Being Human: Executive pay will be linked to climate goals in a new normal

This article first appeared in Forum, The Edge Malaysia Weekly, on April 26, 2021 - May 02, 2021.
Being Human: Executive pay will be linked to climate goals in a new normal
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“Climate change is evidently rising rapidly on corporate agendas, giving hope that we could take timely action to avoid the worst effects of a warming world.”

As we approach the tipping points of disastrous climate change, businesses face one of the toughest questions of our times — what must they do in the short time left to pull back from the brink of ecological collapse?

A follow-on question is that if the buck stops with business leaders, how should executive compensation be designed to achieve climate goals?

The issue came under the spotlight last month during the inaugural Global Summit on Climate Governance with a webinar on this theme.

Climate change is evidently rising rapidly on corporate agendas, giving hope that we could take timely action to avoid the worst effects of a warming world.

However, compensation plans cannot bring about the necessary transformation in business without a total reorientation around climate action, say the panellists, who helm remuneration planning in a range of industries.

That is where a big lag is currently seen in the relation between climate targets and executive pay.

An analysis by global consultancy Willis Towers Watson, which co-hosted the webinar, shows that only about 11% of the top 350 European companies have carbon dioxide (CO2) emissions tied to their incentive plans. That is the good news. In the US, only 2% of S&P 500 companies make the link.

Data for Asia-Pacific is less precise, but CIMB board member Teoh Su Yin, who was on the webinar panel, gave a stark assessment. “In Asia, we are at an infant stage. While we talk very high-level climate issues, general knowledge is quite thin,” said Teoh, who chairs the group remuneration and nomination committee at the bank.

“What we’re finding as board members is you’ve got to start from the core framework, which boils down to the values and strategy as a group, and how you overlay climate,” she said. “In Asia, [climate] ambition is there, but in many ways we’re starting from ground zero in a lot of companies ... When management is quite early into this climate change journey, there’s a huge amount of learning just getting people to understand the principles around it.”

The reality is that despite the imminence of the climate emergency, a large part of the corporate world has yet to get going on its responsibility to change our economic trajectory.

For those who have seen the light, however, climate action is a rapidly rising tide.

Diva Moriani, who sits on the boards of global insurer Generali Group and luxury services purveyor Monclergroup, and chairs the remuneration and nomination committees of both Italian companies, captured this trend during the panel discussion. “Sustainability is one of the strongest deliverers of innovation in the future, together with digitalisation.”

Deeply engaged in the sustainability matrix of a variety of industry sectors, Moriani sees that it is currently transforming businesses, introducing new skills, new processes and catalysing change in decision-making.

The executive driving a business’ sustainability plan requires the decision-making power and status that is quite apart from the conventional management process, she noted. “This is a big transformation that has to come to any business.”

Companies have the most powerful instrument to spread awareness about sustainability and climate action globally, she added.

This is due to the power that businesses can exert on customers and suppliers. For example, at energy company ENI, where Moriani is a board member, climate goals included targets for indirect CO2 emissions from its value chain from the inception of its sustainability plan.

Indirect emissions are labelled as Scope 3 in the global Greenhouse Gas Protocol, which provides standards for businesses and governments to measure and manage climate-warming emissions. Scope 1 covers direct emissions from sources owned or controlled by a business, and Scope 2 covers indirect emissions from the generation of electricity consumed by the company.

These labels gained currency following the Paris Climate Agreement of 2015, which was adopted by 196 countries, requiring all nations to reduce their emissions as soon as possible.

“Today, it [a Scope 3 target] is still not common [among businesses], but it will become the new normal,” Moriani opined.

In her experience, climate action is being driven by a range of pressures that vary according to the sector concerned.

At ENI, the board was confronted with the challenge of surviving a transition from fossil fuels to renewables. In the financial services sector at Generali, it is not so much an emergency as in the energy sector, but there is investor pressure. In luxury services at Monclergroup, there is very high awareness of the company’s impact on the environment, and its consumers are very conscious of the business’ responsibilities for the well-being of all people, said Moriani. “So the situation is different in the different sectors, but change is coming fast to all sectors.”

The push from investors is certainly registering with Willis Towers Watson, as its managing director and global head of executive compensation Shai Ganu said in his opening presentation at the webinar. “Investors today have a much stronger view of alignment between climate goals and executive pay. Some very vocal institutional investors, the likes of BlackRock’s [chairman] Larry Fink, talk about stakeholder capitalism, purpose and ESG,” he says, referring to the three areas of interest to socially responsible investors — how companies perform on environment, social and governance metrics.

Mirza Baig, global head of ESG corporate research and stewardship at Aviva Investors, expanded on the subject in his remarks. “There’s been a material extension in the time horizon that we measure management against. It used to be bonuses, then [outcomes in] three years, five years. Now, we’re almost expecting management to undertake actions now, where the material benefit won’t materialise until long after they’ve left the business.”

“Within the context of climate change, in particular, historically, we’ve viewed climate risk through the narrow prism of physical risk. That had a limited application to a limited number of companies,” he said.

“With [the] Paris [Agreement], with net zero ambitions [being adopted] at government level, transition risk [for business] is now the dominant factor. It affects every company in every sector. Therefore, it’s front and centre of our investment process across our investment universe,” he added.

Climate change literature explains net zero as achieving a balance between the amount of greenhouse gases that are put into the atmosphere and the amount taken out.

Dwelling on the net zero target, Ganu said: “To put things in perspective, even a 50% reduction [in emissions] is not a solution. When you think about it, only a 100% reduction, when you get to net zero, that’s when you get to a position of doing no harm. Most companies right now are focusing on minimising the harm.”

“You get to be part of the solution when you’re actually completely eliminated your emissions, but you’re also looking at carbon offsets and decarbonisation, and carbon capture,” he added.

Being part of the solution is the holy grail of climate action, but at this point, the latest State of the Climate Report, released last week, shows that the six years since the Paris Agreement have been the warmest on record.

Launching the report, United Nations Secretary-General Antonio Guterres said: “We are on the verge of the abyss.”


Rash Behari Bhattacharjee is an associate editor at The Edge

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