Not long ago, in a private office at a desperately troubled small-cap company, a nervous investor relations officer told his chief executive that it would be wrong for him to accept the near seven-figure cash bonus that he was legally entitled to under the terms of his contract.
Company stock was trading at a fraction of its former heft, the IRO explained, and many jobs had been lost that year. The dividend had been recently cancelled. There was no turnaround on the horizon, no expected bump in fortunes. Investors were not yet revolting, the IRO warned, and it was a good idea to keep it that way. Refuse the bonus, he pleaded. Work out a deal with other senior managers to voluntarily spurn most of their cash awards, and the IR department would make it sound noble, he suggested.
The executive ignored the IRO’s advice and met the company’s compensation committee expecting the full cash bonus on top of his contractually stipulated options and perks. Instead, he got nothing – and, not long after, he got the boot.
Still struggling through a vicious downturn, the company’s share price is largely stable today. Investors are confident that business will pick up when the economy does, and the IRO feels vindicated. ‘Don’t use my name on this,’ he says. ‘But that kept it off [investors’] radar screens. That’s my job. That bonus could have really hurt us.’
Rising pay gap
Of course, top executives have been compensated lavishly for many years; stock options have been around as long as the NYSE. Bethlehem Steel’s former CEO, E Grace, passed the $1 mn-a-year mark before the Great Depression of the 1930s, and Revlon made headlines in the 1970s after issuing the first million-dollar bonus to a senior executive.
In 2002 the average CEO compensation package was slightly more than $10.8 mn, according to the New York Times. The median CEO income increased by 6 percent that year, which was double the rate of workers’ raises.
Methods of payment are getting increasingly complicated, too, making it difficult for shareholders to determine exactly what these top executives are receiving in total. Bonuses, fixed-price options, delayed options, life insurance, housing, transportation, servants, consulting fees, severance packages and so on are just some of the perks, on top of a regular salary, a CEO might receive.
But it has been a bad year for lushly compensated corporate titans whose companies are floundering. Investors, angry and vindictive after the easy money of the bull 1990s, are delighting in the public lynching of profligate CEOs. Sell the private jet, they say. Unload the oft-photographed Manhattan duplex. No more expensing the wife’s Sardinia birthday party as corporate entertainment. In short, reject the gold parachutes for a job poorly done.
Former Tyco CEO Dennis Kozlowski’s $6,000 shower curtain has become the ultimate symbol of the executive compensation reform movement. In the austere early years of the new century, it will be necessary to corral the perks that made Kozlowski, Richard Grasso, Conrad Black and Kenneth Lay economic villains. That kind of spending has already gone out of style, and is now as pathetically dated as Gordon Gekko’s shoe-sized cell phone or Crystal Carrington’s jeweled dinner suits.
Qualms about beefy executive pay packages are on the rise, with everyone from government officials to Wall Street old-timers expounding on the need to link pay to performance. This is good news for IR professionals who have had to answer ‘no comment’ to questions about egregious executive pay in the past.
Buy side weighs in
Pension fund managers and other long-term investors are spearheading the call for changes to executive compensation practices. ‘It’s an issue of concern that has again come to the forefront,’ says Peter Clapman, senior vice president and chief counsel on corporate governance for TIAA-Cref. ‘It has not been resolved yet, although there is increasing pressure to do so. There is a sense now that the market really needs reform.’
For now, excessive pay is more of a proxy issue than an investment criterion when it comes to the buy side. Long-term shareholders like TIAA-Cref are looking to influence compensation committees to curb outlandish pay for the top five senior executives but they aren’t likely to dump a stock just because the CEO is raking it in. Instead of voting with their feet, institutions are pushing boards to dump certain types of compensation in favor of more acceptable forms.
One area of concern for some institutional investors is the granting of fixed-priced options to senior management. Under these arrangements executives are able to buy very low-cost shares of their company’s stock with few targets or performance goals attached. Critics say fixed-priced options do nothing to give executives a vested stake in the company’s growth or stability, and ultimately cost shareholders dearly.
‘A number of compensation committees and boards have lacked discipline in terms of how many [fixed-price options] they award; they seem to be free from an accounting point of view,’ says Clapman.
TIAA-Cref, which has $261 bn in assets under management, has long had a policy not to dump stock of poorly managed companies but to stick it out and push for change. Usually, this starts with private discussions with management and directors about policies TIAA-Cref would like to see reviewed. If the company does not eventually take steps to comply, TIAA-Cref goes public, sponsoring proxy resolutions and working with the media to build interest around a particular issue.
Clapman believes excessive compensation is coming to the fore because a bear market is exposing the difference between executive pay and shareholder losses. Meanwhile, shareholder-sponsored resolutions to limit options and tie pay to performance are passing with a clear majority – only to be dismissed by boards as purely ‘advisory’ measures.
Bruce Ellig, author and compensation expert, says institutions can’t effect change alone. As he notes, they rarely hold a large enough position in a company to pass a resolution themselves, and their leverage is limited by a reluctance to sell their holdings. ‘The major pensions can turn up the heat if they have a large enough position but they need the short-term investors – and that’s not going to happen because they buy and sell relatively quickly,’ he explains. ‘You can’t say tell them to step up, because they aren’t around for long enough. They are financially driven on short horizons. And besides, they probably bought the stock in the first place because they support the management.’
A former human resources manager for Pfizer, Ellig thinks change will come through an uneasy alliance of shareholders and investors at companies with active board members who want to find the right balance between paying legitimate money for gifted executives and respecting stockholders’ concerns. However, he doesn’t expect change to happen swiftly.
Front lines
So what does all this mean for IROs? When shareholders or the media call, it’s likely your team has to field sticky questions about the gap between company earnings, stock performance and the CEO’s million-dollar bonus. In this sense, investor relations professionals are certainly on the front lines of the compensation debate.
Experts say that IROs should be listening carefully to investors’ questions on this issue, monitoring the media for fallout and watching legislators for changes that may affect the company – or the popular perception of it. If investors are questioning executives’ pay packages at your company, management and the board should be told about it.
Ideally, IROs are encouraged by senior management to bring awkward views or information forward. But if your team doesn’t have that kind of dialogue with the corner offices, it may be time to think about how IR is viewed internally. ‘The IRO needs to be something of a sounding board for senior management,’ says Mickey Foster, IRO for Maryland-based Millennium Chemicals. Foster has circulated articles from the business press on touchy issues such as executive compensation reform and has discussed different ways options can be awarded with his management team.
Now that executive compensation has become a hot topic, investors will likely be asking for more information on pay packages, beyond what is contained in the annual report. IR professionals should be prepared to answer detailed questions about executive perks, options and strike prices. Under no circumstances should you speculate about the value of the corporate jet or the cost of a Paris apartment, if asked.
If the IRO can quell any concerns about outsized pay packages early, it might prevent investors from forcing the issue come proxy time. Because, according to Ellig and Clapman, there isn’t much the IR professional can do once the complaint reaches the proxy stage.
‘Companies need to communicate with actions, not with words,’ says Ellig. ‘The best defense is for a company to have already turned compensation issues over to an independent committee – and to adapt restrictions on options issued to the five top officers that clearly show they have to keep the stock until they retire.’
Tying pay to performance
Some companies are taking the compensation issue into their own hands and coming up with ways to tie pay to performance. SBC Communications, for example, recently created a human resources committee on its board whose members are setting long-term incentives to link executive pay to stock performance. The keystone, says SBC general counsel James Ellis, is to judge how the company did in relation to its many competitors in the broadband and wireless service industries and to use that information in determining how top executives are rewarded.
‘We’ve not had a lot of pressure from shareholders in this area,’ he says. He does acknowledge, however, that TIAA-Cref was concerned enough about SBC’s executive compensation practices to start pressurizing the company about it. He says the firm’s human resources committee should have the new compensation guidelines in place by next year.
The compensation issue has been heating up in the UK, with shareholder activists taking a firm stance on fat-cat pay. In November British pharmaceutical giant GlaxoSmithKline was forced to ‘postpone’ a £23 mn ($39 mn) pay package for its CEO Jean-Pierre Garnier when it was voted down by shareholders at the company’s annual meeting. Although GSK’s shares had plummeted by 30 percent over the previous 12 months, the company argued that the pay package was necessary to bring Garnier’s salary in line with his peers.
GSK would not comment on how it handled this issue from an investor relations standpoint. ‘I heard from our IR people in London and, as I expected, they thank you kindly but they are not comfortable being interviewed on that subject,’ says Nancy Pekarek, who works in GSK’s corporate communications office in Philadelphia. ‘It’s just too hot.’
This is never a good strategy – but at least Pekarek returned the call. Executives at American Airlines didn’t return repeated requests for comment regarding the Carty pay debacle. In April American’s former CEO Don Carty was forced to resign after the airline’s unions discovered dozens of top executives were guaranteed big pay raises – as well as pension protection – while workers were being asked to take a pay cut.
CEO pay is obviously a very sensitive issue for IR professionals but it’s important for IROs to provide input to the media and shareholders on this topic. Senior management members need to understand how important their pay scale is becoming to shareholders. It’s definitely a good idea to conduct your own perception study to see what kind of views are floating around the Street about your top dog’s take-home pay. You can start by going to the AFL-CIO web site to look up the compensation packages for CEOs in your peer companies. Be prepared to explain why your senior executives are worth what they get paid – because shareholders are not going to put up with plunging stock values and fat-cat pay much longer.
