- On December 5, 2017
This article discusses executive compensation benchmarking and typical peer group proxy analysis, including what it is, how the analysis is completed, the value of the analysis, and the three ways you can get it done when your CEO or Compensation Committee Chair requests it.
Introduction: what is executive compensation benchmarking analysis?
Do you know if your top executives are paid competitively? When your CEO or Compensation Committee Chair asks you this question, do you know how to answer?
While compensation programs and pay decisions should be driven by internal business needs and considerations, companies should always be cognizant of external market pay practices and compensation levels. The process for evaluating pay against external reference points is typically referred to as compensation benchmarking.
Compensation benchmarking is done using compensation survey data, conducted by compensation or HR consulting firms. Participants can include dozens or hundreds or even tens of thousands of companies, depending upon the survey. And data is available for every typical employee job. All that is required is to match your company’s position with the best available survey job position, make any appropriate adjustments to the data (e.g., aging, geographic adjustments, job scope adjustments, etc.) and benchmark your current pay.
For your top executives, additional data can add even more value to your benchmarking results. Specifically, compensation survey data can be supplemented with data from comparable publicly-traded companies. Publicly-traded companies listed on major exchanges are required to report compensation for top executives by the Securities and Exchange Commission (SEC). The SEC requires disclosure of the pay levels and programs for the Top 5 highest paid executives (or Top 3 for smaller-reporting companies). This publicly-disclosed data can be extremely valuable in enhancing your executive compensation benchmarking analysis.
The benefits and limitations of compensation survey data and peer group proxy data
Compensation Survey data and Peer Group Proxy data both have their own benefits and limitations:
Benefits of compensation survey data:
Compensation survey data provide insights into pay practices of all survey participants, including public companies, private companies, and even not-for-profit organizations. The data is usually very robust, having been compiled from hundreds or even thousands of organizations. This includes the largest companies in the world, as well as the smallest companies. This means your company is never too small to find comparable compensation survey data. The positions covered in each survey are also standardized for easier comparability for benchmarking analysis.
Limitations of compensation survey data:
Compensation survey statistics are provided only in the aggregate, so there is no ability to understand pay practices of individual companies. Likewise, because of the aggregation of data, there is no ability to test pay outcomes against performance results, so there is no insight into pay-for-performance relationships. Without the individual elements of pay for each company, it is very difficult to understanding how each element of pay interacts with other elements of pay (for example, the companies that pay low salaries but higher bonuses). Finally, in may surveys, long-term incentive data (stock options, restricted stock, and other long-term cash and equity) is either non-existent or at best, suspect (this is because many private companies and not-for-profit organizations do not have equity or long-term incentive / LTI programs).
To supplement compensation survey data, most executive compensation professionals typically also analyze data from a comparator group of similar companies. These companies must be publicly-traded and subject to SEC disclosure requirements (or must voluntarily disclose executive pay). This peer group proxy data also has benefits and limitations:
Benefits of peer group proxy data:
Peer Group data allows for understanding of pay practices among individual companies. Individual companies can be specified by selecting only those companies that are relevant to your own company. In other words, you can limit the universe of comparable companies to the 30 companies in you industry most similar in size, business mix, core competency, etc. Having this company-level detail allows for pay-for-performance analyses — companies can look at the specific pay results for each company, relative to the financial (or stock performance) results for each individual company, providing a very robust look at pay outcomes relative to performance results.
Limitations of peer group proxy data:
Peer group data is only available for the Top 3 or Top 5 executives (some companies voluntarily report pay for up to 7 or even 8 executives, but such disclosure is rare). Peer group proxy data is limited to publicly-traded companies subject to SEC disclosure requirements. Thus, the data excludes all private companies, as well as many public companies whose stock trades over-the-counter (OTC). And, since most public companies tend to be larger and more mature, peer group proxy data may not be available for smaller companies. For example, smaller community banks with less than $300M in assets will find few peer group companies of relevant size. Smaller non-bank companies will find fewer comparably-sized peers with less than $100M in revenue.
Finally, the last two limitations are functions of the way data is disclosed. First, since companies disclose only the executive’s title, matching executive positions to your top executive roles may be difficult. It may be very difficult to understand the specific role and responsibility of a “Chief Administrative Officer” — is such a role responsible for finance? IT? HR? Legal? Facilities? Since matching based upon job content is challenging based upon limited disclosure of job responsibilities, many companies match based upon pay rank. In other words, matching your 4th-highest paid executive to the peer group 4th-highest paid executives may be more reasonable than matching your General Counsel to Peer Group General Counsels. Also, since companies must disclose their CEO, CFO and next 3 highest paid executive officers, there tends to be an upward bias toward higher-paid executives. For example, General Counsels disclosed in the Top 5 will tend to be the higher-paid General Counsels among the peers; lower-paid General Counsels may not make the highest-paid 5. Thus, using only the General Counsel data from peers will skew the market data higher.
So, now that we know the benefits and limitations of peer group proxy data, how is the analysis done?
How is peer group proxy analysis done?
Peer group proxy analysis includes two key steps: (1) developing an appropriate peer group, (2) gathering and analyzing and (3) interpreting the pay data for each company.
(1) Developing your peer group
The first step in peer group proxy analysis is to develop an appropriate peer group. The peer group must contain enough similar companies to provide a robust data set for benchmarking analysis. Typically, a robust peer group will include at least 12-15 companies. While we have seen peer groups with as few as 8 or 10 companies, the risk of such small comparator group is that the influence of any single company could have a significant effect on the pay statistics. Generally, the more comparator companies, the better, at least until the additional companies become less and less relevant to the executive talent market in which you compete.
Comparator company industry matters to the extent that it reflects the competitive market from which you acquire (or lose) talent. However, rarely will a peer group only include companies with whom you compete specifically for talent or customers or capital. Instead, it will include companies that are approximately the same size, in approximately the same industry, and approximately the same geography.
The size of the companies included in your peer group matters as well. Typically, peer group companies should fall within 1/2 to 2 times the size of your company, and importantly, the median size of your peer group should approximate your own company’s. So, a $700M community bank may look for comparator banks with between $350M and $1.4B in assets. A $500M manufacturing company should consider publicly-traded manufacturing companies with between $250M and $1B in revenue.
Other characteristics can be considered to refine the companies in the peer group, if desired. Common characteristics include: corporate headquarters location or geographic footprint, international vs. North American business mix, type of products produced, B2C vs. B2B mix, core competencies in engineering/marketing/manufacturing, etc.
Now that you have a peer group constructed, let’s gather and analyze the pay data.
(2) Gathering and analyzing peer group pay data
The good news: All the pay data from the peer companies is available for FREE! The bad news: It will take a while to collect and analyze the data.
As far as we know, there is no free and easy tool to collect all peer group pay data. (Sheffield Barry has developed a number of tools to assist with such analysis which we discuss later; we even have developed a Free CEO Salary Review can be found here.) When we have completed such analyses in the past, we have searched for the appropriate disclosure (you can access all SEC documents for a company on the SEC’s website here; proxy statements disclosing executive pay data are Form DEF14A), and then copied the detailed pay data for each executive into a new excel sheet in our workbook.
As an alternative to manually inputting data (or copy/pasting), several data vendors will sell subscriptions to allow you to access the data in a digital format. The vendors typically allow for access and download of the free public data in a manner which will save time (and charge you for that benefit). Data vendors include: S&P Global, Equilar, PayScale, and Salary.com, among others. When you evaluate these vendor offerings, ensure you are getting actual company-level public pay disclosures, and not just access to their compensation survey databases.
Once you get the peer group proxy data compiled (either via manual input or via a data vendor), you can evaluate median pay levels, calculate annual bonus % of salary, evaluate pay relative to performance for each peer company, and complete any other analysis you need for your company (including, analyses such as equity usage [dilution/overhang], Board of Director compensation, and other supplemental analyses.)
(3) Interpreting the analysis
You’ve completed the peer group proxy analysis. Now what? Having the data is one thing. Deriving the insights for your company is the next step, and arguably the most important.
The benchmarking analysis should inform your company of several issues:
- Are your executives paid above market? This isn’t necessarily wrong: paying above market simply means that you are expecting your executives to deliver more value than executives at a similar company — enough value to overcome your disadvantaged cost structure.
- Are you paying below market? This isn’t necessarily wrong or right either: paying below market provides a favorable cost structure, but your executives may be at greater risk of leaving the company for other opportunities (and higher pay), or they may be disengaged in their current roles.
- Does your mix of pay (base vs. bonus vs. LTI) look different than your peers? There is no such thing as an ideal pay mix. However, if your mix of pay differs materially from peers, it may suggest that you have more/less “leverage” in your pay programs, implying that you are encouraging more/less risk-taking from your team.
- How do pay outcomes for your CEO and executive team compare with your performance results, in light of peers? Ideally, pay should be high relative to peers when your performance exceeds that of peers, and lower when company performance lags peers.
- Other analyses can provide insight into your use of equity vs. cash, your focus on short-term performance vs. long-term performance, the competitiveness of compensation for your Board of Directors, and other insights relative to your peer group.
Beware of common pitfalls
Be aware of the size of each company included in your peer group. To the extent your peer group is comprised of larger companies, your benchmarking analysis could skew pay higher and suggest you are paying below market. If you are a $500M company and your peer group is skewed toward $1B companies, your peer group proxy analysis will be informing you of the competitive market for $1B companies, not the competitive market for your own company.
Understand whether you are reviewing target pay vs. actual pay. Target pay informs desired pay structure, independent of performance. Actual pay informs actual pay outcomes, relative to actual pay results. Both target and actual are useful analyses, but should be used for different purposes. Realized pay — or realizable pay — is a third type of pay definition and analysis, using more complicated analyses of the embedded value of actual LTI or equity earned.
Finally, pay attention to partial year pay. New hires, or mid-year promotions, may skew actual reported data lower than full year data would suggest. Likewise, executive retirements and mid-year terminations may show multiple executives with partial-year pay in the summary compensation table.
If your peer group is large enough, one or two issues with peer pay levels typically will not materially affect the summary pay statistics of your peer group, since the median statistic is typically what is used to define the “market”. However, if your peer group includes only 8 or 10 companies, or if you find 3 or more companies with pay anomalies, then you will need to pay much closer attention to the detailed pay data, and make appropriate adjustments.
How can I get some peer group proxy analysis?
The right approach for you will be a triangulation of cost, time and nature of analysis results. Most companies will employ one of three approaches:
- Do it yourself (or use internal HR resources) — The cost of this approach is free. It will take anywhere from one day to two weeks, depending on how much time you and other internal resources can devote to it, and their level of experience. Data is free. Peer group proxy analysis is challenging, but it is not rocket science, and it doesn’t need to be done by analysts who have Harvard MBAs and charge your company $300 per hour to crunch free data. And you can always purchase data from a data vendor if you have the resources and are short on time. There are pitfalls to watch for, but beyond that, you can easily get enough of the right data to understand implications from your market pay analysis.
- Use a compensation consulting firm — Compensation Consulting firms will charge you between $10,000 and $40,000, depending on the number of executives reviewed, and the number of companies included in the peer group. They will also be able to deliver your peer group proxy analysis within two days (if you are an important enough client) to 3-4 weeks, which would be more typical. See our discussion of the Top 10 Executive Compensation Consulting Firms here.
- Subscribe to a compensation consulting product that automates this analysis — Hybrid models are emerging that provide automated proxy analysis, significantly shortening the time involved in developing a peer group of similar companies, compiling the pay data for the peer group, and analyzing pay for the top 5 executives. For example, Sheffield Barry’s CEO Total Compensation Review provides an algorithmically-determined group of ten to 30 comparator companies, and then analyzes all elements of Executive Compensation (including base, bonus and non-equity incentive plan / NEIP, stock options, restricted stock, and all other compensation). Our analysis provides 80%-90% of the result and insights for 75% less than the cost of the same peer group proxy analysis from a traditional executive compensation consulting firm. Almost instantly (it typically takes 20 seconds to run your report). And our peer group proxy analyses come with Sheffield Barry’s 35+ years of Executive Compensation Consulting experience, so you get advice in addition to data. We have built (and continue to add features to) reports for CEO Total Compensation and Top 3 Executive Compensation. Our Board of Directors Compensation Benchmarking report will be available later in December, and our Top 5 Executive Compensation Benchmarking report will begin beta testing in the first quarter of 2018. View all our Plans and Pricing here. Run your own FREE CEO Salary Report here.
|1. Do It Yourself||Free||10 – 40 hours||Will depend on resources/experience available|
|2. Consulting Firm||$10,000 – $40,000||3 – 4 weeks||Depends on # executives and # peer companies|
|3. Automated Product||$1,000 – $9,000||30 seconds to 3 days||Includes compensation consulting support|
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Regardless of which approach you use, and what the results of the analysis suggest, always keep in mind that benchmarking results (whether based on compensation survey, peer group proxy analysis, or both) are simply one input into your compensation program design and pay decisions. Your company’s internal business situation and circumstances should always take priority over external market pay practices.
However, peer group proxy analysis can provide some unique insights that are not available from compensation survey data. You can learn how your executive pay compares with individual companies (rather than an aggregate data set of hundreds or thousands of companies). You can learn how well your pay outcomes match with your performance results, in the context of your peer group. And there are numerous other analysese that are available based on the free information disclosed by your publicly-traded peer companies.
If you decide that peer group proxy analysis would be valuable to deliberations and decisions on pay for your top executive team, consider the tradeoffs between doing the analysis yourself (free, but time-intensive), retaining a consulting firm (costly, no time investment on your part, but could take several weeks for results), or subscribing to a peer group proxy analysis product (inexpensive, fast, and up to 90% of the insights of a traditional consulting firm). Please feel free to reach out to us if you need help deciding the appropriate approach for your company. Best of luck!
Sheffield Barry is an Executive Compensation and HR Consulting firm, providing customized advice to clients at more affordable costs. We leverage technology to deliver data and analysis as efficiently as possible, so we can invest more time understanding our clients’ unique business issues to develop custom solutions and advice. For more information, please visit us at SheffieldBarry.com or email us at info@SheffieldBarry.com.