The Advisors' Blog

ESG metrics have grown in popularity despite the fact that many institutional investor policies still don’t expect or push for non-financial metrics in incentive plans. What is driving companies to include them? This recent CLS Blue Sky blog discusses a study that suggests that the “choice to include non-financial metrics in executive incentive plans is a strategic response to heightened regulatory scrutiny and reputational concerns within a firm’s industry.”

Using a sample of “corporate non-financial violations and executive annual bonus plans with available vesting metric details in S&P 1500 firms between 2006 and 2019,” the study compared rates of non-financial violations to rates of companies incorporating at least one non-financial metric into annual bonuses.

Our further analysis indicates that firms are more likely to include non-financial metrics in annual bonuses when there is a higher frequency of non-financial violations within an industry. Specifically, these adjustments are primarily driven by responses to ESG violations, especially environmental and social, rather than other types of non-financial violations. These results support our prediction that firms tailor their pay-for-performance policies to promote executive accountability on responsibility targets and demonstrate a commitment to responsible management.

We’ve seen some prominent examples of the adoption of ESG metrics following direct regulatory scrutiny just this year — I immediately thought of Microsoft and Boeing.

– Meredith Ervine