ESG-linked bonuses for many bosses are greenwash, says study

Companies are increasingly using carbon targets as part of executive pay outcomes but most are not meeting investor expectations for them to be meaningful, objective and transparent, according to new research.

Some 86% of companies have now adopted ESG (environmental, social and governance) measures in their executive remuneration policies and climate is the area with the strongest investor consensus. 

However, a study by PwC UK and the London Business School shows carbon targets are being easily achieved despite inadequate progress on global warming. 

The momentum to include climate targets in pay is “unstoppable” said Tom Gosling, executive fellow at LBS’s Leadership Institute, “but if it’s not done well, there’s a risk that the practice just results in more pay not more climate action. Current levels of pay-out don’t seem consistent with the slow progress we’re making on climate change,” he added.

The analysis of the implementation of ESG targets in executive pay in the STOXX Europe 50 constituents shows 78% of companies have now adopted some measure of carbon target in executive pay, with payouts in carbon targets disclosed in 2022 averaging at 86%, and over half paying out at 100%.

Almost all companies analysed say carbon is considered in executive pay, but there is a wide spectrum of approaches for how it has been adopted. At one end of the spectrum, carbon is just one item on a list to consider as part of a basket of qualitative ESG measures, while at the other end, carbon can be a separately weighted quantitative component of the incentive plan tied directly into strategy.

Common gaps relate to the weighting applied to the measure, the degree of transparency of targets (especially prospectively), and the clarity with which the targets are linked to any announced company decarbonisation goals. 

On the positive side, many of these issues are “easily fixed”, the authors noted. For example, only 10% of companies clearly explained how pay targets formed an adequate stepping stone towards their longer-term carbon reduction goals. “For some companies, better disclosure of what they are already doing would be an easy win.” 

The report shows the bigger carbon emitters are more likely to put carbon measures in executive pay, and are therefore more likely to score well against investor expectations. ESG targets in pay should however “not be viewed as the sole litmus test of a company’s commitments to ESG priorities”, said PwC workforce ESG leader Phillippa O’Connor.

Adopting carbon targets in executive pay raises issues for executive line-of-sight (particularly scope 3), and questions on how to capture total impact, so careful design is required, the authors noted. 

“At the moment most companies aren’t meeting investor expectations for meaningful, objective, and transparent climate pay metrics,” said Gosling. “But there are some potential quick wins, in particular improving transparency about future climate targets and clearly explaining the link to the trajectory of longer-term net-zero commitments.”

The report uses a fictional company to show how disclosures on executive pay carbon measures can be aligned with investor expectations.

Commenting on the findings, Harlan Zimmerman, senior partner at Cevian Capital, said investors wanting to separate the greenwashers from the committed companies now look to the quality and rigour of emissions-linked pay metrics. The metrics must be significant and tied to strategy, fully transparent showing precisely how the ambition levels are reflected in the targets, and clearly and rigorously tied to companies’ public emissions commitments. They must also be measurable with discrete metrics and no scorecards. However, few companies match these expectations.