Should boards link executive pay to innovation? Sylvia Falzon FAICD

Innovation underpins many performance measures and can be used as a target to set executive remuneration, according to Australian Governance Summit (AGS) speaker Sylvia Falzon FAICD, who sits on the Suncorp board and on its Customer and People and Remuneration Committees.

Boards need to own the remuneration agenda, says Ms Falzon. At the Australian Governance Summit 2020, to be held on March 2 and 3 in Sydney, Ms Falzon will speak as part of a panel on the important topic: Getting remuneration right – is it possible? Register now to ensure you don’t miss this and other important discussions. Following is her interview with the AICD which explores how remuneration committees should function and what does and does not work with director and executive remuneration.

Should remuneration be tied to innovation? If so why?

In order for an organisation to achieve its strategy, people need to continually innovate and adopt a continuous improvement mindset. So while innovation is generally not explicitly listed as a performance measure, in many ways it underpins many financial and non-financial performance measures. At an AICD Roundtable in October 2017, I said, ‘having a transparent focus on innovation as a target for executive remuneration can achieve a “shift in mindset, in the executive ranks to help companies better cope with disruption”.’

ASIC is to release the 2nd report of its Corporate Governance Taskforce by the end of the year, with a focus on board oversight of variable remuneration. What do you hope to see in the report?

I’m hoping ASIC will provide some guiding principles to assist boards in designing and then overseeing their remuneration framework. It’s important for boards to be responsible and accountable for remuneration outcomes with the ability to apply discretion when necessary. Boards need to own the remuneration agenda. It’s also important that ASIC and APRA continue to collaborate to support a consistent approach to remuneration governance.

What are the top three things a remuneration committee should seek to highlight when reporting to the board?

People & Remuneration Committees need to give the board comfort that:

1. The remuneration frameworks that are in place have been designed and are operating effectively. Particular regard should be given as to how well these plans are strategically aligned and support the organisation’s purpose and culture, as well as how well the framework supports the attraction and retention of talent.
2. Remuneration outcomes have been robustly considered and assessed on a number of levels – such as financial performance, the customer and employee experience, and any risk matters or reputation issues that may have arisen over the year. Remuneration outcomes also need to be appropriate from a behavioural perspective and any instances of misconduct, and the consequences of that misconduct, should also be highlighted.
3. Remuneration arrangements and outcomes are appropriate from a role equity and gender pay equity perspective.

APRA has released a draft prudential standard on remuneration CPS 511 which is viewed by some as too prescriptive. How are most boards are viewing this standard?

While boards are supportive of the underlying principle of the standard which is to improve financial system stability, there are concerns with what appears to be the prescriptive nature of the standard. There are differing views amongst stakeholders and in particular the 50 per cent cap on variable remuneration financial measures is an example which is not supported by some stakeholders.

Other concerns relate to the attraction and retention of key talent given that deferral over six to seven years is above the norm in other jurisdictions and industries. There is also the potential for upward pressure on remuneration as executives further discount the value of their incentives given the longer deferral periods.

I believe boards have welcomed the opportunity to make a submission to APRA to share their views and offer insights. Given boards are responsible and accountable for remuneration, in working with APRA, we need to achieve a sensible middle ground.

In your experience, how important is a remuneration committee in setting board direction and policy in remuneration for an organisation? And why?

Attracting, retaining and motivating people within an organisation is fundamental to successfully executing on a strategy. While the board is ultimately responsible for an organisation’s strategy, the board-appointed People and Remuneration Committee is key to guiding a board in remuneration and people principles and setting policies and frameworks which effectively balance the needs of the company and its various stakeholders.

How often should the remuneration committee meet and report to the board?

In my experience, People and Remuneration committees tend to meet at least five to six times a year and report to the board after each meeting. In addition to scheduled meetings, there needs to be the ability to add further meetings or workshops where needed to consider major changes or other material matters.

In your experience, has advice from a remuneration committee resulted in a shift in remuneration practices/policies?

The board is ultimately accountable for the remuneration framework and it is the role of the People and Remuneration Committee to support the board and in doing so from time to time recommend change with the aim to improve the model. In my experience, recent examples of this include the committee at different companies influencing change in terms of incorporating a second performance measure into the long-term incentive plan, the early adoption of specific regulatory requirements, creating a combined incentive scheme with increased equity quantum and deferral and risk and behaviour gates.

In your opinion, what are three ways that boards and remuneration committees can get remuneration right?

Firstly, I believe there isn’t a perfect remuneration framework, but rather that a committee and board should work together, in consultation with the CEO and executive team, to design a framework that is meaningful, transparent, simple, fair and aligned to shareholder/stakeholder outcomes. No two companies are the same, so the remuneration framework needs to reflect the organisation, it’s strategy and the industry it operates within.

It’s also important to have access to remuneration frameworks across industries here in Australia and globally, as well as emerging trends.

Finally, engagement with shareholders, regulators and other stakeholders is key to ensuring your remuneration framework is designed to achieve the desired outcome.