An increasing number of companies are choosing to link executive compensation to sustainability. This trend has become particularly evident among Nordic listed companies.
Within the OMXS30 index, 69% of companies have some form of connection between CEO remuneration and sustainability, and the equivalent figure for OMX Nordic 120 is 73%. At first glance, this may seem like a highly positive development. But is it that simple? Adjusting incentive structures to better align executive motivations with sustainability efforts is, at its core, a good step. It signals that sustainability issues are being prioritized and are approaching the importance of traditional financial goals. However, like all good intentions, there are critical considerations to take into account.
A key issue lies in the quality of sustainability data that companies report. A Deloitte report shows that 45 of the UK’s 100 largest publicly listed companies had to correct one or more of their ESG-related data points after publication last year. This highlights a significant deficiency in many companies’ ability to accurately measure and report their sustainability impact. Imagine if the same problem applied to financial metrics - how many companies would get away with misreporting their revenue, cash flow, or EBITDA?If companies cannot measure and report accurately, it becomes very difficult to meaningfully tie compensation to sustainability goals. Building internal capacity and implementing systems that follow established standards is a fundamental prerequisite. Without this, incentive systems risk being ineffective or even counterproductive.
A recent study by Adam Badawi and Robert Bartlett (2024), focusing on S&P 500 companies, sheds light on another interesting aspect: ESG-linked compensation systems often result in higher executive pay but do not necessarily lead to better sustainability outcomes. The study reveals that while executives miss all their financial targets 22% of the time, they miss all their ESG targets only 2% of the time. The authors interpret this to mean that ESG goals are less ambitious, less transparent, and easier to manipulate.Financial metrics are typically based on public and standardized accounting principles, whereas ESG metrics lack the same transparency and structure. This makes it easier for management to set easily achievable ESG goals or manipulate how they are reported. While this study focused on S&P 500 companies in the U.S., I hope it will be replicated for European companies, as ESG reporting has a different focus in Europe.'
The EU’s new Corporate Sustainability Reporting Directive (CSRD) may help create a clearer and more transparent framework for how companies report on sustainability. Historically, companies have been poor at adhering to voluntary guidelines (as Deloitte’s study above also demonstrates). However, with the CSRD, we are moving from voluntary guidelines to regulation. This shift could create stronger incentives to report accurately and build internal capacity to measure and analyse corporate impact.
Linking executive compensation and incentives to sustainability is the right move. But for it to work, a longer time horizon and a solid foundation for measurement and reporting are needed. The first step should always be to build internal capacity to report accurately and in line with established standards. Once this is in place, incentives can be tied to short-term performance but paid out over the long term. This approach would help companies avoid creating incentive systems that reward manipulation or poor reporting. Naturally, such systems should not become another way to generate excess pay but rather replace existing incentives.Tying compensation to sustainability is an essential tool for driving transformation. But it is not a shortcut. It requires transparency, accurate data, and a long-term strategy. Only then can we ensure that these systems lead to real change.
Publication Details
Chronicle published by Affärsvärlden
Author: Cédric Olivares-Jirsell
Date: January 13 2025
Within the OMXS30 index, 69% of companies have some form of connection between CEO remuneration and sustainability, and the equivalent figure for OMX Nordic 120 is 73%. At first glance, this may seem like a highly positive development. But is it that simple? Adjusting incentive structures to better align executive motivations with sustainability efforts is, at its core, a good step. It signals that sustainability issues are being prioritized and are approaching the importance of traditional financial goals. However, like all good intentions, there are critical considerations to take into account.
A key issue lies in the quality of sustainability data that companies report. A Deloitte report shows that 45 of the UK’s 100 largest publicly listed companies had to correct one or more of their ESG-related data points after publication last year. This highlights a significant deficiency in many companies’ ability to accurately measure and report their sustainability impact. Imagine if the same problem applied to financial metrics - how many companies would get away with misreporting their revenue, cash flow, or EBITDA?If companies cannot measure and report accurately, it becomes very difficult to meaningfully tie compensation to sustainability goals. Building internal capacity and implementing systems that follow established standards is a fundamental prerequisite. Without this, incentive systems risk being ineffective or even counterproductive.
A recent study by Adam Badawi and Robert Bartlett (2024), focusing on S&P 500 companies, sheds light on another interesting aspect: ESG-linked compensation systems often result in higher executive pay but do not necessarily lead to better sustainability outcomes. The study reveals that while executives miss all their financial targets 22% of the time, they miss all their ESG targets only 2% of the time. The authors interpret this to mean that ESG goals are less ambitious, less transparent, and easier to manipulate.Financial metrics are typically based on public and standardized accounting principles, whereas ESG metrics lack the same transparency and structure. This makes it easier for management to set easily achievable ESG goals or manipulate how they are reported. While this study focused on S&P 500 companies in the U.S., I hope it will be replicated for European companies, as ESG reporting has a different focus in Europe.'
The EU’s new Corporate Sustainability Reporting Directive (CSRD) may help create a clearer and more transparent framework for how companies report on sustainability. Historically, companies have been poor at adhering to voluntary guidelines (as Deloitte’s study above also demonstrates). However, with the CSRD, we are moving from voluntary guidelines to regulation. This shift could create stronger incentives to report accurately and build internal capacity to measure and analyse corporate impact.
Linking executive compensation and incentives to sustainability is the right move. But for it to work, a longer time horizon and a solid foundation for measurement and reporting are needed. The first step should always be to build internal capacity to report accurately and in line with established standards. Once this is in place, incentives can be tied to short-term performance but paid out over the long term. This approach would help companies avoid creating incentive systems that reward manipulation or poor reporting. Naturally, such systems should not become another way to generate excess pay but rather replace existing incentives.Tying compensation to sustainability is an essential tool for driving transformation. But it is not a shortcut. It requires transparency, accurate data, and a long-term strategy. Only then can we ensure that these systems lead to real change.
Publication Details
Chronicle published by Affärsvärlden
Author: Cédric Olivares-Jirsell
Date: January 13 2025
