With shareholders and politicians on the warpath over executive pay, the chairman of the remuneration committee now has one of the hottest seats on the board. The focus is on lavish rewards for woeful performance, but the real issue lies with a lack of perceived accountability due to the complexity of compensation packages. Ask any Remco Chair and they’ll tell you that simplicity and transparency are what’s needed.
The problem lies in unravelling pay ‘structures’ that have been devised over a number of years. Philip Rowley, Non-executive Director and Remco Chair at microchip designer ARM Holdings, comments: “Openness, transparency and clarity are a good thing. I think that trying to drive to a single number is a sensible thing to do, too. Likewise, publishing policy which is voted on is good as long as one is allowed to be broad enough in drawing the policy so that you don’t feel you have to go back to shareholders every year.”
In the UK, remuneration reforms have sought to address the issue of high pay for poor performance, such as forcing companies to have binding votes on executive pay every three years, including exit payments made to dismissed directors. The disclosure requirements, which come into effect this October, were initially met with disdain but many executive and non-executive directors now recognise (outwardly, at least) that there should be a positive impact.
“If there has been an enhancement in the quality and quantity of engagement between companies and shareholders, that is all to the good for everyone concerned – better run companies which have proper and proactive relationships with their stakeholders must be welcomed,” says Anthony Fry, Chairman of Dairy Crest Group.
The increased communication with shareholders is to be encouraged. Alison Carnwath, Chairman of commercial property and investment company Land Securities, says: “Institutions are becoming more vocal and interested in the subject and some retain their own experts to question policy and practice with companies. This is welcome and will lead to fewer misunderstandings and abuses.”
According to Alison, who was the former pay boss at Barclays who refused to agree to a bonus for the ex-Chief Executive, Bob Diamond, as she felt the bank’s 2011 performance was unsatisfactory, it needs to be remembered that, in the main, companies do take considerable care when constructing remuneration schemes. "The caveat is that many schemes have evolved over the years to try to satisfy differing audiences, and the end products are not perfect,” she adds.
Devising a compensation package that pleases everybody is something of an impossible task given the competing agendas, which is why transparency and communication are crucial. Both Leslie van de Walle, Criticaleye Board Mentor and Chairman of SIG, and Andy Pomfret, CEO of investment management firm Rathbone Brothers, stress the need for a relatively straightforward approach.
“Pay structures need to be simplified,” insists Leslie. “It is too complex with salary, benefits, short-term bonuses and long-term incentives, reflecting conflicted shareholder demands on CEOs, such as short-term and long-term value creation.”
Andy says: “I would prefer to give people a salary and just a bonus, with that bonus being deferred for a period such that it could be clawed back if there’s proof that something bad was done... But I would keep it simple these days and ideally pay it in shares so people then have an ongoing interest in the company.”
So has the investor activism of last year in Britain, dubbed the ‘shareholder spring’, led to a change in corporate behaviour? David Ellis, Head of Reward at KPMG UK, says: “Consultation between companies and shareholders has increased. We’ll see the need for consultation every year, requiring Remco Chairs to explain what’s happening in the annual report.”
Sir Robert Margetts, an experienced chair of remuneration committees and former Chairman of insurance giant Legal & General, says: “I welcomed the ‘shareholder spring’, in that it brought a measure of counterbalance to the inflationary excesses of recent years. Unfortunately, it was a little blind and random in the end but it did constitute a wake-up call, which is surely a good thing.”
For Alison, the greatest difficulty surrounds disclosure of individual, personal and other commercially sensitive targets for directors: “In some areas companies are still awaiting guidance from their shareholders. On balance, the disclosures should not cause companies problems and ought to provide better clarity for shareholders.”
For those in the financial services sector, the spotlight is a lot harsher, especially with the uncertainty from the European Union over its push for pay caps. Andy says: “We don’t know how it’s going to work and it kicks in on 1st January next year, assuming they stick to the timetable – it’s a nightmare for us.”
While Andy has no issue with the forthcoming UK requirements – “we disclose more than we have to do so far” – the lack of clarity from the EU is a source of frustration. He says: “As we understand it, the limit of the bonus is that it will be limited to 1x your salary, unless your shareholders vote in favour that it should be up to 2x… [but] at the moment we have no knowledge as to how things like long-term incentive plans (LTIPs) are treated.”
The golden rule for listed companies is to avoid nasty surprises. Philip comments: “At ARM, we just announced our new LTIP scheme and while we were doing that we took the opportunity to look at the overall composition of pay and to simplify our pay structure. As far as we believe, we’ve done the work necessary to [meet] the new disclosure requirements and we’ve gained the support through our AGM and the other necessary channels.”
David comments: “When a company wishes to put a new LTIP in they are getting some serious and meaningful questions from investors as to what that plan is designed to achieve and how much it might pay out… In an ideal world you will have had a dry run this year, testing your policies out with your investors so that when you disclose them next year you can be pretty confident the policy will be approved.”
According to the latest figures from KPMG, which has analysed shareholder voting at AGMs, the percentage of companies across the FTSE Index proposing new or amended share plans more than doubled from 7 per cent in 2012 to 15 per cent this year (up to 31st May). Furthermore, while the shareholder spring has been largely non-existent among FTSE 100 companies, the Big Four firm found that high levels of shareholder dissent was still observed among small caps, with one in five companies experiencing major objections to their pay plans.
David explains: “With over half of the voting season done, it seems fair to say that we’ve seen something of a resurgence of the shareholder spring among the small caps but a marked decline in dissent on pay at the larger end of the market. Where we have seen shareholders objecting, it’s been similar to last year in that the dissent relates to specific circumstances and issues. These are usually not solely pay related, but instead driven by a combination of dissatisfaction around corporate performance and the leadership of the business.”
Putting shareholders to one side for a moment, the Remco Chair does also have to mull over how to retain and/or attract the best executives on the market, which entails examining both how value is created and over what timeframe. Philip says: “You have the rather difficult task of deciding how you measure that and balance it appropriately between short term and long-term delivery, because you don’t want to be paying for short-term delivery at the cost of long-term results.”
Sarah Murphy, who recently stepped down from her position as Group HR Director at AB Mauri and was formerly an advisor to the remuneration committee at global technology consultancy Ricardo, says: “There’s a lot of strength and courage required by the Remco Chair to think through what’s appropriate for the company and to have good and rigorous debates with shareholders as to why that’s appropriate.”
At present, the trend is toward a prescriptive, one-size-fits-all approach for remuneration, particularly when proxy agencies get involved as they seek to establish an identical set of benchmarks. Few, if any NEDs, see this as a positive development and there is an argument that the results are actually counterproductive for shareholders.
Ron Marsh, Executive Director at plastic manufacturing company RPC Group, says: “What tends to happen is that everybody is drawn towards a norm, which isn’t healthy in my book… there needs to be more encouragement for people to comply or explain rather than just conform with the consensus blindly.”
Common sense dictates that this is the right way to go. Simon Garrett, Director of Executive Rewards at consultancy Hay Group, comments: “Some shareholders – and proxy voting agencies – have strong opinions concerning executive pay; you can have major shareholders on your books with diametrically opposing views. The best remuneration committee chairs know what the business is trying to do and what pay structure is needed to support that.
“They then go through a process of early and effective engagement with shareholders to get them onside. Those companies that do this, and do it well, gain the trust and support of their shareholders, even ones that disagree; those that don’t risk a shareholder revolt.”
The task facing Remco Chairs is to remain impervious to machinations from outside and within the boardroom, while endorsing rewards based on performance. Say it quietly, but in the current climate, that's why the good ones are worth their weight in gold.
I hope to see you soon.