Deliver Or Else

It still may be difficult to work up much sympathy for anyone who gets paid a million or two a year. And in 1995, without question, U.S. chief executives will bring home more money than ever before. But finally, corner-office denizens are starting to learn a lesson: When they fail to deliver the goods for shareholders, their own paychecks will suffer.

There could be no starker evidence than that contained in Bankers Trust New York Corp.'s proxy statement. Stung by a host of derivatives debacles, Chairman Charles S. Sanford Jr. saw his pay package fall by 57%, to $3.95 million, in 1994. The reason: Bankers Trust' stock languished in the market, as return-on-equity was sliced nearly in half, to 13.5% last year.

Or take Salomon Brothers Inc. Chairman Deryck C. Maughan. In 1994, he got a mere $1 million, an 87% drop in pay, after the investment banking firm posted a pretax loss of $963 million in 1994, the worst year in its 84-year history. Salomon's lackluster performance was due to large trading losses and a dramatic falloff in business volume.

NAME GAME. Then there's Quaker Oats Co. CEO William D. Smithburg. He had an 11% decline in salary and bonus, to $1.4 million, after his company's stock fell by 13%, weighed down by its $1.7 billion acquisition of Snapple Beverage Inc.

After years of resisting pressure from shareholders on excessive pay, Corporate America finally is linking CEO compensation to corporate performance. Directors are scrutinizing pay plans as never before, in the wake of better disclosure guidelines by the Securities & Exchange Commission and of widespread public criticism of executive largesse. "Many chief executives have lost control of their compensation committees," says Michael L. Davis, a pay consultant with Towers Perrin. "Once directors had to put their names on a statement justifying pay packages in the proxy, they began to take their jobs more seriously."

Even the most acerbic critic of excessive executive pay, Graef "Bud" Crystal, whose course for MBAs at the University of California at Berkeley is nicknamed Greed 259A, has become surprisingly sanguine about the issue. In an analysis of CEO pay in 1993, he found that 48.5% of annual compensation could be explained by shareholder returns, company size, and the sensitivity of the CEO's pay package to stock price and dividends. Such factors related to just 42.8% of pay variations a year earlier. "The market for CEO pay is becoming more rational," Crystal says.

Which isn't to say that CEO pay won't continue to go up--way up. With corporate profits overall showing a stunning 34% gain last year, the pay numbers tumbling out of proxies are getting higher and higher. "We've convinced ourselves that since CEO pay is more performance-based, everything is copacetic," says Alan Johnson, who heads up Johnson Associates Inc., a compensation consultant. "But I'm shocked at some of the levels of pay out there."

The new criteria reward executives who deliver higher returns to shareholders and larger profits on the income statement. IBM Chairman Louis V. Gerstner Jr.'s salary and bonus jumped by 67%, to $4.6 million, last year--not including an extra $7.8 million payout to cover the value of stock options he gave up at RJR Nabisco Inc., his former employer. IBM stock rose 30%, to 731/2 from 561/2, during 1993, and has since jumped to 811/2. Gerstner is widely credited for the turnaround that produced IBM's first profitable year since 1990.

Much of the volatility in pay is showing up in annual cash bonuses. Not long ago, most companies set bonus targets that triggered payouts equal to 50% to 60% of base salary. "Now we're seeing companies where the bonuses to CEOs can be 200% or more of salary," says Geoff A. Wiegman, who heads the compensation practice at Buck Consultants Inc. "With shareholders decreeing that pay should be more performance-based, boards are putting a lot more leverage in bonuses."

AT&T's Robert E. Allen last year got a cash bonus of $2.3 million--roughly 200% of his $1.1 million base salary. A year earlier, Allen's bonus was $1.4 million, and his salary was an even $1 million. AT&T says that 77% of Allen's total compensation package now is directly linked to performance measures. Allen's paycheck was bigger because his company's profits climbed 27%, and he also met customer- and employee-satisfaction goals. TRW Inc. Chairman Joseph T. Gorman won a $1.13 million bonus, up from $661,000, based on a flexible formula involving profit, cash flow, return on assets, and other measures.

The leverage works on the downside as well. Take Bankers Trust's Sanford. His cash bonus last year fell to only $7,100, from more than $3 million in 1993. Don't weep too hard, however. Sanford did pick up $2.1 million in restricted stock vs. none in 1993.

"DECISIVE." Such strict criteria are by no means universal. General Electric Co. Chairman Jack Welch won a 10% pay increase, to $4.35 million in salary and bonus, even though his company's stock fell 2.9%. Directors rewarded the boss for "decisive management of operational and strategic issues," according to the company's proxy. Eastman Kodak Co.'s George Fisher received a $1.8 million bonus, 80% higher than the amount guaranteed him, even though the company conceded profits were below target. The reason: He exceeded revenue and cash-flow goals.

Now, though, senior executives, are finding that they are under more pressure than ever to align their interests with those of shareholders--specifically, by investing in their companies' stock. IBM recently adopted new ownership guidelines that require its senior executives to own company stock equal to two to four times their base salary, depending on their position. They would have five years to meet that goal. A new executive-pay plan at Kodak, which already requires its executives to own stock, gives the board discretion to pay some or all of future bonuses with awards of the company's stock.

These plans clearly put top execs' wealth at risk. Indeed, Crystal has discovered that some chief executives, such as Wal-Mart's David D. Glass and The Limited's Leslie H. Wexner, essentially worked for nothing in 1993 because the declines in the value of their investments were greater than their total pay packages for the year. His study found that from the 105 companies whose stock fell in 1993, 58 of their CEOs actually "lost money" because their holdings lost more value than they were paid.

Forward then, into the heart of the CEO-pay season. The numbers are likely to be just as eye-popping as ever. But shareholders can at least take some solace in knowing that the phrase pay-for-performance may finally mean something real.

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