Make 7ENSE : What is Deferred compensation?

Deferred compensation is a portion of an employee's income that is paid out at a later date beyond when the income was earned. Often utilized in executive compensation plans, this arrangement serves as a mechanism to incentivize and retain key employees. Pensions, retirement plans, and stock options are some common forms of deferred compensation.

In the framework of sustainability and environmental, social, and governance (ESG) goals, deferred compensation can act as a potent tool to encourage executives to contemplate the long-term ramifications of their decisions. This is particularly pertinent in the pursuit of sustainable business practices, which frequently necessitate investments and strategies that might not yield immediate financial returns, yet are vital for long-term sustainability and resilience.

When a part of executive compensation is deferred and linked to long-term sustainability targets, it creates an incentive for executives to focus on attaining these objectives. Consequently, this can lead to strategic decisions that prioritize long-term sustainability over immediate gains, thereby fostering a corporate culture that values and rewards sustainable practices.

For instance, an executive could receive bonuses that vest over a three to five-year period, contingent upon the company meeting specific sustainability goals such as reducing carbon emissions or enhancing energy efficiency. This approach aligns the financial interests of the executive with the company's sustainability goals, promoting decisions that benefit both the company and the environment in the long run.

However, devising an effective deferred compensation plan associated with sustainability goals demands careful consideration. The chosen sustainability targets need to be relevant, measurable, and ambitious enough to drive significant progress. These targets should also be within the executive's sphere of influence, ensuring that they can affect the outcome.

Transparency is also a crucial aspect of such compensation plans. Clear communication about how the targets are established, how performance is assessed, and how the deferred compensation is tied to sustainability performance is key to maintaining trust among executives, shareholders, and other stakeholders.

In conclusion, deferred compensation represents a powerful instrument to promote long-term sustainable behavior within companies. By linking deferred compensation to sustainability performance, companies can motivate executives to prioritize and accomplish sustainability goals, thereby nurturing a corporate culture that values and propagates sustainable practices.