By Mark Poerio
Tight labor markets tend to sharpen loyalty issues, as employers compete for an edge by which to retain — and motivate — their key employees. It does not take rocket science to defuse the temptation posed by greener pastures. But it takes action. Simple letter agreements with key employees may provide customized incentives cherry-picked from a menu of alternatives such as:
- Retention bonuses tied merely to continued employment;
- Individualized performance awards dependent on personal, divisional, and/or other corporate performance measures;
- Settlement terms that reward long-term employment, such as through deferred compensation or equity-based awards;
- Severance or Change in Control (CIC) protections that reward executive loyalty; and
- Potential to claw back cash bonuses and stock awards from disloyal or corrupt employees (coupled with better-drafted non-compete, trade secret and other business protections).
These proactive employer measures come to mind in the wake of last week’s SEC release of amendments to its 2015 proposal of Dodd-Frank rules requiring public companies “to disclose information reflecting the relationship between executive compensation actually paid by a registrant and the registrant’s financial performance” (SEC Press Release 2022-149). Ever since the SEC overhauled its executive compensation disclosure rules in 2006, “pay for performance” (P4P, for short) has become a prime measure for good governance by compensation committees. Compensation consultants and survey data often become drivers for positive change.
There is no substitute, however, for prompt attention focused on a company’s specific dynamics – from its executive team to its industry to its particular challenges and objectives. Retention and performance incentives along the lines listed above are possible to implement in an efficient, effective manner, but that takes care. There is no doubt that P4P may motivate when done well. Likewise, retention incentives can secure talent and protect employers from costly defections.
For private and public employers, below are some simple self-audits for identifying best, and riskiest, practices. For executives as well as employers, there are links below for articles focused on terms to consider for employment agreements.
Regardless of your situation, please feel welcome to contact Mark Poerio of The Wagner Law Group for a preliminary (no-cost) assessment focused on your executive compensation benefits and possible improvements to consider before year-end 2022.
Best Employer Practices
- Fully inventory all current types of executive compensation, with an eye toward identifying areas of weakness and potential improvement (such as converting short-term bonuses into long-term P4P awards).
- Consider peer practices and survey data (note this is often possible without a deep dive into costly consultant reports).
- Determine P4P incentives first by identifying the business strategy, and then by establishing metrics that reflect the success or failure of that strategy.
- Assess the risk of losing key talent, and consider measures to address — from enhanced incentives to retention bonuses, to long-term awards, to severance and change in control protections.
- Consider hold till retirement policies for equity awards and installment settlement of equity awards (in order to establish a post-employment stake in employer success).
- Assure that executive compensation decisions and structures include dispute resolution provisions that strike a healthy balance between minimizing the employer’s litigation risks while fairly treating executives (especially after a change in corporate control).
- Refine plan documents and agreements in a manner that defuses litigation risks (such as by addressing the implications of a future merger or acquisition).
Poor or Questionable Employer Practices
(drawn from ISS and other published governance guidelines)
- Evaluating executive or director compensation structures without regard to (i) carefully chosen peer groups, and (ii) a total compensation analysis.
- The absence of an independent advisor for a compensation committee.
- Incentive compensation that is solely or primarily based on stock options, annual bonuses, or other short-term incentives, without regard to risk horizons or future performance conditions.
- The failure to prohibit or restrict executives from hedging their financial stake in employer stock received through equity awards.
- Any tax gross-ups payable to executives.
- The utilization of perquisites other than those tied directly to the business.
- Supplemental executive retirement plans with benefits based solely on pay and service.
- Severance benefits exceeding current market standards, or not conditioned on corporate performance or an executive’s claims release.
- Broad rights to resign without “good reason” following a change in control.
- Automatic accelerations of vesting on a change in control (with best practices being focused generally on maximizing company flexibility over how equity awards and other company-paid executive benefits will be handled in a corporate transaction).
- Severance that includes performance-based compensation even if targets are not met.
- An absence of claw-back rights triggered by an executive’s fraud, misconduct, or receipt of ill-gotten gains.
- Failure to consider tying incentive and equity compensation to the honoring of post-employment non-competition, non-solicitation, and/or confidentiality covenants (as well as reliance on outdated or unenforceable covenants).
Related Checklists and Articles (for Executives and Employers)
- The Art Of Drafting Executive Employment Agreements: Part 1(PDF)
- The Art Of Drafting Executive Employment Agreements: Part 2 (PDF)
- Executive Employment Agreement Insights: From High Stakes to Competing Interests– Lexis Practice Advisor Practice Note.
- Too Much Employer Stock? Don’t Ignore Diversification,” Law 360
- “Hitting Workplace Harassers Where It Hurts,” National Law Journal