The Advisors' Blog

– Broc Romanek

Here’s an excerpt from this note by Willis Towers Watson’s Bill Kalten & Steve Seelig:

A clawback policy addresses what to do after the fact. Helping ensure that a company has done everything it can structurally to discourage actions or events that would cause reputational harm is paramount, although some of those actions are beyond the scope of pay programs. Within the compensation realm, it appears that virtually all public companies already perform some degree of risk review. It might be a good idea to revisit this review process to reassure the compensation committee that reputational risks are unlikely to be exacerbated by pay structures.

This raises the question of whether a review of the mechanics of the pay program and its risk-mitigation features, such as mandatory deferrals, is sufficient. These reviews need to go deeper than a mere “check the box” exercise — real attention should be paid to likely behavioral responses to a given pay structure.

The details of how this might be accomplished and how deep within the organization this inquiry should go will vary for each company. The essence of this review, however, must focus on asking managers to identify the potential unintended consequences of their pay structures, which should turn out to be knowable if the right people are asked.

While a company can’t anticipate and prevent all possible misbehavior, a thorough review focusing on likely responses to specific incentive structures — such as finding that a particular metric and payout curve could provide incentives for overly aggressive growth — should provide additional insights into the organization’s culture and perhaps reduce the motivations that prompt unwanted behavior.