As Canada continues to climb out of recession, business is beginning to see compensation rates recover. And by 2010, some industries should see bonuses and pay increases reach pre-recession levels, says Robert Levasseur, a senior executive compensation consultant at Watson Wyatt in Toronto.
In perhaps the first indication of recovery, the financial sector is showing signs of a return to previous standards, he says.
“The financial sector is unique,” he says. “Especially when we’re dealing with capital markets, bonuses are up again and sometimes higher.”
While it appears compensation levels are stabilizing, the financial crisis has led shareholders to call for changes in the way compensation is calculated, he says.
“We are finding that shareholders are becoming more active in executive compensation and are scrutinizing the way compensation plans are structured a lot more than before,” says Levasseur. “They are trying to find the links between pay and performance.”
Large executive bonus payouts in the wake of crumbling business served as the catalyst for a re-evaluation of executive pay policies, says Jeffrey Gandz, a professor at the University of Western Ontario’s Richard Ivey School of Business in London, Ont.
In March, it was revealed executives from struggling financial firm AIG collected millions in bonuses not long after the company received billions of dollars in bailout money from Washington. While most executives eventually gave the money back, the incident sparked a debate about the balance between compensation payouts for retention and reasonable rewards for corporate performance.
“One of the appalling problems of the last year is that you’ve had a huge amount of executive pay that was variable compensation, that was not aligned to the shareholder interests because it didn’t take risk into account,” says Gandz. “It took income into account but their income was in many, many cases obtained as a consequence of much increased risk on the balance sheet.”
While outright payouts are being re-evaluated, boards have virtually eliminated stock options for executives, he says. Now, there is a clear trend towards deferred stock units.
Providing stock options to executives created a misalignment in interests and created a situation where a company could do badly but an executive “could merely not gain,” says Gandz.
“With real stock, if the shareholders lose, the executive loses, so there is a closer alignment when it is done with stock rather than stock options,” he says.
While the pressure from shareholders will eventually ease, says Levasseur, organizations will continue to grapple with new ways of determining executive compensation.
There has been a lot of talk about instituting clawbacks — forcing an executive to repay compensation for wrongdoing — but it is challenging to measure the impact a risky decision has on a company years after it’s made, he says.
“It’s a little more difficult to determine how much you contribute to the investment going bad,” says Levasseur.
Beyond issues of enforceability, clawbacks have particularly harsh tax consequences for an executive, says Gloria Geddes, national leader of the Gowling, Lafleur, Henderson executive compensation group in Toronto.
“The amount received will have been taxed and there is no offsetting deduction for the amount that the executive is required to pay back to the company,” she says.
Another option boards have begun to discuss is deferred payments based on performance, says Gandz.
Last year, there were a couple of situations where compensation, to be paid the following year was calculated based on positive business performance, he says. However, the severe deterioration between the time the bonus was calculated and the payout deadline led boards to re-evaluate the waiting period for compensation.
“Increasingly, there is a trend towards saying, ‘Look, we will do executive compensation but it may be subject to what happens in the next couple of years of performance,’” says Gandz.
It’s a deferred payment depending on the outcomes, he says.
“If a CEO has magnificent performance until June 2009 and (she is) granted $2 million in compensation but the bottom falls out in the next year, that may not be a firm $2 million,” says Gandz.
The restrictive nature of the Canada tax act presents a problem for companies considering deferred payment, says Levasseur.
“The level of deferral that you can institute is limited,” he says. “The act is so restrictive that you can’t defer for more than three years.”
Angela Scappatura is the editor of Canadian Compensation & Benefits Reporter, a sister publication to Canadian HR Reporter that focuses on total rewards. For more information, visit www.hrreporter.com/ccbr.
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