· 7 min read · Features

HR reward special 4/7: Government proposals to submit executive pay policy to shareholder vote have implications for HR

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The Government’s attempt to push shareholders to at least question – rather than curb – spiralling executive pay has gathered momentum, after business secretary Vince Cable MP published draft regulations that will force companies to reveal how bosses’ remuneration is calculated, and shareholders vote to actively back pay policy.

On 27 June, Cable announced his package of reforms to improve transparency and accountability in directors' remuneration. The key measure is a binding vote on pay policy, which requires the majority support of shareholders to pass. The vote will be held annually, unless companies choose to leave their remuneration policy unchanged, in which case it will be compulsory at least every three years.

Cable's proposals, which the Government hopes to introduce in October 2013, state executive pay policies should clearly set out how pay supports the strategic objectives of the company, and should include better information on how directors' pay compares to that of the wider workforce. Companies will also have to report details of whether they met performance measures and provide a comparison between company performance and chief executives' pay, as well as report a single figure for the total pay directors got for the year. This figure will cover all rewards received by directors, including bonuses and long-term incentives.

The proposals also say companies will have to clearly explain their approach to exit payments, which will also be subject to the binding vote. And - for the first time - once a policy is approved, companies will not be able to make payments outside its scope. If a company chooses to change its pay policy, it will have to put it before shareholders for re-approval. The Government hopes this will encourage companies to devise long-term policies and put a brake on annual 'pay ratcheting'.

Alongside the binding vote on policy, shareholders will continue to have an annual advisory vote on how pay policy was implemented in the previous year, including actual sums paid to directors. If a company fails the advisory vote, it will be required to put its overall pay policy back to shareholders in a binding vote the following year.

The UK's corporate governance regulator, the Financial Reporting Council, is also set to consult on updating the Corporate Governance Code, so companies would have to make a statement when a significant minority of shareholders votes against a pay resolution.

On the face of it, Cable's reforms seem to be an area ripe for HR directors' expertise. But HR practitioners and industry experts have mixed views on how involved HRDs will be in the process, and what the profession can contribute.

Barry Hoffman, group HR director at IT services company Computacenter, does not believe the changes will have any impact on the work of HR. "Executive pay - typically that of the CEO and the finance director - is in the hands of the remuneration committee. HR tends to work on the remuneration and reward and incentive schemes for senior management and the rest of the company. Therefore, I can't see how HR would get pulled any deeper into this."

Sheila Bouman, chief people and performance officer at web infrastructure hosting company Peer 1 Hosting, says in the US and Canada, steps to force companies to increase disclosure on executive pay have become a legal and regulatory compliance issue - that is not led by HR.

"HRDs never saw this as a value-adding area for them to get involved in," says Bouman. "They were right. Executive pay packages are the responsibility of the compensation committees and are led by legal compliance officers and investor relations. Naturally, HR feeds into the process, but does not drive it."

Bouman also believes companies should be wary of focusing on just one issue that has irked shareholders - and the media - rather than concentrating on other areas that contribute to good corporate governance.

"Companies may be at risk of concentrating too heavily on getting shareholder approval for executive remuneration schemes, while neglecting other aspects of corporate governance that are equally as important and emotive, such as environmental reporting and sustainability programmes," Bouman adds.

HR consultants also have doubts about whether the relationship between executive pay and investor relations is an appropriate area to which HR directors should provide much input. Mark Childs, managing director of rewards consultancy Total Reward Group, does not believe the binding shareholder vote will improve the image of HR. "It may even diminish it," he says. "I don't think many HRDs will press too hard to get more involved with institutional investors. Why should they? HR has little interaction with investor relations and does not determine how executive rewards are structured - that is the job of the remuneration committee," says Childs.

He adds: "Executive pay schemes can be complicated to put together and rely on a lot of technical detail, and external consultants tend to put them together, rather than HR. I can't see that situation changing, and there is likely to be a growing dependence on external expertise to ensure pay deals are approved by shareholders." But some experts believe the HR profession can make a valuable contribution to the process. Graham Rowlands-Hempel, a consultant in the employee incentives practice at law firm Linklaters, believes the Cable proposals will ensure there will be more contact between the HR department and the remuneration committee and investor relations team. "Increased scrutiny on executive pay and binding shareholder votes are going to be hot topics for any board in the future, and companies will want to ensure their pay policies are accepted," says Rowlands-Hempel.

"As such, HR will be asked to provide more information on how pay and incentives are structured, how these rewards compare with employee compensation, and how they compare with other companies. HR will also need to ensure the details of executive remuneration are understandable, which is not always easy, as some incentive schemes can be very technical and depend on several variables."

Rowlands-Hempel believes while "there will undoubtedly be an inordinate amount of time spent on ensuring executive pay packages are signed off by investors", and HR will find it cannot devote as much attention to more strategic areas as it would like, "there is no doubt in my mind that the profession will benefit from Cable's reforms.

"HR will have more contact with remuneration committee and executive team and will forge better relations with the investor relations department and in-house counsel," he continues. "I also suspect many companies will opt for annual votes on executive pay as part of best practice, so HR will be seen as a valuable internal resource to help with that process," he adds.

Charles Cotton, performance and reward adviser at the Chartered Institute of Personnel and Development (CIPD), believes, ultimately, it will be the board that determines the level of HR's input. "HR will be involved in the process as much as the remuneration committee wants it to be," he says, adding that "HR is there to provide information and guidance to the committee, but it is not HR's job to lead the process".

But Cotton also believes Cable's proposals provide HR with the opportunity to demonstrate its value.

He elaborates: "While HR will not be directly responsible for drawing up executive remuneration schemes, it is an invaluable tool for the remuneration committee to draw on, and it is more than likely committee members will call on the HR director's expertise more regularly, particularly once the proposals come into effect. HR therefore has more direct contact with non-executives, and is in a position to raise other strategic issues HR could help with."

Jonathan Maude, employment partner at law firm McGuireWoods, says the HRD's involvement depends on the organisation. "In some companies, HR directors can have a very 'hands-on' role with regards to executive pay, whereas in others it is still firmly in the control of the remuneration committee. Also, the fact there is only going to be a binding shareholder vote once every three years does not suggest HR needs to be that heavily involved on an ongoing basis.

"HR may facilitate the process, but it definitely will not lead it. That will be down to the chair of the remuneration committee, investor relations, in-house legal, and external consultants," he adds.

However, Maude believes it is an opportunity for HRDs to show the value of the function. "There is no doubt remuneration committees will call upon HR for more advice, particularly with issues such as comparing top executive pay and benefits to that of the rest of the workforce. This will definitely enhance the profession's reputation."

Jim Wright, employment partner at law firm Cobbetts, also believes the binding shareholder vote represents a great opportunity for HR to demonstrate its value-adding capabilities. "The remuneration committee is usually made up of non-executives who have either been executive directors, or who are executive directors in other organisations. As a result, there can be a tendency in some companies for remuneration committees to approve executive reward schemes based on how they themselves have been rewarded in the past.

"Cable's reforms will change that, and remuneration committees will want expert guidance and reassurance from HR that the metrics they are using to determine top pay are the right ones that will gain investor support," says Wright.

David Ellis, head of the reward team at professional services firm KPMG, warns there is a risk HR's reputation could be staked on whether it has helped shape an executive pay package that is rejected by shareholders. "If having a remuneration report approved by shareholders at the AGM is a criterion for success, then that is not the most positive of goals to be driven by or judged upon," he says.

Ellis also questions whether HR can ensure it does not get "sucked in" to spending too much time on ensuring shareholder approval of executive pay packages.

"These rules will raise the profile of HR, but the additional effort involved may pull the function away from more strategic and value-adding work.

"HR is there to manage and reward people and attract and retain talent and to help management realise the full potential of the workforce. Executive pay is something it can advise on, but HR directors should make sure they limit their time on it: having top pay schemes approved by shareholders does not add value to the business."

The remuneration committee - in brief

Typically, a company's remuneration committee is chaired by an independent non-executive director, with at least the majority - if not all - of its members also being non-executives. It is also not unusual for the company secretary to be a member. However, in some companies, the chief executive also sits on the committee, except where his/her own remuneration is being discussed. As a rule, HR directors do not sit on the committee, but report into it and attend all of its meetings, which can take place three or four times a year.

Committee members do not need to have prior experience of HR-related issues, but it is becoming common practice for non-executive directors to receive training from HR to make them more aware of market trends and regulatory changes.