EY Human Capital Conference 2012: Trends in performance-based remuneration

2012 Human Capital Conference23–26 October

Trends in performance-based tiremuneration

Disclaimer

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► The views expressed by panelists in this session are not necessarily those of Ernst & Young LLP

Trends in performance-based remuneration

those of Ernst & Young LLP.

Presenters

► Allen Powley ► Henning Curtiy► GlaxoSmithKline plc► [email protected]

g► Ernst & Young GmbH► [email protected]


Agenda

► Regulatory trends► Short-term incentives (STI) — trends in executive

compensation► Long-term incentives (LTI) — trends in executive

compensation


Regulatory trends

Financial services regulations are still driving the emerging direction

Regulatory changes: examples Key messages

driving the emerging direction

► Troubled Asset Relief Program (TARP)

g y g p

► Pay mix/levels► Risk measurement

y g

► Dodd-Frank legislation► Financial Services Authority

(FSA)

► Appropriateness of executive compensation (say-on-pay)

► Bonus with clawback( )► Financial Stability Forum (FSF)

— G20► European Commission

► Bonus with clawback► Viral effect on other industries

p► German VorstAG and InstVergV► Walker Report — UK ► Corporations Act 2001 —► Corporations Act 2001

Australia► Corporations Amendment Bill

2011 — Australia


2011 Australia

Requirements for remuneration amounts or pay mix increased significantlyor pay mix increased significantly

► In Germany, the law on the appropriateness of executive compensation (VorstAG) calls for comparing compensation with peer group

European

comparing compensation with peer group companies and a long-term orientation of variable compensation.Th t di i tEuropean

governance frameworks

► The current discussion on corporate governance in the UK stresses the increasing importance of long-term-orientedexecutive remuneration.

► The Dutch Corporate Governance Code calls for a predominantly long-term orientation offor a predominantly long term orientation of variable compensation.


Current discussions may lead to future adaptations of long-term compensation

► In France, a ceiling for corporate officers of

adaptations of long term compensation

, g ppublic companies was set. Their salaries (base and recurring variable) will be limited to 20 times the average of the lowest salaries in these

European

times the average of the lowest salaries in these companies; a cap of €450,000 and its application in 2012 or 2013 has been discussedEuropean

governance frameworks

discussed.► Following the Spanish Code of Corporate

Governance, no requirements regarding compensation amounts or mix of pay elements currently apply.

► Current EU discussion may lead to future► Current EU discussion may lead to future Spanish requirements regarding a long-term orientation of compensation.


US regulations stress the pay-performance relation and risk assessmentrelation and risk assessment

► Dodd-Frank legislation focuses on say-on-pay, risk assessments, clawbacks and relationship pof CEO compensation to rank and file employee compensation.

Sh h ld d h h ld d i fiUS ► Shareholders and shareholder advisory firms are increasingly scrutinizing pay levels compared to company performance.

► The Securities and Exchange Commission (SEC) in continuing to require more detailed disclos res regarding e ec ti e compensationdisclosures regarding executive compensation.


Australian governance increases share-holder influence on executive compensationholder influence on executive compensation

► Australian governance framework does not explicitly regulate the quantum of pay or theexplicitly regulate the quantum of pay or the mix of pay elements of companies, but the Corporations Amendment Bill (2011) introduces

t t ik d l ti i ia two-strike and re-election process, increasing shareholders’ influence on board and executive remuneration.

Australia ► Shareholders generally focus on the following factors when considering executive pay:► Remuneration decisions should be transparent and► Remuneration decisions should be transparent and

justified (new regulation requires disclosure of details relating to the use of remuneration consultants).

► The quantum of pay should be justified and the link b t i bl d th ti fbetween variable pay, and the respective performance should be disclosed. Practice long-term incentives are expected to measure performance over at least three years.


ee yea s

STI trends

The pay-performance link in European STI plans is mostly via earnings related KPI

Performance criteria: Stoxx50Europe — STI plansEarnings

►Within the STI plans

plans is mostly via earnings related KPI

Others*

Return

►Within the STI plans analyzed, earnings-related criteria and other Key Performance Indicators

Individual

Cash

Performance Indicators (KPIs) such as strategic or operational performance targets are the most

Qualitative

Revenues

targets are the most common performance measures in European

Qualitative

n/a

Value

STI plans.►Also, return and cash-

related as well as individual0% 10% 20% 30% 40%

In % of all KPIs

addedrelated as well as individual goals are applied, but to a lesser extent than in 2010.

Source: 41 of 50 audited annual reports 2011 (without German DAX30 companies)


**Others may include operational and strategic performance, scorecard targets, other quantitative measures etc.; please note: within one plan ,one or more KPIs may be applied

German STI plans put a relatively stronger focus on individual goals

Performance criteria: DAX30 — STI plans

E i ►In 2011 earnings-related

focus on individual goals

Earnings

Individual

Return

►In 2011, earnings-related and individual indicators are still the most commonly applied performanceReturn

measure

Cash

applied performance measures.

►Furthermore, return Revenues

Qualitative

measures are also a common KPI used in German STI plans.

Others*

Value added

p

Percentage of plans

added0% 10% 20%


Source: 30 of 30 audited annual reports 2011*Others contain dividends and not further specified company goals; please note: within one plan, one or more KPIs may be applied

US plans predominantly assess performance by using earnings-related KPI

►Financial performance

performance by using earnings related KPIPerformance criteria: Sample of 250 US STI plans

►Financial performance indicators were complemented by individual performance measures in

Earnings

Revenue performance measures in most companies.

►Prevalence of cash flow

Revenuegoals

Cash flow

and return measures decreased slightly compared to the previous

flow

Returns

Oth p pyear.

►Revenue-related KPI use increased compared to

Other

increased compared to previous year.0% 20% 40% 60% 80%

Percentage of plans


Source: Audited annual reports 2011 of 250 listed companies

LTI trends

LTI plan designs show a distinct difference between Europe and US/Australiabetween Europe and US/Australia

► While STI plans demonstrate relatively

Worldwide

homogenous patterns worldwide, LTI plans are much more diverse across countries.

► European plan designs tend to be gearedWorldwide LTI trends

► European plan designs tend to be geared toward performance stock units (PSUs) while plan designs in the US are still dominated by stock options(SOs) / stock appreciation rightsstock options(SOs) / stock appreciation rights (SARs); nevertheless, PSUs are also gaining importance.


Source: Meridian Compensation Partners LLC, “2012 Trends and Developments in Executive Compensation”

LTI designs in Stoxx50 Europe companies are dominated by share-based equity-settled plans

Plantypen Stoxx50Europe

dominated by share based equity settled plans

►Active plans*: 43 plans►Thereof share based: 37 plans►Thereof non-share based: 5 plans

Settlement*:►Equity: 29 plans►Cash: 7 plans

Payout profile*:

►Cash: 7 plans►Mixed: 5 plans

►Shares/PSU: 24 plans►Stock options/SAR: 8 plans►Mixed: 5 plans►Mixed: 5 plans►Others: 6 plans

Source: 41 of 50 audited annual reports 2011 (without German DAX30 companies)


p ( p )* one or more companies make no disclosure; Please note: One company may apply one or more LTI plans

The prevalence of PSU plans in the UK is largely in line with general European trends

Plan types of FTSE 250 companies

►Equity-settled plan

largely in line with general European trends

Performance shares/units

►Equity settled plan types are predominant.

►P f h /Stock option

plan

►Performance shares/ units mainly take the form of nil cost

Share matching plan

options with a three-year performance period; within the

Special plans*

p ;exercise period options can be converted into shares

0% 20% 40% 60% 80%In % use of existing plans

converted into shares anytime because of tax reasons.


Source: Ernst & Young 2012„ Directors` remuneration in FTSE250 and smaller companies“;*please note: One company may apply one or more LTI plans; *Value creation plans

In the US, stock options are still widely applied despite the increasing use of PSUs

Equity vehicles of US companies

►Alth h ti l i

applied despite the increasing use of PSUs

Stock options

PSUs

►Although options are losing ground against full-value shares, they are still the

Restricted stock units

Restricted stock

most popular equity tool.►Full-value shares are

gaining popularity due toRestricted stock

SARs

Performance

gaining popularity due to increasing risk of a negative development of a share price as a result of

Other

Performance stock

share price as a result of adverse market condition. In this situation full-value instruments provide a more

0% 20% 40% 60% 80%In % use of existing plans

instruments provide a more certain payout.


Source: Deb Nielson, Kenexa, “Preparing for 2012 – Compensation Trends & Predictions”; “Equilar, 2011 Equity Trends Report – Update”

Stoxx50 LTI plans widely use TSR and EPSwhile earnings-related KPIs gain importance

Performance criteria: Stoxx50Europe – LTI plans

while earnings related KPIs gain importance

TSR

EPS

►The predominantly used KPIs in European LTI plans are total shareholder

Earnings

Others*

return (TSR) and earnings per share (EPS).

►Net profit and EBITDA areOthers

Cash

►Net profit and EBITDA are the most popular earnings-related KPIs and are more often applied in 2011 than

Revenues

Individual often applied in 2011 thanin 2010.

►Cost-related KPIs and

0% 10% 20% 30% 40%In % of all KPIs

non-financial KPIs are increasingly applied.


Source: 41 of 50 audited annual reports 2011 (without German DAX30 companies)* Others may include qualitative targets, other financial and non- financial targets; please note: one LTI plan may apply one or more hurdles; some companies make no disclosure

German plan designs gradually align applied KPIs to European trends

Performance criteria: DAX30 — LTI plans

applied KPIs to European trends

Earnings

Share priceReturn

►TSR is increasingly becoming more relevant in LTI plans compared toReturn

measureTSR

Qualitative

LTI plans compared to previous years.

►Earnings-related criteria

Others*

Revenues

Value added

and share price targets are the most common performance measures in

Cash

Individual

E i

2011.►Qualitative and individual

performance measures are

In % of all KPIs0% 10% 20%

Economic Value Added

(EVA)

performance measures are increasingly applied.


Source: 30 of 30 audited annual reports 2011*Others contain dividends and not further specified company goals; please note: within one plan one or more KPIs may be applied

The majority of US LTI plans use internal performance criteria

Performance criteria: % use of existing CEO incentive plans ►US companies

internal performance criteria

Performance criteria: % use of existing CEO incentive plans ►US companies predominantly used return measures, TSR

Financial measures USReturn (EPS ROI ROIC) 41 and profit are KPIs for

LTIPs.►Most KPIs used by US

Return (EPS, ROI, ROIC) 41

TSR 36

Profit 36 ►Most KPIs used by US companies are internal.Revenue 27

Individual performance 23

Other 14

Cash flow 5

Cost saving 2Cost saving 2

Quality 2


Source: Deb Nielson, Kenexa, “Preparing for 2012 – Compensation Trends and Predictions“; Equilar, “2011 Equity Trends Report – Update“

Shareholders are increasingly open to alternative KPI over the longer term

Performance criteria: % use of Top 100 companies — LTI plans

alternative KPI over the longer term

►Despite a decrease in the prevalence of relative TSR among the Top 100, it is still

Financial measures Top 100Relative TSR 69 g p

the performance indicator most frequently used.

►Shareholders are

Absolute EPS 31

Others* 22

P fit/ i / 13 ►Shareholders are increasingly open to alternative key success indicators o er the longer

Profit/earnings/revenue 13

Return measure 11

Absolute share price 3 indicators over the longer term.

p

Absolute TSR 3

Relative EPS 2


Source: Ernst & Young 2012 Executive and Board Remuneration Report; * Others may include qualitative targets, other financial and non-financial targets

Questions


EY Human Capital Conference 2012: Trends in performance-based remuneration

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