The author of this article writes that benchmarking can be used as a tool for de-escalation as well as escalation in pay issues.

Ken Charman, CEO of uFlexReward, takes a personal look at current issues in this field of executive compensation. (This article was also published in Executive Compensation Briefing in July.)

Without travelling all the way back to 1997 and the Cadbury Committee, it’s worth remembering that the UK corporate governance code was introduced following John Major’s hint that regulation might be needed to respond to public disquiet over executive pay. The Cadbury code led to the establishment of independent remuneration committees, presumably with the intention of restraint. Benchmarking is the “club” that battered that intent. Instead of keeping the lid on it, it has grown into a very sophisticated and advanced process that perpetuates what looks like an arms race to activist investors and wider society.

Pay is now a lot more complex and is heavily incentivised towards performance. Benchmarking proves (at great expense from data providers) that executives are paid what is normal for peers in the market.

The authors of the new (2018) corporate code seem to have sighed and come up with another attempt to flatten the ballistics and tie things down to something more terrestrial.

Based on the theory that publication promotes change, the Financial Reporting Council uses gender pay gap analysis and executive pay ratio reporting to encourage responsible behaviour. The 2018 code asks remcos to take account of whether companies live up to their rhetoric on equal pay, when approving executive remuneration. 

It is early days yet, but lawyers and auditors are advising firms to take this seriously. That means that benchmarking is now expanding from external pay matching into an internal reference of pay across the firm.

In late 2020, the CIPD reported here that 34 per cent of companies link metrics on equality to incentives for executives, while 100 per cent use external pay benchmarking.

This will surely grow under pressure from fair pay activism and investors who are linking fair pay to their interest in ESG. The consequences for not taking this into account are costly. The FT referred in July 2020 to a five-year study by Morgan Stanley that showed share price lagged by 15 per cent in the 18 months after a pay revolt.

So, what are companies showing to remcos? And what should remcos be asking for to satisfy critics and eliminate risk when benchmarking pay across the organisation against the stated policies towards fair pay and equality? 

Especially with companies even more keen to align following the tragic case of George Floyd in the US and increased social pressure centred around ethnicity pay gaps.

The guidance does not stipulate a methodology. Even the fairly lax guidance applied to gender pay gap and executive pay ratios is absent. So internal pay benchmarking is open to interpretation and companies can make do with a number of methods to jump the hurdle. They can use statistically defensible samples (rather than the whole population of employees) and they can step back from using the whole of total reward (including all benefits and shares) because they can claim that equal pay refers to core compensation, bonus and benefits and, anyway, valuing LTIs, stock and some other complex benefits is too complex. 

The risk with this approach is that it might be covering up inequalities that the remco should be able to see and take into account when setting executive pay. The inference here is that the only way to be certain is for internal pay benchmarking to be based on all employees and all forms of reward. In  days gone by this was a data nightmare as the details for total reward were managed in separate systems that were impossible to consolidate without complex manual data extraction and one-off calculations. In this data landscape, annual gender pay gap analysis, even when based on a sample population and a subset of rewards, could take a team of analysts months to produce. Expanding that to include all reward for every employee and then analysis by ethnicity and other factors would be crippling.