much companies can pay for their top leaders. Company size affects base salary levels, annual bonuses, performance measures and long-term incentive plans.
Companies can use various measures to represent their size, including revenue, capital employed, financial margins and financial structures.
Performance Record and Prospects
The stage of a business's development has a strong bearing on remuneration packages. In their roles on the remuneration committee, committee members must consider whether the company is new or whether it's well-established and showing strength. Some companies may be stable with little growth and great prospects. These circumstances may call for strong remuneration benefits. Companies that are going through such challenges as recovery or transition, or those that are dealing with unexpected challenges and unpredictability, may need to take a more reserved approach toward remuneration.
Some industries inherently have higher revenue potential. Regardless of the type of industry, a company's position within its own industry also influences remuneration, either positively or negatively.
The norms for board and executive pay in the United States are notably different than the norms in the United Kingdom and other European nations. For companies that operate in various parts of the world, it muddies the waters when it comes to making decisions about which structure to follow. Remuneration committees must carefully consider whether they should pattern their remuneration policies after international or high-tech companies, as opposed to companies of a similar size.
Cash Flow and Debt Levels
Smaller companies are more likely to struggle with high debt ratios and limited cash flows. Director and executive pay are often the most significant part of business expenses. Relieving cash flow issues and reducing debt are essential factors for the remuneration committees of smaller companies to consider.
Key Performance Measures
The duties and the role of the remuneration committee require them to select measures that shareholders will understand and find meaningful in order to prevent undue shareholder activism. Shareholders are also likely to compare the company's key performance measures against those of its competitors. Committee members should also be able to effectively apply key performance measures to short- and long-term incentives.
Understanding Company Culture and Values
Every organization has its own culture and values. These issues are often reflected in a company's remuneration practices in the design of the incentives, types of benefits and level of remuneration. Committee members should avoid compromising their values to increase remuneration, as abiding by established corporate values will ultimately lead to success.
Understanding Current Arrangements
Previous remuneration committee members can be instrumental in providing the basis for setting up remuneration in relation to the marketplace, approach to long- and short-term incentives, severance pay and compensation for financial losses due to changes of control. Past committee members can also shed light on how they considered base salaries, bonuses, long-term and incentive grants in the recent past. Discussions between old and new committees might also include issues such as upcoming changes in business strategy, special arrangements for individual directors, and any anomalies related to new hires and upcoming retirees. The advice of outside advisors may also influence remuneration, including how those advisors got appointed and their reputations for providing sound market advice and strategies.
Understanding Stakeholder Interests
Board directors, executives and shareholders aren't the only ones taking an interest in remuneration packages. Certain interest groups can also greatly influence decisions about corporate remuneration. Interest groups can be outwardly and publicly outspoken at times, which can cause reputational damage to companies and increase shareholder activism.
Understanding the Market
Members of remuneration committees must have a good understanding of markets and market data. This is no easy task considering much of the data they receive is subject to question and interpretation. After dissecting data, committee members must consider any parameters and boundaries that shape the data.