In Depth
Peer group benchmarking is the process by which compensation committees compare their company's executive pay levels, pay mix, and incentive plan design against a carefully selected group of similar companies. The peer group typically consists of 12 to 20 companies chosen based on criteria such as industry, revenue size, market capitalization, business complexity, and talent competition. The committee and its independent compensation consultant use peer group data to set target compensation levels — most commonly targeting the 50th percentile (median) of the peer group for each pay element, though some companies target the 75th percentile for specific elements if they believe their executives are above-average performers. Peer group selection is one of the most scrutinized aspects of compensation governance because the choice of peers directly influences whether a company's pay appears reasonable or excessive. A company that selects peers that are significantly larger or higher-paying can justify higher CEO compensation by claiming it is merely matching the competitive market. Proxy advisory firms like ISS construct their own independent peer groups for pay-for-performance analysis and may reach different conclusions than the company's self-selected peer group. Companies must disclose their peer group in the CD&A section of the proxy statement and explain the criteria used for selection. Best practices include reviewing and adjusting the peer group annually, removing companies that have been acquired, and avoiding cherry-picking peers that artificially inflate pay benchmarks. Despite its ubiquity, benchmarking has been criticized by governance advocates for creating a ratcheting effect — as companies target the median or above, the median itself increases over time, contributing to persistent compensation inflation across the market.