Putting paid to shareholder doubts

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This was published 14 years ago

Putting paid to shareholder doubts

By Ruth Williams

Companies are under pressure to explain their remuneration packages, writes Ruth Williams.

IT IS an opaque and often impenetrable section of a company's annual report, and it is creating more headaches than ever in the lead-up to this year's round of company annual general meetings.

The remuneration committees of company boards are sweating over their remuneration reports - the section in the annual report that explains how a company pays its executives - as the end of the financial year looms.

The pressure on boards this year is huge as they struggle to marry what many argue are overly complex disclosure requirements with rising demands from shareholders for simpler information. Public expectations that executive pay packets reflect the subdued economic climate weigh heavily, too.

There is also the confusion created by the Government's controversial move on budget night to pare back tax benefits on employee share schemes. Meanwhile, the Productivity Commission review of executive remuneration is keeping the subject in the headlines.

Financial services companies are also digesting recently released draft standards from the Australian Prudential Regulation Authority, which seek to link risk management in companies with executive pay practices.

Even in a good year, the remuneration report is the first section many flick to. This year, after sharemarket losses, job cuts and slashed dividends, the scrutiny will be intense.

The round of annual general meetings in October has the potential to be even more eventful than last time, when a number of remuneration reports were rejected by shareholders using their non-binding vote.

A PricewaterhouseCoopers report summarising last year's annual general meeting season observed that "shareholders are clearly dissatisfied with executive remuneration structures", citing the 17 per cent of companies that received "no" votes of more than 15 per cent on their remuneration reports.

"This trend will surely continue into 2009 if companies do not adequately respond to valid concerns," the report warned. "Indeed, if shareholders' concerns are not addressed, shareholders may become more aggressive in voicing their dissatisfaction by voting against directors at board elections."

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John Colvin, the chairman of the Australian Institute of Company Directors, acknowledges remuneration is looming as an issue for directors, but said "everything is an issue this time around, and everything is an issue in this downturn".

He believes it is a "natural tendency" of human nature for shareholders to focus on executive remuneration more when share prices have plunged.

What are shareholders' concerns and what are they looking for?

"We will be looking to see that there's been no inexplicable pay increase, and if the company hasn't had a great year really what people will be looking for, and we will be looking for, is evidence that there's downside risk," said Martin Lawrence, of proxy advisor Risk Metrics. "So, if profit has fallen substantially that bonuses have fallen too, if they have been paid at all. And that if the bonus has fallen, that there hasn't been a big increase in the base pay to make it up."

Some argue that this year the importance of boards explaining their remuneration policies to shareholders will be almost as great as the importance of what the boards actually do.

"The Corporations Act requires high levels of detailed disclosure in remuneration reports, and a lot of it doesn't make sense to the lay reader," said a Freehills partner, Priscilla Bryans, who advises boards on remuneration reports. "There's too much detail and it results in an overload of information, much of which isn't what readers really want to know."

Ms Bryans said boards were looking at writing reader-friendly two-page summaries explaining their remuneration policies including the figures on how much executives were paid.

One requirement in annual reports is that if the executive is given a "long-term incentive" payment of options, the reported value of the options in the annual report is based on an accounting value for the grant. This must happen even though the executive might not technically "own" or control the shares for two, three or more years, if there is a vesting period.

"The chairmen of the remuneration committees get really frustrated, because although it makes great headlines to publicise these big accounting numbers, they are the executive's potential earnings, not their actual earnings," Ms Bryans said.

"So some companies are considering including in the report the actual amount paid into the executives' hands, as a voluntary disclosure: the pay they got, the bonus they got paid and then the dollar value of the long-term incentives that actually vested or lapsed during the year.

"Boards hate doing the remuneration report, not because they don't want to tell people what they are paying, but because they spend so much time and effort putting together information that people can't understand and don't read."

A PricewaterhouseCoopers partner, Della Conroy, one of the report's authors, said boards were aware of the shareholder angst surrounding remuneration, and many directors wanted to "rebuild trust" with shareholders.

She believes the remuneration reports of many companies became too complicated because they were "compliance based" - that is, the main aim was to comply with the reporting rules rather than to explain what was actually going on.

"This year we are seeing directors trying to tell a story through the remuneration report, about what decisions were made and the rationale for that decision," Ms Conroy said.

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