Not Enough Downside in Annual Incentives, Study Suggests

The typical annual incentive plan pays out at least at target 70% of the time, according to a new 10-year analysis from Compensation Advisory Partners, who measured actual payout levels for 120 large U.S. public companies. 

Why it matters: Incentive plans are described as “pay at risk” because they are only earned based on the achievement of specific goals. But the WTW analysis indicates there is a 95% chance of attaining at least threshold performance, putting into question how much downside risk is actually embedded in the plan. ISS and other stakeholders are on the lookout for “lack of rigor” in goal-setting and have developed sophisticated tools to capture this based on long-term payout history.  

Go deeper: 

From 2013-2022, the payout distribution showed the following curve:  

The results are similar to FW Cook’s Top 250 Annual Incentive report, which also demonstrated minimal variability within these plans and payouts consistently above target. 

Goal rigor: Both CAP and FW Cook underscore the importance of the goal-setting process leading to the right payout outcomes. Companies can adjust the slope of the funding lines and use relative measures to compare performance during volatile and uncertain times.  

Striking the balance: Companies should review their historical payout levels to see where their average is over the long-term. Increasing the certainty of payouts should be balanced with reduced payout leverage. But all this plan design engineering begs the question, “Is it necessary to achieve the level of performance desired?” The Center’s recent thought leadership explores this question and tactics to simplify incentive design.