The practice of tying executive compensation to environmental and social performance metrics is on the rise, according to a study by ISS Governance Solutions obtained by Pensions & Investments.
ISS Governance officials reviewed proxies from the 2021 season that cover 2020 pay packages, and found that roughly 10% of U.S. companies included one or more environmental and social performance, or E&S, metrics in their compensation programs, up from 3.5% in 2012. ISS covers the largest 3,500 companies.
Social metrics like worker safety were still the top metric applied to pay, but the fastest growing metrics were environmental including climate change and diversity, according to the review.
"We believe this is a trend driven by investor engagement," particularly over the last two years, Michael Fassil, head of thought leadership for ISS Governance Solutions, said in an interview. That engagement is driven by several factors, including the COVID-19 pandemic, social justice movements and climate change awareness, as well as more emphasis on how companies are reporting their actions on those issues, he said.
Connecting those concerns to how executives are compensated "appears to have increased materially. The metrics were coinciding, and 2020 may be some sort of an inflection point," Mr. Fassil said.
The review found that E&S metrics tended to be included in short-term incentive plans as opposed to long-term plans that offer the most value to executives. One possibility considered by ISS Governance Solutions is that some companies could be testing E&S metrics in short-term incentives first before adding to long-term commitments that are harder to adjust or reverse because they require longer range planning and data.
Companies including E&S metrics in short-term pay plans tended to include more than one metric, ISS found. Five years ago, of the 65 S&P 500 companies including E&S metrics, less than 20% had more than one. By 2020, 100 S&P 500 companies included roughly 150 metrics. "This suggests that once companies start to include E&S metrics in their compensation design, they often include more than one E&S metric" in short-term incentive plans, according to the review.
By industry, the utility sector has the highest prevalence of E&S metrics in pay packages, while the real estate sector and consumer staples experienced the biggest jumps.
ISS Governance Solutions plans to conduct a similar review next year.
