Environmental, social, and governance (ESG) investing continues to evolve as investors look for better ways to engage with companies. Most of ESG investing has focused on the environmental values of a company, but that is changing. With more focus now being tied to the “S” and “G” in the acronym, many firms are being forced to navigate a different atmosphere with a variety of issues being addressed. One of which hits them right in the corner office.
We’re talking about CEO and executive pay.
As wage gaps continue to grow, executive compensation is now in the crosshairs of ESG investors. And with some big institutional, pension and endowment funds swinging their weight around, CEO pay could be on the chopping block.
Be sure to check out our ESG Channel to learn more.
The Wage Gap Grows
With social and governance issues now being the hot ticket, ESG investors have turned their attention to a problem that continues to grow exponentially – and that’s the wage gap between regular working class people and those in the corner offices. The latest numbers show that the difference has continued to surge.
According to the latest study from the Institute for Policy Studies (IPS), it showed that the pay gap between workers and CEOs at 300 publicly listed U.S. companies jumped to 670:1 in 2021. This is above the 604:1 recorded during the pandemic and much higher than numbers recorded in 2019. All in all, an average CEO made an extra $2.5 million, with compensation rising to $10.6 million last year. In comparison, the average median worker’s salary rose by $3,556 to reach $23,968.
Looking longer term, the trajectory is equally as steep. Since 1978, average CEO compensation has grown by 940%. However, the average worker has only seen their compensation climb by 12% in that time.
With CEO and executive pay packages surging well above the average workers, income inequality has quickly become the topic du jour for many investors. There has been plenty of research that shows rising income equality can have a variety of economic effects, including a slowing of overall economic demand by 2%-4% per year. These effects are exacerbated during periods of high inflation – and this doesn’t even take into the social and social aspects.
A Change In Policy
Given the massive wage gap and the issues that surround this fact, many ESG-focused institutional investors have “taken to the streets,” so to speak. Thanks to their size and taking a page out of activist investors, these firms are now using their voting muscle to help reduce the wage gap and tie compensation to ESG metrics.
For example, in 2021, New York State’s $270 billion common retirement fund filed shareholder petitions towards McDonald’s to include wage and other ESG metrics into its executive pay plans. The Golden Arches gave in and redesigned their executive pay structure to include these items. But they aren’t alone in dealing with ESG investor pressures. More than 16 firms had their CEO pay packages rejected by shareholders last year – more than double the number rejected in 2019.
Moreover, the number of firms that have started to directly tie CEO compensation to ESG metrics-including wage gap issues has grown as well. Last year, roughly a quarter of all U.S. firms included ESG metrics in their pay plans. Up from just 16% in 2019.
Getting Aggressive in the Future
With the wage gap still growing, many socially responsible investing (SRI) pundits predict that CEO pay will be largely influenced by various environmental, social and governance metrics. And that compensation will be driven by a more hands-on approach.
For one thing, the trio of BlackRock, State Street and Vanguard has started to vote their massive index funds towards more ESG-friendly policies this proxy season. With billions of capital and voting power, the trio can significantly change the dynamic at a variety of firms. Even heavily entrenched/family-owned firms like Walmart could be forced to “bend” on ESG/wage gap issues based on the trio’s voting power. Meanwhile, the number of pension funds and endowments enacting ESG-focused activism has surged as well.
And they’ll be more hands-on as well. One of the reasons why CEO pay has surged is that it is often tied to stock market performance not operational performance. Recent proxy and shareholder petitions have shifted the narrative towards aligning pay with ESG operational goals. Moreover, many of these suggestions have avoided the low-hanging fruit and easy ESG slam dunks in favor of more progressive SRI metrics.
Pundits also suspect with the economy moving towards recession and inflation raging that more pressures will be put on business leadership to focus on workers rather than just keeping the bottom line going.
Be sure to check our Portfolio Management Channel to learn more about different portfolio rebalancing strategies.
The Bottom Line
With the wage gap between top brass and front-line workers growing, executive pay has emerged as a top ESG issue. An issue that is becoming an active one. Using proxy votes and sheer size, a variety of large investors are pushing for greater ESG-adoption in CEO pay metrics – and that is expected to keep growing as time goes on.
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