ESG in Compensation Series 2 of 6: Preparing to Incorporate ESG Metrics in Incentive Programs

March 2023

In the first article of our ESG series, we explored the rationale and benefits of including ESG in executive compensation. As the inclusion of ESG metrics in incentive plans has become increasingly common, Boards are asking themselves to what degree their company is “ready” to begin including ESG metrics in their compensation programs.

In this article, we introduce one framework that companies can use to identify where they are in their ESG journey and areas for improvement. This assessment can then inform the development of robust, meaningful ESG measures in compensation.

Assessing Your Company’s Current State

ESG metrics, like any other incentive metrics, should be rooted in the organization’s strategy. It is also critical that management and the Board have the capability to set targets, track performance, and assess outcomes, in the context of a compensation framework that is well-understood and grounded in first principles.

These concepts form the basis of our framework (illustrated below). We view this as a progression, whereby each category supports the development of the following categories.

Defining Question

Key Assessment Factors

Below we provide examples of key factors that may be included in the current state assessment for each category. These do not constitute requirements for the inclusion of ESG metrics; rather, they inform the complexity of the ESG incentive plan that the company could feasibly implement and manage today.

The “complexity” of a program may refer to the metrics selected, weighting, time horizon, measurement approach, calibration, or applicable scorecard (i.e., corporate vs. business unit vs. individual).

Assess the Extent

Looking Forward

Coming out of this assessment, companies may identify gaps in their current capabilities that they may wish to address to reach their desired future state. As the company evolves in its ESG journey, so too will the incentive programs; revisiting the current state assessment on a regular basis can support this process.

The next article in our series will discuss how companies identify which ESG metrics are appropriate for their incentive programs. To ensure you receive future articles in this series, subscribe here.