KEY POINTS:
Since I last wrote about CEO remuneration it has been heartening to see more institutional investors in the local market join smaller shareholders in resisting moves by companies to grant excessively generous option packages.
However, it remains disappointing to see so many boards of directors still proposing inappropriate
remuneration packages for CEOs. Worse still is the tendency of many to follow the lead of Graham Henry and Co by steadfastly refusing to entertain the thought that they are doing anything but following best practice, even as the score/votes mount against them.
Similar institutional unrest can be observed in other Western economies, with the public questioning of CEO, and in some cases chairmen's, pay packages. This is hardly surprising given the continual acceleration of top executive pay ahead of the "man in the street's" wages.
The remuneration of the top three executives in US corporates was around 40 times the average wage in 1970, rising to 160 times in 2005, before skyrocketing to 400 times average pay in 2007. Even well-paid fund managers are not oblivious to the fact that this is not simply a matter boards can brush under the mat and explain away with yet another consultant's report.
So shareholders of all shapes and sizes, like much of the general public, are increasingly outspoken about the rewards offered to corporate leaders, particularly poor-performing ones.
Historically it was large redundancy packages being paid to get rid of poor performing chairmen and CEOs that were headline grabbers. This is still occurring; Stanley O'Neal, of Merrill Lynch, will receive between US$130 to US$160 million and Charles Prince, of Goldman Sachs, around US$70 million, reinforcing public perceptions that when companies like Merrill and Goldman Sachs get in to trouble, it is the employees and shareholders who pay the price while top execs walk away for some well-funded R&R (or worse still for shareholders, straight into a similar role).
However, it is clear that attention is now focused on the remuneration packages being offered to new and existing CEOs as well as those being shown the door.
Across the Tasman, we are seeing shareholder activism sweeping the boardroom, with shareholders voting against Sol Trujillo's A$11.7 million package at Telstra, Suncorp Metway's proposal for John Mulcahy and the remuneration report tabled by Babcock & Brown's board.
If boards fail to heed the messages that are being delivered loud and clear by mainstream shareholders, then they will have far bigger concerns to deal with. While militant unions may seem a thing of the past, this is a potentially galvanising issue for workers and one that expensive remuneration and PR consultants will not be able to help much with in terms of broader societal opinions.
Potentially worse still is the prospect that real and perceived corporate largess that benefits an elite group, regardless of performance, will bring increased Government involvement in the business world.
Warren Buffett reported in the Economist January, 2007, "In judging whether corporate America is serious about reforming itself, CEO pay remains the acid test", concluding that "To date the results aren't encouraging."
That icons of the investment world like Buffet treat the need for reform as beyond debate must carry weight with those at the head of our companies.
As I have argued elsewhere, CEO remuneration and the communication and process around it is fundamental to shareholder perceptions of their boards' competence and fairness.
It is critical the CEO pay is linked to appropriate measures of their own and their company's performance, and that this is transparently and willingly demonstrated. Aside from the high profile payouts to failed CEOs mentioned earlier, numerous pieces of empirical research show that this link between performance and pay frequently doesn't exist, or is purely one-way. For example, Marianne Bertrand of the University of Chicago and Sendhil Mullainathan, a Harvard economist, studied the US oil industry to investigate whether CEOs were paid for luck as much as accomplishments directly attributable to them.
They found that chief executives' pay always benefits when the oil price is high, but does not necessarily suffer correspondingly when the price is low. They found that the typical firm rewards its chief executive as much for luck as it does for good performance. The effect cannot be explained simply by the increase in the value of managers' share options: it also shows up in their base salaries and bonuses, which are directly controlled by boards.
There is no doubt in my mind that boards in New Zealand need to avoid many of the mistakes that are occurring in countries like the US and Australia if we want and expect the loyalty of the company employees and shareholders. Without for a moment seeking some sort of communist-inspired utopia of equal earnings for all, it is critical that there remains some relativity between the senior executives and the other employees.
Furthermore, from a shareholder perspective, it is vital to see a clear alignment between short, medium and long-term equity-based executive reward and return to shareholders.
In summary, we at the NZSA do not begrudge rewarding key executives and employees for long-term results, provided shareholders have similar benefits. What we do wish to see is boards do more to justify CEO (and their own) remuneration than their current strategy of relying on the reports of "independent" (who pays their bill) consultants who in every report regurgitate the same justifications about increasing demands on CEOs, the global marketplace, etc, while rarely mentioning actual performance.
As Warren Buffett notes, how many of us have every actually met a remuneration consultant who thought a chief executive was underpaid?
A final thought - the way that a CEO's package is structured is an integral part of the board's management of the CEO, and this, surely, is a strategic and company specific matter.
There is something fundamentally flawed about a board seeking to comply religiously with "norms" of what and how other similar sized corporates do in such an important area.
Excellent performance and shareholder returns seem more likely to accrue in companies that think for themselves in such critical areas, and that have CEOs who aren't insistent on being treated identically to their peers.
* Des Hunt is corporate liaison for the NZ Shareholders Association.
