Executive compensation packages are frequently tied to the achievement of a set of specified goals, whereas traditional employees receive fixed pay packages or wages. This is a significant difference between how executives are compensated and how salaried employees are compensated. As a result, the company's executives would only receive a portion of their prospective compensation if the company underperformed its annual goals. Over the past 20 years, incentive-based pay for executives and senior management has almost become standard. It is presumed that executives will perform better and provide more value to shareholders if they are highly incentivised; the desire to align the interests of management and shareholders has been a major driving force behind this transformation in developed economies.[i]
According to data by WTW, a US advice and broking organisation, the usage of environmental, social, and governance (ESG) measures in CEO compensation plans in the UK has increased from 81% to 89%. In the UK, ESG-related goals can be included in both short- and long-term payment plans. The report found that 85% of UK plc companies tied at least one ESG factor into their short-term remuneration packages, up from 79% the year before. In the previous year, the percentage of businesses that included at least one ESG metric in their long-term pay plan increased from 24% to 37%. According to the report, this trend is expected to persist, if not intensify, over the next few years.[ii]
According to research, businesses that implement long-term incentive plans for their CEOs engage in more "long-termist" activities, including investing in stakeholder relationships and innovation. However, although the effectiveness of linking incentives to long-term results is well known, many businesses continue to put off including such incentives in their executives' compensation packages.[iii] Specifically, the linking of executive pay to ESG credentials has resulted in a heightened material decrease in carbon emissions.[iv]
Source: Natwest
Despite previous successes in incentivising ESG goals through executive compensation, Planet Tracker has identified that the Textile industry is failing to match up against other industries.
In order to determine whether there is a relationship between implementing sustainability efforts and executive salary, also known as "sustainability-linked performance-based pay", Planet Tracker has examined the executive compensation and sustainability policies of 30 of the biggest consumer-facing textile firms. 28 of the 30 businesses Planet Tracker examined have executive remuneration policies that include performance-based executive pay, and all 30 have sustainability strategies. Most significantly, there is no correlation between performance-based pay and sustainable action for 17 of the 30 businesses, including Anta Sports, Gap, Levi Strauss, Nordstrom, Under Armour, and Victoria's Secret.[v]
Planet Tracker highlights for the businesses where there is a connection between sustainability and compensation:
Planet Tracker urged investors to support performance compensation that is effectively connected to sustainability to close this gap. Given that the analysed companies' top 20 equity investors had a combined $278 billion of private capital invested in the sector, the think tank claimed that shareholders have a significant influence on these businesses’ policies. Companies should establish precise, measurable annual targets tied to sustainability progress with both medium- and long-term views in order to ensure that compensation schemes produce significant change. According to the study, they should put a sizeable portion of income at risk based on sustainability performance, such as 10%. Additionally, sustainability goals must be separate from financial goals and, after being set, must be independently verified to protect against greenwashing and enable company comparisons.[vii]
Further research on the value of ESG-linked pay by Principles of Responsible Investment (PRI) has also suggested that ESG guidance itself is a hindrance to effectively using compensation to drive positive change. For example, PRI suggests that vague ESG factors can increase the complexity of remuneration structures, and an overemphasis on some ESG metrics could undermine sustainability goals (e.g., linking metrics like time lost due to injury to pay could discourage accurate reporting and risk monitoring). Additionally, ESG targets that are too simple to reach may unduly increase executive pay, especially during economic downturns.[viii]
[i] PWC- Linking executive pay to ESG goals
[ii] ICAEW- UK executive pay increasingly linked to ESG targets
[iii] Harvard Business Review- Linking Executive Pay to Sustainability Goals
[iv] Natwest- Linking ESG to executive pay: companies and investment firms need clearer, more consistent standards
[v] Planet Tracker- Textiles Compensation: Sustainability-pay disconnect
[vi] Ibid
[vii] Ibid
[viii] PRI- ESG-linked pay: Recommendations for investors
Oscar is a recent graduate with a background in earth science. He is currently studying an MSc focussing on disaster responses, emergency planning and community resilience. His postgraduate research project will assess the link between climate crisis risk perception and attitudes to green energy projects. “Adapting to the climate crisis through the pursuit of net zero requires community engagement and understanding. Zero Carbon Academy’s goals closely align with this approach and I’m excited to have the opportunity to research and communicate a variety of topics relating to our environment and sustainability”.
