How do you maintain your well-earned reputation as a competitive employer and, at the same time, comply with the new tougher public and regulatory expectations?

It is no easy task striking a balance between legal requirements and commercial pressures when putting together an effective remuneration package. The answer is that remuneration should be aligned with each employer’s overall strategy, taking into account the level of risk that its stakeholders are prepared to accept. A well structured package will inevitably include a proportion of pay which is performance-related but this must be carefully designed to ensure that it is not excessive in terms of your business and there is no reward for failure. How is this achieved?

In considering this question, you will need to consider: (a) whether existing arrangements need to be changed; and (b) whether it is possible to change them.

Do existing arrangements need to be changed?
The answer may be ‘no’!  In considering this question, there is no point in adopting a herd mentality and assuming that change is good in itself.  You should review your existing remuneration package (e.g. bonus arrangements, long term incentives) and consider whether it works sufficiently well to attract, retain and incentivise the right employees.

Whilst benchmarking against competitors is an effective way of equipping yourself with market positioning information, you will need to undertake an internal audit and risk analysis to ensure that remuneration reflects the overall strategy of the organisation.  In particular, the components of a remuneration package, such as the ratio of fixed to variable pay, should reflect your organisation and its stakeholders in terms of strategy and risk. 

You will also need to ensure that you are complying with the various new regulations and that you are satisfied with the extent to which you meet best practice requirements.  There has been much press discussion about bonuses and variable pay and there have been numerous calls for employers to tighten up remuneration structures, particularly in the financial services sector.  For financial services companies there are now rules on the extent to which short term cash bonuses can be paid and considerable expectations as to deferral, vesting conditions and claw back terms.  The requirements for other types of company are less stringent but it is likely that the market will demand that many corporate employers align their variable pay structures with their risk profile.  For example, many employers no longer measure revenue targets for annual bonus purposes but instead assess profits and require the underlying cash flow to substantially reflect the stated profit. 

Can existing remuneration arrangements be changed?
It may be that existing remuneration arrangements are already sufficiently flexible to allow variable pay terms to be changed, but caution is required.  If existing arrangements need to be changed, the extent to which this can be done depends on contract and employment law and generally is only possible with the agreement of the employee.  Otherwise, the employer may find itself subject to a breach of contract claim.  In the event of any ambiguity, courts are likely to favour the employee.  Employers should also consider whether there is a requirement to consult with employee bodies.

In practice, many bonus arrangements are labelled "discretionary" but the label will not necessarily have legal effect.  Many employers will have distributed detailed handbooks for employees on how the discretionary bonuses will be determined.  They may also have paid out bonuses in a similar way year-on-year.  As a result, employees may have developed a legitimate expectation of receiving a bonus and in relation to the level of bonus.  If a proportion of the division’s profits are paid out each year by way of bonuses, it can be tricky for employers to change this.  It is possible that the practice has developed into a contractual agreement.  In any case, even if this has not happened, employers should be careful to maintain the implied duty of mutual trust and confidence and to act in good faith with its employees.

Should existing remuneration policies be changed?
The substantive answer depends on your particular facts.  However, if you can answer ‘yes’ to the following, then you have at least gone through the right process to come to the decision. 

1.    Do you understand the new regulatory framework and know the expectations from your stakeholders and the market on your company from a best practice perspective?
2.    Have you assessed the effectiveness of your remuneration policies in terms of attracting, retaining and recruiting employees within the context of the market and your internal strategy?
3.    Have you undertaken a legal audit on the extent to which changes can be made to your policies?
4.    Have you had proper input from other functions such as strategy and risk?
5.    Do management fully support any changes being considered? 

This is not an easy process and reflects why the HR role is now considered by the most successful companies as a strategic board level function.

Jeremy Glover is partner and Anika Chandra is associate at Stephenson Harwood
To contact Jeremy or Anika, please email: Jeremy.glover@shlegal.com or anika.chandra@shlegal, or call 020 7329 4422