Companies are increasingly using carbon targets as part of executive pay outcomes, according to a joint study by PwC UK and the London Business School (LBS) which analyses the carbon targets in executive pay at 50 of the top major European companies.
The report reviews the quality of the implementation of ESG targets in executive pay in the STOXX Europe 50 constituents, with a particular focus on climate targets in pay, to see whether they can be included in an effective way that also meets investor expectations.
Analysis by PwC and LBS shows that the vast majority (78%) of companies have now adopted some measure of carbon target in executive pay, with payouts in carbon targets disclosed in 2022 averaging at 86%, and over half paying out at 100%. The report also shows that the bigger carbon emitters are more likely to put carbon measures in executive pay, and are therefore more likely to score well against investor expectations.
The STOXX 50 companies are broken-down into two sub-categories: the ‘Climate Action 100+’ ((CA100+)14 out of the 50 companies) and the ‘non-Climate Action 100+’ ((non-CA100+) 36 out of the 50 companies), to look at differences in approaches.
The levels of maturity in carbon reduction strategies are similar in CA100+ and non CA100+, with 68% using SBTi approved carbon reduction plans. The report also highlights that 80% of CA100+ companies that have an explicit carbon measure in pay have a broad statement linking this carbon measure to their long-term company plan (vs 72% of non-CA100+ companies). By contrast, only 10% of CA100+ companies provide a more comprehensive link (e.g. supported by numbers) versus 11% of non-CA100+ companies.
Almost all companies analysed say carbon is considered in executive pay, but there is a wide spectrum of approaches for how it has been adopted. At one end of the spectrum, carbon is just one item on a list to consider as part of a basket of qualitative ESG measures, while at the other end, carbon can be a separately weighted quantitative component of the incentive plan tied directly into strategy.
PwC workforce ESG leader, Phillippa O’Connor, commented: “Climate change is having a huge impact on the way businesses operate, with net zero targets, mitigation and adaptation measures of growing interest to investors. Recently we’ve seen an explosion of interest from investors and companies linking executive pay to ESG targets. In fact, 86% of companies have now adopted ESG measures in their executive remuneration policies, as businesses want to demonstrate they are serious about the ESG challenges.
“Climate is the area of ESG with the strongest investor consensus. It’s crucial that leaders are clear on what is important to investors and understand the role they have to play in achieving both financial and non-financial metrics. Linking shareholder objectives to specific climate driven objectives gives leaders a clear definition of success, helps meet investor expectations, and ultimately helps achieve climate goals. Yet there are unintended consequences of linking pay to ESG metrics. ESG targets in pay is not always as simple as it seems and should not be viewed as the sole litmus test of a company’s commitments to ESG priorities. The challenge now must be to do it well, so that pay targets make a meaningful contribution to helping companies meet their climate goals.”
London Business School’s Department of Finance Leadership institute executive fellow, Tom Gosling, added:
“The momentum to include climate targets in pay is unstoppable. But if it’s not done well, there’s a risk that the practice just results in more pay, not more climate action.
“At the moment most companies aren’t meeting investor expectations for meaningful, objective, and transparent climate pay metrics. But there are some potential quick wins, in particular improving transparency about future climate targets and clearly explaining the link to the trajectory of longer-term net zero commitments.
“At the same time investors need to be careful not to be too prescriptive – climate targets in pay are not a panacea, and companies may have non-climate priorities that are more deserving of a place in pay plans.”