July 17, 2023
Pay vs. Performance: Time-Tested Models Are More Useful Than “CAP”
With pay versus performance disclosures creating a shiny new number to analyze – “compensation actually paid” – lots of data folks are excitedly slicing & dicing the figures to find out “what these disclosures tell us.” But do the PvP disclosures really tell compensation committees – or shareholders – anything that they don’t already know using the sophisticated models that they’ve developed over the past decade?
This Semler Brossy memo says that at the very least, CAP won’t be a good substitute for holistic, time-tested approaches to assessing the link between pay & performance. Here’s the intro:
The commonly accepted view is that CAP directionally represents the change in equity holding power for an executive in a given year. However, CAP values are highly dependent on pay design, the timing of pay increases for an individual executive, stock price at the end of fiscal years, and other factors that are not immediately apparent when reviewing the disclosure. As a result, companies with similar total shareholder return (“TSR”) performance over a defined timeframe can have divergent PvP outcomes that can be difficult to reconcile without a deeper understanding of the CAP methodology’s idiosyncrasies.
The disclosure sheds light on specific elements of pay and performance but is not a substitute for time-tested approaches to assess a pay program’s efficacy and alignment with performance over a multi-year time horizon. Board compensation committees should continue to rely on more robust benchmarking and outcome-based analyses to assess pay programs. Competitive pay benchmarking, incentive goal rigor analyses, and more traditional realizable pay analyses provide a more exhaustive set of tools to calibrate and assess pay and performance.
The memo articulates 7 factors and 3 real-world case studies to illustrate that although CAP and the related PvP disclosures can be a helpful “back-of-the-envelope” snapshot of changes in executives’ equity holding power in a given year, the data isn’t all that valuable for assessing pay-for-performance.
– Liz Dunshee