Recent reports of shareholders voting against executive remuneration structures have again highlighted the need for increased transparency in the disclosure of not only the amounts paid, but how the amounts were calculated and the link to performance. Many companies have made significant progress with the disclosure of executive pay and the quality and content of remuneration policies and implementation reports.
However, the improved transparency of certain excessive executive pay packages has also fuelled the perception that all executives are paid exorbitant amounts of money, causing an ever increasing pay gap.
Laurence Grubb, Master Reward Specialist and executive committee member of the South African Reward Association (SARA), says a handful of executives are still able to manipulate remuneration committees, despite notable efforts to follow the principles set out in King IV and the association’s guidelines.
Committees agree to targets which are a little too soft or potential remuneration that is out of line with industry. “Although these executives are in the minority, it remains a concern and needs to be contained.”
Independent advice needed
Grubb says remuneration committees should be entitled to obtain independent advice from their own remuneration consultants to validate what has been presented to them by the executives. The cost for this service should be borne by the company.
SARA published guidelines on the drafting of a remuneration policy and the implementation report at the beginning of the year which follows the principles set out in King IV.
Some ‘old’ long term incentive schemes may have awards which were not linked to performance. Those shares may now be vesting, and with no performance linked to them, it is quite possible that shareholders will vote against such schemes.
Grubb says companies need to confirm the performance criteria for vesting before making any awards for long term incentives. Failing to do so, will undoubtedly annoy shareholders.
Barclays Africa experienced this first hand when shareholders voted against the company’s policy and implementation report earlier this month (May 2018).
In terms of the King IV principle on remuneration, the policy should record the measures that the board commits to when 25% of the votes are exercised against either the remuneration policy or the implementation report, or both. These actions should then be communicated in the background statement in the following year.
South Africa is the only country in which the threshold for these remedial measures is as low as 25%. In Australia, the UK and Belgium, among others, remedial measures are only mandated if 50% or more of the votes are cast against the remuneration policy and implementation report.
Pay gap realities
The pay gap in South Africa remains a burning issue, although companies have been trying to address it by offering larger annual increases for lower level workers and smaller increases at executive level.
However, an increase of 5% on R2 million will always make a bigger gap than 8% on R100, 000. Several companies have also introduced the minimum wage, and in some instances, wages which exceed the minimum wage.
In countries where the pay gap is much narrower, the level of skills, education and productivity of the lower end workers are much higher than in South Africa.
Grubb says companies operating in those countries are typically able to pay much higher rates to their lower level employees because of the higher skills and productivity levels.
“Unfortunately, in countries where education is severally limited and not at the right standard, the impact is felt mostly by those whose skills and level of education do not offer them the opportunity to increase their earning potential.”
Companies find it difficult to continually pay higher salaries to lower levels and, inevitably where that does happen, there are job losses.
Shareholders are as likely to vote against remuneration resolutions if they consider disclosures to be incomplete as they are in the face of excessive pay.
“Clear and precise disclosure of reasons for remuneration decisions is essential for shareholders to decide their vote, and companies need to ensure that the required detail is available in simple terms,” advised Laurence Grubb at the annual conference of the South African Reward Association (SARA), held on 5 and 6 November at Vodacom World in Midrand.
Remuneration policies are created, inter alia, to attract and retain the best executive talent. Balancing this objective with shareholder demands requires a clear understanding of a number of factors considered by shareholders in determining their votes.
Grubb suggested solutions to address the key concerns voiced by shareholders following a recent study conducted with 40 JSE listed companies by Khokhela Consulting, of which Grubb is the CEO.
Be transparent in disclosure of performance targets and measures
Actual targets and measures for all incentive schemes need to be clearly defined and disclosed, and must be aligned with the financial strategy and budgets.
“We advise that thresholds should be achievable 75% of the time and targets achievable 50% of the time while requiring significant effort,” said Grubb. “Stretch targets should however be set at levels that require impressive effort with results that are achievable 15-25% of the time.”
Selection of peer or comparator groups
Grubb suggests selecting companies for comparing performance using factors such as revenue, market capitalisation, industry, magnitude and location of operations and reasons for shareholders investing in the company.
“Structured remuneration design should align with company strategy and shareholder values and be funded by the additional performance required,” said Grubb. “Incentives should drive performance and encourage retention; it should never be implemented as a stand-alone retention scheme without performance requirements attached.”
Report on clawback policy
Actions around retrieving monies already paid out due to over incentivising key personnel should be published as part of the remuneration report.
This clawback policy should include the detail of adequate procedures to retrieve any or all bonuses should conditions of misconduct, misrepresentation or malus exist.
Encourage minimum shareholder requirements for executives
Shareholders consider Minimum Shareholder Requirements (MSRs) desirable as it ensures alignment with shareholders’ objectives by having ‘skin in the game’. Through MSRs, executives are encouraged to invest a substantial part of their after-tax bonus in the company, as it reinforces executives’ commitment to the success of the company by sharing the same earnings risks as shareholders.
“Irrespective of the contents of a strategy driving a chosen remuneration policy, companies need to remember that timeous disclosures and an increased level of transparency are imperative,” concluded Grubb. Engagement with board members, shareholders and proxy advisors is recommended when key changes are made to remuneration policies.
“Timeous transparent disclosure, balanced with keeping competitive information confidential, will lead to an improvement in how shareholders make decisions.”
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