This series is designed to explore a fundamental question that was raised by the NACD Blue Ribbon Commission on Strategy Development: “Does your company’s incentive structure reinforce or unintentionally undermine its chosen strategy?” Parts 1 and 2 – which are available for replay – outlined a number of diagnostic tools and approaches that boards can use to uncover potential misalignment between their strategy and the compensation program design. We’ve also looked at various protocols that can help improve alignment and drive toward desired goals. As we know – protocols cannot anticipate every situation. The fresh news on the proposed SEC rules regarding pay for performance disclosure is a perfect example! I’m joined today by Jim Heim and Theo Sharp, both managing directors in the Boston office of Pearl Meyer and Partners and today we’re going to talk about some real-world examples that show how companies have put these smart theories and protocols into practice and how they’ve remained disciplined toward strategy execution but also flexible to accommodate the unexpected.

1. ADVANCING EXEMPLARY BOARD LEADERSHIP
Age of Alignment Part III:
Moving From Theory to Practice
Compensation Series
May 14, 2015

2. 2
Meet The Presenters
Robert Galford (moderator) is a Managing Partner of the Center for
Leading Organizations and is on the teaching faculty of the NACD.
He is a member of the Board of Directors of Forrester Research.
Jim Heim is a managing director in the Boston office of Pearl
Meyer & Partners
Theo Sharp is a managing director in the Boston office of Pearl
Meyer & Partners.
Deborah Lifshey is a Managing Director in the New York office of
Pearl Meyer & Partners

3. 3
Click the buttons below to access additional resources
Housekeeping

4. 4
Housekeeping
Click below for a copy of the slides.
Slides are also available at
pearlmeyer.com/ageofalignmentpartIII

5. 5
You will automatically receive 1 NACD skill-specific
credit for your participation.
Credit may be applied to NACD Fellowship
programs. Contact Fellowships@NACDonline.org
for more details.
The replay and slides will also be available early
next week at NACDonline.org/webinars and
pearlmeyer.com
Housekeeping

6. Today’s Discussion
• Breaking News: The SEC’s Proposed Pay-versus-Performance Rules in
a Nutshell
• Review key points from Parts I and II in the Age of Alignment series
• How to set the framework for incentive design analyses
• How to integrate market/industry practice, optics, performance
alignment and business/industry reality
• What to do when the numbers don’t tell the whole story
• Weighting subjective strategic goals over objective financial goals
• In practice: case studies
6

7. The SEC’s Proposed Pay v. Performance Rules
• Time Period: Past 5 years (phase in over 3 years)
• All NEOs Included
- Each CEO for the year, with multiple CEOs aggregated
- All NEOs averaged
• “Actual” Compensation
- Equity in year of vesting
- Service cost of pensions only
• Performance = Total Shareholder Returns (TSR) for Each Year
- Also includes Peer Group TSR for each year (published industry/index/CD&A peers) weighted
based on market cap at beginning of period
• Exemptions
- Emerging Growth Companies, Foreign Private Issuers, Registered Investment Companies
- Smaller Reporting Companies
• Scaled Disclosure (3 years, 3 NEOs, no pensions, no Peer TSR)
• Interactive Data Tagging - XBRL
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DFA 953(a): Disclosure of “the relationship between executive compensation actually paid and the financial
performance of the company taking into account any change in value of the shares of stock and dividends of
the company and any distributions”

8. The SEC’s Proposed Pay v. Performance Rules
• Disclosure Requirement
- PVP Table
Pay Versus Performance Table (New Item 402(v))
- Description of Two Relationships
• Actual Compensation vs. Company TSR
• Company TSR vs. Peer Group TSR
- Narratives, Graphics, Supplemental Disclosure Permitted
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Year SCT
Total
Compensation
CEO
Compensation
Actually Paid
CEO
Average SCT
Total for Other
NEOs
Average
Compensation
Actually Paid to
Other NEOs
Company Total
Shareholder
Return
Peer Group
Total
Shareholder
Return
2011
2012
2013
2014
2015

9. Strategy and Incentives (AOA I)
9
• Through a rigorous strategy development
process where management and the Board
are involved
- Key performance drivers are identified
- Priorities are established
- Key areas to incentivize can be targeted
• Easy to fall back on pure numbers to drive
incentive design but Strategy should play an
integral role
- Signals to employees the importance of the chosen
strategy
- Reinforces employee understanding and acceptance
of the strategy
- Creates a virtuous cycle where increased
understanding drives aligned actions which helps
accomplish the chosen strategy
Revenue
Growth
Value
Creation
Economic
Profit
Market Share
Return on
Invested Capital
New Products
Cost of Capital
Capital
Efficiency
Quality
New Markets
Operating
Margin
Capital
Deployed
Innovation
R&DDistribution
Costs
Working
Capital
Pricing

10. Performance Measures are a Critical Link Between
a Stated Business Strategy and Management
Execution (AOA II)
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In most cases, the strategy can be
well supported by financial analysis
• Maximize shareholder value
• Company-specific path to value-
creation taking into account
- Market economic; competitive position
- Company strengths, weaknesses,
opportunities and risks
• Specific/relevant financial
measures, balancing growth and
returns
• Operational measures tied to
business strategy
Goal
Centerpiece
Financial Measures
Corporate Processes
Operating Decisions
Incentives Planning &
Resource Allocation
Reporting
Strategy
Driver Measures

11. Strategy is Sometimes Not Best Represented
Solely by Financial Indicators
• Some situations call for short-term or even long-term
decisions that don’t produce immediate financial results
- Turnarounds
- Industry disruption
- Bankruptcies
- Innovation
• Strategy can be affected by corporate culture and internal
change
- CEO changes
- M&A
- Employee values
• Outside influencers should be understood, but sometimes
intentionally ignored
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12. Protocol for Designing Incentives
• To be sure that the overall strategy is well supported by
compensation plans, each year the Compensation
Committee should evaluate:
1. The state of the business:
- Strategic imperatives
- Financial imperatives
- Company cultural imperatives
2. The industry:
- Change drivers
- Technological momentum
- Competitive landscape
3. External forces:
- ISS
- Activist shareholders
- Media
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Evaluate
Balance
Adjust

13. Protocol for Designing Incentives (cont.)
• Determine the balance of the imperatives
• Emerging companies:
- Focus is on product development/launch
- Strategic imperatives take precedence
• Growth companies:
- Focus shifts to expansion of market
- Even weighting between financial & strategic imperatives
• Mature companies:
- Focus shifts to maintenance
- Financial imperatives take precedence
• Turnaround / Industry disruption:
- Focus on efficiency and responsiveness to shifting market
- Strategic imperatives take precedence
13
Evaluate
Balance
Adjust

14. Protocol for Designing Incentives (cont.)
• Adjust the balance for the time horizon
• Short-term incentives should have a different focus than
long-term incentives – avoid redundancy!
• Short-term can include product milestones or market share
growth – encapsulate the short-term priorities!
• Long-term will most often reflect financial imperatives such
as margin improvement or better returns – but could also
contemplate strategic imperatives such as a product phase-
out!
14
Evaluate
Balance
Adjust

15. Case Study #1
Midcap Technology Company
1) Profile:
- Strategic imperatives:
• Shifting business from low-margin hardware to high-margin software
• New product development and introduction
• Need to maintain legacy business to fund R&D
• Change customer mix
- Financial imperatives:
• Maintain positive cash flow
• Hold margin on legacy products
- Cultural imperatives:
• Change executive skill sets to software
• Recognize that long-time employees may feel threatened
• Likely short-term stock-price stagnation (at best) may cause erosion of equity incentives
and negative outlook toward compensation
- Industry imperatives:
• Legacy products were becoming extinct with technological advancement forcing the
entire industry to change 15

16. Case Study #1
Midcap Technology Company
2) Conclusion:
- Annual bonus program:
• Weighted mix of metrics to strategic goals
- Product introduction
- Major account wins
• Increased weight of MBO metric to 25%
• Kept profitability/loss goal, but decreased weight to 25%
• Any bonuses paid in shares
- Long-term incentives:
• Eliminated performance-based restricted stock
• Weighted grants to stock options
• Included time-based restricted stock for retention
• Planned to re-introduce performance-based restricted stock as business stabilized into
new model
16

17. Case Study #2
Large industrial manufacturer
1) Profile:
- Strategic imperatives:
• Maintain leading position in its core manufacturing business
• Drive discipline around capital investment
• Improve efficiency
- Financial imperatives:
• Provide returns in excess of cost of capital
• Grow stock price (currently underperforming)
- Cultural imperatives:
• History of paying maximum bonuses each year
• Executives undervalue equity grants
• High profile Board is cognizant of shareholder optics
• Economic value added (EVA) concepts drive decision making
- Industry imperatives:
• Cyclical business
• Commodity prices impact customer buying behavior 17

18. Case Study #2
Large industrial manufacturer
2) Conclusion:
- Annual bonus program:
• Metrics heavily weighted towards ROA to reinforce capital investment discipline
• Goal-setting considers business cycle and peer historic performance
• New addition is emphasis on revenue from new sources (geographic regions, new
products) to encourage top line growth
- Three-year cash bonus program:
• EVA as metric
- LTIP:
• TSR and sales growth
• Performance measured on relative basis
• New addition is re-introduction of stock options to both underscore growth imperative
and provide equity vehicle with greater leverage in cyclical business climate
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19. Case Study #3
Large Cap Distributor
1) Profile:
- Strategic imperatives:
• Maintain and expand diverse product offerings
• Expand geographic footprint
• Growth through acquisition
- Financial imperatives:
• +10% annual growth
• Increase dividends
- Cultural imperatives:
• Loyal, long-tenured executive team
• Highly team-focused
• Succession planning is ongoing
- Industry imperatives:
• Consolidation is abundant
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20. Case Studies
Large Cap Distributor
2) Conclusion:
- LTIP reflects long-term growth imperative (PSUs, with performance
assessed vs. 10% EPS growth goal), but also includes RSUs to foster
management continuity
- Bonus program is mix of financial and strategic imperatives
• Corporate financial performance
• Business unit financial performance
• Individual strategic measures
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21. ADVANCING EXEMPLARY BOARD LEADERSHIP
Questions

22. Don’t Miss Our Upcoming Webinar
Join NACD and Pearl Meyer & Partners for the next program
in our Compensation Series on August 6, 2015.
To register or check out the archives of earlier webinars in
this series, visit NACDonline.org/webinars.
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23. 23
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To learn more about NACD Fellowships, visit us at
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24. ADVANCING EXEMPLARY BOARD LEADERSHIP
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