Pay for performance is becoming a prevalent approach

The Dodd-Frank Act in 2010 is helping foster performance-based approaches to the ways CEOs are compensated.

Pay for performance is making leaps as a popular way of compensating CEOs at large public companies, a new study says.

More than 60% of large-cap companies provide at least half of CEO equity compensation through performance incentives, up from 33.3% five years ago, according to a report by Equilar, a provider of executive compensation benchmarks.

Companies are not scuttling salaries but are downplaying them to a greater degree.

Going heavily on performance incentives “is a good approach,” said Jim Fowler, founder of Owler, a competitive insights business. “If I own stock in a company I would rather the CEO be motivated to increase shareholder value than getting a huge salary regardless of how the company performs.”

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In fiscal year 2016, the number of the 500 biggest publicly traded U.S. companies that provided at least half of CEO equity compensation based on performance awards increased from 52.5% to 60.8%. The remaining portion of equity compensation is time-based, meaning awards vest at specific times, rather than being contingent on meeting performance goals to receive allocations of stock or stock options.

“Boards once favored stock options, which ultimately depend on a rising stock price, though awards weren’t necessarily contingent on hitting performance targets,” said Matthew Goforth, senior governance advisor at Equilar, in the report. “The goal-based approach allows the board to spread the focus of management to internal business metrics and returning value to shareholders.”

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The total percentage of companies providing CEO performance awards has increased significantly over the past few years, reaching 82.1% in 2016, up from 69.7% in 2012. Most CEOs also receive time-based awards, considering that nearly 40% of companies are still offering most equity compensation in this manner. However, these time-based awards are more often being provided as restricted stock as opposed to stock options, the report found.

“The gradual increase of performance-based equity began soon after the passage of the Dodd-Frank Act in 2010, which, among other things, provided shareholders with more transparency into executive pay,” said Craig Rubino, director of corporate services at E*TRADE Financial. “While adoption of this type of equity compensation began slowly, it continues to increase year over year for mid- and large-cap companies and at measurable rates for small-cap companies.”

When broken down by sector, 90.5% of industrial goods companies provided performance awards to CEOs in 2016, according to the report, the highest prevalence across the study. The technology sector saw the largest growth in the percentage of companies offering performance awards to CEOs during the study period, increasing from 63.7% in 2012 to 82.3% in 2016.