The Advisors' Blog

Companies are still finding goal-setting to be especially challenging in this uncertain environment. Pay Governance reports that some compensation committees are considering some more unique, and more flexible approaches to incentive design to reduce the risk of payouts that, on one end of the spectrum, demotivate employees and, on the other end, vex shareholders. One of those unique approaches is the use of relative metrics — that is, beyond rTSR. This latest Pay Governance piece says:

[R]elative TSR can be influenced by factors outside of management’s control and provides less direct line of sight to the financial/operational goals the management team may need to focus on. Relative financial metrics, on the other hand, can provide direct focus to the management team on core financial measures in the company’s business plan while also avoiding the need to set goals in an uncertain environment.

Pay Governance researched S&P 500 proxy disclosures and found that:

– Only 3% of utilized relative financial metrics in 2024 STI plans, while 13% used them in LTI plans. These figures have generally held steady since 2019.

– Relative financial metrics were more common at companies in Financial Services and Industrials with prevalence of 30% and 21% respectively in 2024.

– Return and profit metrics are the most prevalent, followed by revenue. Return metrics include metrics such as return on equity and return on capital. Profit metrics include metrics such as earnings per share, operating margin, and net income.

– For both relative profit and revenue metrics, performance is typically measured in terms of growth over a specified period, regardless if included in STI or LTI plans.

– Among LTI plans, the most common performance period is three years.

– The majority of companies using relative financial metrics incorporate them as weighted metrics as opposed to incorporating as a modifier on the overall results.

But relative metrics come with their own challenges. Pay Governance says that, while relative metrics have some clear pros — rewarding outperformance, alleviating the need to set absolute goals, easier performance curves, potentially less payout volatility and possibly favorable perception by investors — they also have some procedural cons — including potential delay and difficulty in calculating results for the comparator group, challenges with defining the comparator metric (“e.g. change over the period versus absolute results, safeguards for mergers and acquisitions, adjustments, etc.”) and challenges with comparing non-GAAP metrics. Nothing’s ever easy!

– Meredith Ervine