Hewitt Study Shows Long-Term Incentives in Executive Compensation Packages Are Back

After being hit hard during the economic downturn, many U.S. executives are seeing the value of long-term incentive (LTI) grants rising in their 2010 compensation packages, according to an analysis by Hewitt Associates, a global human resources consulting and outsourcing company. But these rewards now come with strings attached—an increasing number of companies are tying LTIs to specific performance goals, which must be met before the grants are made to executives.

Hewitt recently conducted a detailed analysis of 2010 Form 4 Securities and Exchange Commission (SEC) filings of the Fortune 250, excluding newly hired executives. According to the analysis, the total median economic value delivered through LTI grants increased 23 percent in 2010 from 2009, nearly reversing the 20 percent drop in value that took place during the economic downturn in 2008 and 2009. As markets recovered in 2010, companies could award fewer shares through LTI grants to meet their targeted value goals. Hewitt’s analysis shows the number of shares awarded through LTI grants in 2010 fell by a median of 19 percent compared to 2009, bringing annual run rates more in line with historical norms.

“The financial crisis and resulting stock market decline of 2008 created a unique set of circumstances in executive compensation,” explained David A. Hofrichter, principal and business development leader of Hewitt’s Executive Compensation Consulting practice. “As stock prices declined, many companies were forced to reduce their LTI grants in 2008 and 2009. Companies that review 2009 proxy data will see this trend continuing. But when you analyze Form 4 data—which provides a more accurate picture of what’s really happening in the market—you’ll see that companies have started beefing up LTIs again in 2010.”

The Rise of Performance Plans

The rise in LTI value does not come without hurdles for executives, however. According to Hewitt’s research, more companies are moving away from totally unrestricted grants and establishing performance plans that require executives to hit specific business goals to pay out. Hewitt’s research shows that the prevalence of LTI performance plans has steadily increased over the past seven years, from 18 percent in 2003 to 35 percent in 2009.

Long-term incentives are an important part of an executive’s compensation structure because they are directly tied to the creation of long-term shareholder value and help attract and retain top leadership. Typically, LTIs consist of a combination of stock options, restricted stock and performance plan options. According to Hewitt, the most common mix for an LTI plan consists of 40 percent stock options, 40 percent performance plan options and 20 percent restricted shares. The second most common combination is dividing the mix into thirds.

“While LTI values are coming back as the economy slowly recovers, Compensation Committees now want something for these grants,” explained Hofrichter. “They are expressing this additional requirement through performance plans, which target key metrics and support the strategy of the organization.”

About Hewitt Associates

Hewitt Associates (NYSE: HEW) provides leading organizations around the world with expert human resources consulting and outsourcing solutions to help them anticipate and solve their most complex benefits, talent, and related financial challenges. Hewitt works with companies to design, implement, communicate, and administer a wide range of human resources, retirement, investment management, health care, compensation, and talent management strategies. With a history of exceptional client service since 1940, Hewitt has offices in more than 30 countries and employs approximately 23,000 associates who are helping make the world a better place to work. For more information, please visit www.hewitt.com.

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