(I will no doubt have missed off any number of colleagues from your various remuneration / reward / share scheme practices or proxy research services when I sent this e-mail, so please feel free to share this with your colleagues.)

Dear all,

Amongst others, we continue to be concerned about some of the remuneration approaches, changes and proposals we are seeing, particularly in - or perhaps I should say in spite of - the current environment.

These don't seek to cover every situation or nuance, but they are intended to offer an insight into some of the thinking on the starting point institutional investors may adopt as part of their pragmatic and reasoned deliberations on executive remuneration issues and in considering the reporting and proposals made by companies.  We would ask you to bear these quickly penned thoughts in mind and draw them to the attention of your clients where appropriate:

• Salaries - After the ongoing increases seen in executive salaries since 2000 (e.g. around +94% on average for FTSE100 lead executives), in the current environment a moratorium on pay rises would seem sensible.  One of the common arguments put forward by companies for above inflation pay rises has been that they are justified by increased company size, including market capitalisation/share price.  Following that commonly used approach, the logical corollary for that, where companies are now shrinking or making disposals and divestments, should be obvious.
• Bonuses - Again bearing in mind the significant increases seen in bonus potential since 2000 (e.g. total cash remuneration for FTSE100 lead executives has increased by around +259% on average and the average 84% of salary maximum bonus potential of four or five years ago is now pretty much the norm for just on-target bonuses and that is before the effect of pay rises is taken into account), considerable restraint and prudence is needed.   As one remuneration consultant highlighted recently, the worst performing quartile of the FTSE100 over 2003 to 2008 had average salaries that were 18% more and bonuses 29% more than the average for the remaining, better performing companies - the suggestion being that they had bailed out non-vesting of the long-term incentive schemes.  As the two Johns (Bird & Fortune) have said: “Success is rewarded and failure is compensated”.  That is not consistent with good practice or shareholder interests.
• Pay and employment conditions elsewhere in the group - While the Code principle on this often appears to have been paid little more than lip service, particular attention needs to be given to this, most especially where a company is retrenching and/or making redundancies.
• Retention and other special awards - These are generally seen as both inappropriate and ineffective.  They are also often poorly designed, even in the rare cases where exceptional circumstances really do apply.  Dealing with operational, structural and performance issues, adversity and change is part of the executive job description.  On retention awards, there have been plenty of recent examples of such awards actually achieving little or nothing.  As a general matter, non-executives could often do and achieve more with a focus on executive development and succession planning.
• Incentive Awards - Bail-outs are not acceptable. The effect of the move to annual grants, from the old 4-in-10 system, provided for situations like the current one.  Indeed, in the current situation real care and thought is needed on the number of shares used in share scheme grants. As a starting point, remuneration committees should ask themselves whether any increase in the number of shares covered by grants is really warranted? Restraint would be aligned with the shareholders' position and will avoid creating a delayed pay bubble built off current low share prices.
• Dilution - The current context does not create a case or justification for increasing share scheme dilution limits.
• Pay for performance - Clearly pay for performance and value creation is an essential ingredient of remuneration packages. Whatever structure is in place or proposed, transparency and robustness of targets is important and will receive particular attention.  So will relative levels of vesting across the performance scale.  Remuneration committees also need to take a rigorous approach on ensuring performance targets are managed both prudently and in shareholders interests. It is important that, say, treatment of de-listed companies to boost total shareholder returns (TSR) based vesting, or the 'management' of earnings-per-share (e.g. through the use of pro-forma adjusted measures, accounting effects or, say, share buybacks), is handled more robustly to avoid undermining the credibility of the arrangements and their oversight.   In addition, the absence of effective underpins in many frameworks remains an issue that should be tackled.
• Changing performance targets (retrospective) - Unacceptable.
• Changing performance targets (looking forward) - Consultation is needed.  On bonuses a prudent and careful approach is required, bearing in mind what has been noted above.  Just as companies argued for increased quantums in the good times and when targets were increased, reduced targets should mean reduced quantums.
• Use of discretion/exceptional circumstances  - Consultation is needed.  The current environment is not a basis for 'exceptional' treatment becoming any more routine.  Its the other side of the coin that has underpinned some of the extraordinary executive pay inflation seen over the last eight years or so. Remuneration committees need to adopt a conservative and prudent approach and recognise that just because they can, doesn't mean they should look to use the extensive scope of the discretion that they have.
• Restricted periods and deferral - Remuneration committees should be looking to re-introduce restricted periods (e.g. 2 years) that apply to vested share awards, over and above the normal performance periods.   Given that the overriding purpose and intention of share schemes is to create alignment, directors shareholdings and related requirements need careful scrutiny given the extent of the 'churning' that is sometimes seen.  Arrangements that, for example, facilitate diversification out of the company's shares are not appropriate.  Deferred bonuses with voluntary deferral can have a disappointingly opportunistic flavour to them (often used only when insiders see little risk) and larger elements of bonuses should be deferred on a mandatory basis, preferably in shares.  Re-introduction of restricted periods, beefing up deferrals and increasing shareholding requirements are not a justification for increasing quantums.
• Clawback - Remuneration committees need to be looking to develop arrangements, contracts and incentive scheme rules that would facilitate and allow for bonuses and awards scheme awards to be clawed back where they were earned on 'illusory' performance - not only in respect of severance and reward for failure but also rewards for unrealised 'performance' that subsequently evaporates (i.e. illusory 'accounting' based performance, as opposed to say TSR based).  A small number of companies have already started to do this.
• Risk adjusted pay - Banks in particular, should be looking to introduce risk adjusted pay arrangements (e.g. Credit Suisse has taken a first, initial step in this direction). Coming at this in the broader context, Guy Ford of Macquarie University and Mike Sundmacher of the University of Western Sydney wrote a paper entitled 'Capital standards and Risk Alignment in the Banking firm' that will be of interest in this context.
• Consultation - The sensitivity of executive pay issues should be obvious.  More than ever, consultations should be undertaken early and involve real two way dialogue on issues and not the presentation of what is effectively a fait accompli.
• Pensions - Pensions are often a significant, non-performance related element of an executive's remuneration package and executives often already benefit from exceptional pension arrangements and entitlements over an above what would normal accrue just from their relatively higher salaries.  Moves to enhance or accelerate special entitlements or otherwise exacerbate the situation would be unwelcome.  Any planned changes to executive remuneration should include consideration of the pension arrangements vis-à-vis those that the company provides more generally to its employees.  Terms and contribution rates should be aligned.