Remuneration policies and practices have created social division and even the breakdown in trust between companies and employees.
Communication and education are key tools to bring clarity and, with it, lessen tensions.
For many, the huge disparities between the rewards assigned to executives and the wages paid to other employees are concrete evidence of a basic unfairness underpinning 21st century capitalism. Global outrage over executive packages that are perceived to be too high was one driver of the Occupy Wall Street and similar movements, and remuneration has become a hot topic at shareholder and board meetings.
Given its past, this issue is one that is particularly toxic in the South African business world. It is an unfortunate legacy of apartheid that whites are over-represented among the ranks of senior corporate leadership. In this context, wage disparities take on a distinctly racial complexion, a fact that political parties and unions have been quick to exploit.
Unhappiness about the wage gap between top and bottom earners is helping to create the unstable industrial relations that plague South African industry.
Those who are worried have a point. In the United States, which has the highest wage gap, the average CEO earns 164.4 times what the median worker earns, according to 2014 research. The same research pegs South Africa at fifth in the world, with CEOs earning 73.1 times as much as the average worker.
Of course, these ratios increase dramatically when CEO pay is compared with the lowest wages in the company.
Responding to these concerns, and the negative effect of wage disparity on corporate sustainability, the draft of King IV recommends that boards should “consider and disclose the measures put in place to attain fair and responsible executive remuneration in the context of overall employee remuneration”.
The key words here are “consider and disclose”, because it is clear that the perception that high wages are immoral can only be countered by communication and education and here I think those companies that employ a reward professional would be well advised to use him or her. Part of the disconnect between workers and unions on the one hand, and bosses on the other, is that the principles of the company’s remuneration policy are not properly understood. This gap can only be bridged when these principles are effectively communicated in language that everybody can understand.
Ready for scrutiny?
However, it also has to be recognised that communication and education will only work if the remuneration policies are well-constructed and that there is constant oversight by the board to ascertain that they are, in fact, working as planned. This oversight must come from the board rather than the executive team. The board must also ensure that the company’s remuneration principles and practices are communicated to, and are understood by, all stakeholders.
It goes without saying that boards will need to heed the comments and concerns expressed by stakeholders, and will have to accept that any weaknesses in their remuneration strategy will become matters of public record.
One of the challenges they face is that linking pay to performance is extremely tricky to get right, and has led to many unintended consequences. The guiding principle here should be to ensure that the desired outcomes are achieved before the executive is rewarded, and that the risk to which an executive exposes the company in pursuit of the outcomes is factored into the remuneration. Integrating the risk profile into the remuneration strategy will require good judgement, and will have to include difficult-to-measure risks such as liquidity risk, reputation risk and cost of capital. Considering the wider context is also important, and the optics of remuneration packages needs to be right too.
Whether or not companies have the services of a reward professional, the following best practices serve as a useful guide:
When benchmarking, compare executive guaranteed pay to organisations of similar size and complexity. Benchmarking provides a basis for comparison and provides some justification for the remuneration model chosen.
Link pay to performance
Executive variable pay should be linked directly to company performance and the executive’s ascertainable contribution to it. The right measures need to be found to ensure that executives are not rewarded for achieving results that, in the long term, could affect sustainability. Incentives for cutting costs could be achieved by reducing R&D or maintenance, with drastic long-term consequences, for example.
Enhance stakeholder value
It is imperative that stakeholder value is enhanced and remuneration is sustainable. In pursuit of incentives, executives can create projects that deliver once-off results. In today’s world, too, creating value for shareholders is not adequate to secure a company’s social licence to operate.
Report remuneration in a way that is accessible to all stakeholders
Remuneration is extremely complex; as King IV makes clear, companies have an obligation to disclose their remuneration policy in a way that is understandable by all stakeholders.
Remuneration goes to the heart of corporate sustainability in all sorts of ways. Getting it right has never been harder or more vital.
Dr Mark Bussin is the Executive Committee Member, South African Reward Association (SARA).