August 19, 2020

The global pandemic and resulting market volatility have been wreaking havoc on incentive plans and compensation committees have been wrestling with whether to adjust annual and long-term incentive awards.  In other words, should executives be penalized, or rewarded, for something largely out of their control?  Several companies have already disclosed changes in real time — on Form 8-Ks — but as companies with April and May fiscal year-ends have begun to file their proxy statements, we are getting a more in-depth look at the decision making process, and the adjustments, if any.

 

As of August 18, 11 S&P 500 companies with April or May fiscal year-ends have filed their annual proxies. Here is what we learned:

 

  • Three companies saw the demand for their products increase due to quarantine restrictions and stay at home orders, and posted positive year-over-year changes in 2020 Q4* revenue. Annual and long-term incentives generally paid out over 100% and no adjustments were made.
  • For eight companies, 2020 revenue was down 5% year-over-year at the median and 19% year-over-year for Q4*. 

─     Three did not adjust annual or long-term incentive plans — allowing the payout to be determined based on the parameters and financial goals set out at the beginning of the performance period.  For annual plans, this resulted in payouts ranging from 0% to 26% of target.  The Compensation Discussion and Analysis (CD&A) for these companies noted the unprecedented challenges the COVID-19 pandemic presented and the financial impact it had on performance, but in each case, the Compensation Committee opted not to adjust performance goals or reduce performance targets. Long-term incentives with performance periods ending in 2020 paid out at 147% - 191% of target.

 

─     Five disclosed annual incentive plan adjustments.  The specific approach varied from company to company, but the general goal of the adjustments was to “ring-fence” —remove the impact of — the COVID-impacted months from the formulaic calculation of whether goals were achieved.  This resulted in payouts that ranged from 32% to 100% of target as opposed to no payout at all.  The CD&As for these companies generally noted that performance during the first three quarters of fiscal 2020 reflected strong financial results and successful execution on strategic and operational objectives.  Compensation Committees cited a desire to reward pre-pandemic performance, ensure sustained employee engagement and retention, and actively support employees during an unprecedented time.

 

─     One company adjusted the payout of 2018 – 2020 long-term incentive awards by approximating performance during the first eleven quarters of the performance period.  This adjustment led to a payout of 75% of target as opposed to no payout at all.  The other three companies that granted a long-term incentive award with a performance period that ended in 2020 did not make an adjustment, resulting in payouts from 26% - 100% of target.

 

Compensation Committees considering action should evaluate the business case, including the following:

 

  • Whether broader workforce actions have been taken, such as pay cuts, layoffs, furloughs
  • Number of performance cycles affected and their scheduled end dates
  • Likelihood of achieving at least threshold performance under various performance scenarios
  • Whether current performance goals are absolute or relative, and whether awards already include a discretionary component
  • Level and number of employees affected
  • Status of other outstanding equity and cash awards
  • Likely reaction of proxy advisers and investors
  • Regulatory implications

As companies that have experienced a full quarter or more of performance results since the pandemic began (those with June or later fiscal year-ends) file their proxies, we will get a better idea of COVID-19’s impact on and the Compensation Committee’s increasingly difficult role in paying for performance.

 

For more information on alternatives to address nonperforming incentive plans, see Managing incentives during uncertain times and When performance shares are not performing for discussions of 2020 compensation decisions in response to COVID-19 and Proxy advisers weigh in on COVID-19's impact on pay and governance.

Change in Revenue from 2019 to 2020

Adam Bogucki
Adam Bogucki

Principal, Executive Compensation Consultant

Carol Silverman
Carol Silverman

Partner, Senior Legal Consultant

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