The changing money scene Executive remuneration

Executive remuneration is a sensitive issue. How much is too much? The answer creates ongoing debate on all levels. The public assumes that because there have been excesses on some levels that all executives and directors are receiving higher and higher salaries.

The annual executive remuneration survey by Remuneration Planning Corporation (RPC) and a survey of directors and executives by PRO:NED tell a different story.

One.Tel's Jodee Rich and Brad Keeling were to receive huge bonuses if the company's share price lifted and its market value rose to $1 billion. Despite the furore over the size of the bonuses, this benchmark was achieved. The only problem: there was a huge gap between market value and the underlying value of the company. What the market didn't understand. What the analysts didn't understand. What the One.Tel board didn't understand (until it was too late) was that this fledgling telco was built on hype and hope rather than fundamentals. There are many lessons to be learnt from the One.Tel collapse, but the most telling is the inadequacy of gearing remuneration or bonuses to short-term rises in the share price. The Enron debacle provides similar lessons. As Ira Millstein says (see main story) boards have to devise better ways to remunerate executives other than short-term incentives. The evidence from two recent surveys suggests that Australian boards and executive remuneration committees are taken this seriously.

The RPC Top500 Report 2002 provides a comprehensive analysis of the remuneration of the board members and senior executives of Australia's Top 500 (by market capitalisation) listed public companies. Top500 2002 takes a snap shot of the available 2001 annual reports in the first quarter of 2002. The remuneration data is gathered from the available reported data in the annual reports and then amalgamated and analysed. The most significant trend reflected by the data of Top500 2002 is a decrease in total remuneration for all board positions with the exception of NEDs (non-executive directors). This trend is reflected in the comparison of the average rate of remuneration between the 2001 and 2002 report. While averages can be distorted by a small number of large payments, the consultancy of the results across the total sample indicate that the trend is accurate. The decrease in average total remuneration was most apparent in the assessment of the managing director/CEOs and chairman positions. Managing director/CEO average total remuneration fell by 11 percent and chairman average total remuneration fell by 19 percent when compared to the RPC director and executive remuneration in Top500 2001.

Assessment of the remuneration of executives outside board positions showed decreases with the exception of CFO/company secretaries where the average total remuneration increased 14 percent when compared to Top500 2001. The CFO/company secretaries position is a combined position category combining the data of CFOs and company secretaries. The increase in average remuneration may be explicable again by reference to increase emphasis on financial management in the wake of corporate collapses and tougher market conditions. A more detailed study of the data shows that the principal factor accounting for the decrease was a decrease in the average level of short term incentive (STI) received. This is summarised below:

Average Short Term Incentive

Two possible explanations for this decrease in STI are:

1. Company performance on average this year has not matched company performance in the previous year.

2. The performance standards set for STI payments this year were higher/tougher than the previous year.

The other highlight of the data is the fact that NEDs showed an increase in average remuneration, against the above trend, of 5 percent. While average STI received also decreased for this group, average total remuneration increased from $55,000 to $58,000.

While the increase is not great, the fact that it is against the trend is one possible explanation for this increase is that NEDs are negotiating higher fixed pay in response to the perceived higher risk due to the recent collapses of major companies such as HIH and One.Tel.

Average fixed remunerations

Chairman - $99,000

Provision of STIs remained constant with the 2001 data with only 2 percent of companies who identified their chairman's remuneration differentiating a short-term incentive component. The total remuneration (total fixed remuneration (TFR) and STI) has fallen from a 2001 average of $124,000 to a 2002 average of $100,000, a decrease of 19 percent.

NED - $58,000

Provision of STIs remained constant with the 2001 data with only 1 percent of companies who identified their NED remuneration differentiating a short-term incentive component. NEDs are the only board category participant that increased their total remuneration (TFR + STI) from a 2001 average of $55,000 to a 2002 average of $58,000, an increase of 5 percent.

MD/CEO - $529,000

Provision of STIs decreased from the 2001 data with only 45 percent of companies who identified their MD/CEO remuneration differentiating a short-term incentive component (49 percent in 2001). The total remuneration has fallen from a 2001 average of $770,000 to a 2002 average of $684,000, a decrease of 11 percent.

Executive director - $329,000

Provision of STIs decreased with only 35 percent of companies who identified their executive directors' remuneration differentiating a STI component (43 percent in 2001). The total remuneration has fallen from a 2001 average of $394,000 to a 2002 average of $378,000, a decrease of 4 percent.

Non-board positions

CFO/company secretary - $257,000

Provision of STIs decreased with only 45 percent of companies who identified remuneration differentiating a STI component (48 percent in 2001). The average remuneration has risen from a 2001 average of $257,000 to a 2002 average of $294,000, an increase of 14 percent.

General manager - $366,000

Provision of STIs decreased with only 65 percent of companies who identified remuneration differentiating a STI (72 percent in 2001). The average remuneration has fallen from a 2001 average of $463,000 to a 2002 average of $462,000, a decrease of 0.2 percent.

Senior executive - $231,000

Provision of STIs decreased from the 2001 data with only 44 percent of companies who identified remuneration differentiating a STI component (54 percent in 2001). The average remuneration has fallen from $346,000 to a 2002 average of $288,000, a decrease of 17 percent.

Ratio: CEO to Top five executives

Generally the ratio of CEO total remuneration has not changed from the 2001 data. However, there is a slight decrease in the percentage of CEO total remuneration for the second highest paid executive.

Chairman remuneration

The average remuneration of a chairman has fallen in all remuneration categories. The total remuneration of chairmen (TFR and STI) has fallen from a 2001 average of $124,000 to a 2002 average of $100,000, a decrease of 19 percent. Although bonuses (STIs) are received (in both 2001 and 2002) by only 2 percent of chairmen, the greatest decrease in the breakdown of a chairman's remuneration has been in the average bonus (STI), falling from $121,000 in 2001 to $59,000 in 2002, a decrease of 52 percent.

The percentage of the sample receiving superannuation and bonus has remained reasonably constant when compared to the 2001 results. A decrease has occurred in the receipt of other benefits where the 2001 Top500 reported 29 percent receiving; the 2002 Top500 reports 24 percent receiving (down 17 percent).

Only 63 percent of chairmen received some form of superannuation payment. The explanation appears to be that:

* deficiencies in the remuneration breakdown reported;

* payment is not required for employees over the age of 70 years;

* payment is not required if the payment would place the recipient in excess of the superannuation Reasonable Benefit Limits; and

* other exclusions.

In considering the remuneration of chairmen by industry group, the largest decreases in the average total remuneration occur in the building contractors/developers & contractors/property (down 47 percent), energy (down 64 percent) and food & household (down 64 percent) subsections. Increases in average total remuneration occurred in alcohol & tobacco/paper & packaging (up 2 percent), diversified industrials (up 3 percent), diversified resources/other metals (up 12 percent) and media/telecommunications (up 29 percent) subsections. All other subsections decreased in the chairmen's average total remuneration.

In considering the total remuneration of chairmen by company size:

* By market capitalisation - 2002 average total remuneration generally decreased from the 2001 data with the exception of chairmen in companies with a market capitalisation of over $3000million (up 10 percent).

* By total revenue - 2002 average total remuneration generally decreased from the 2001 data with the exception of chairmen in companies with total revenue of up to $50million (up 25 percent) and from $750-1500million (up 24 percent).

* By employees - 2002 average total remuneration generally decreased from the 2001 data with the exception of companies with employee numbers from 251 to 1000 (up 2 percent).

* By net profit after tax - 2002 average total remuneration generally decreased from 2001 data with the exception of companies with net profit after tax of less than 0 (up 7 percent).

Networks widen

Since PRO:NED's previous Survey Report the trends reflect an increasing awareness of the need for business leaders to not only be independent but also to be seen to be independent. One such trend is that nearly twice as many director appointments have been made from outside established boardroom networks.

There has also been a significant increase in directors' fees. Both these trends should ultimately result in greater independence of directors. In 1983, PRO:NED founder Guy Pease wrote: "If you need the money (board fees) from any one particular appointment, then you must seriously question your ability to be truly independent. Every non-executive director must be able to resign, if necessary, without fear of losing the ability to maintain lifestyle."

A further concern that is exercising the minds of most responsible directors is that attention to risk management in the past has not always been adequate and needs to be strengthened across the board. A welcome trend disclosed by the PRO:NED survey is that now 93 percent of directors consider that companies should have an adequate formal risk management program in place, including the development of risk profiles and associated risk minimisation strategies. Many of Australia's senior business leaders have become increasingly concerned at the huge and sometimes unrealistic remuneration packages being paid to chief executives. Their concern is that the quantum of these financial rewards is often difficult to justify, particularly in the face of so many major business failures.

This is reflected by the fact that 52 percent of directors now consider that the senior executive remuneration levels are excessive.

Shares and share options

Fifty-four percent of respondents felt that part of directors' remuneration should be paid in share options. However, 27 percent of respondents believe it isn't appropriate for directors to be remunerated with either shares or share options. A significant majority (72 percent) did not believe that fees paid to NEDs partly in shares or options would result in directors only being focused on short-term share price gains. Respondents were asked about what percentage of their remuneration is appropriate to be taken as shares and or options. The highest response (42 percent) was that the appropriate percentage of board remuneration to be taken as shares and or options was up to 33 percent. Another 22 percent thought that up to 50 percent of board remuneration to be the right amount, and 5 percent thought it appropriate that up to 100 percent of directors' remuneration should be taken in shares or options.

Many shareholders want the value of share options calculated and disclosed in the annual report, using for example, the Black Scholes approach to valuing. They want the real cost to the company and shareholders, of share options granted to senior executives, to be clear. The disclosure in the annual report of the value of share options is widely supported by directors, with 81 percent in favour.

The RPC Top500 Report 2002 is an edited version of the executive summary. The full report is available from Owen Thomas at RPC. The full PRO:NED Survey Report can be obtained from PRO:NED

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The purpose of this database is to provide a full-text record of all articles that have appeared in the CDJ since February 1997. It is aimed to assist in the research and reference process. The database has a full-text index and will enable articles to be easily retrieved.It should be noted that information contained in this database is in pre-publication format only - IT IS NOT THE FINAL PRINTED VERSION OF THE CDJ - therefore there might be slight discrepancies between the contents of this database and the printed CDJ.