Some Victories in CalPERS' War

It has battled for years to tie CEO pay to performance, against stiff resistance. Now, the fight may be shifting in the pension fund's favor

By Christopher Palmeri

The California Public Employees' Retirement System (CalPERS) has twice sponsored proposals at Novell's (NOVL ) annual shareholder meeting that asked the software maker to tie its executive stock awards to specific performance criteria. Novell's board opposed the measures, saying they would limit its flexibility in crafting new employment contracts. Shareholders agreed, voting against them both times, most recently in April by a margin of 2 to 1.

But a funny thing happened on the way to the shareholder meetings. After two years of dialogue with CalPERS, Novell decided to change its compensation policies. In the past, the company granted stock to executives that simply vested over time. Now the top brass don't see a reward unless the stock appreciates by a certain percentage.

CalPERS' senior investment officer for equities, Christianna Wood, says she would like to see Novell make its performance criteria stronger, but "you end up measuring victory in small increments when it comes to this topic," she says.


  Yet this symbolic victory in CalPERS' three-year campaign to rein in CEO pay is lost on few. The campaign involved the nation's largest pension fund taking its case for reform to the Securities & Exchange Commission, stock exchanges, and compensation consultants. With this year's proxy season largely over, the vote on the fund's efforts is in and, as Wood suggests, the results are a mixed bag.

"It's great CalPERS is putting all this down," says Paula Todd, a principal at compensation consultant Towers Perrin. "But it's uncomfortable for companies to have to tie their hands. Compensation committees have to walk a line between what the pundits want and a competitive labor market."

Compensation remains a hot-button issue, with Morgan Stanley shareholders having recently filed a class action against the company challenging multimillion-dollar golden parachutes given to two short-term top executives. And New York District Attorney Eliot Spitzer has an upcoming date in court with former New York Stock Exchange CEO Dick Grasso, alleging his pay package wasn't merited.


  Public outrage over the $100 million stock-option awards of the 1990s has led to some changes in executive compensation. According to Mercer Human Resources Consulting, the percentage of a CEO's total pay tied to cash bonuses has risen to 23%, from 13% in 2001. Bonuses tend to be more reflective of performance, not just increases in the stock market. Meanwhile, chief executives at the companies with the worst-performing stocks actually saw a 3.6% decline in their compensation last year.

Still, the gap between executive pay and the average Jane or Joe continues to widen. In their annual study, the Institute for Policy Studies and United for a Fair Economy report that the average CEO compensation of $8.1 million in 2003 was more 300 times that of the typical production worker. In 1980, that ratio was just 42 times.

In addition to pushing "pay-for-performance," CalPERS wants to eliminate some of the more outrageous CEO perks, such as accelerated vesting of options in takeovers and so-called "gross-ups" that cover the owed taxes on those windfalls. The fund is also calling for vesting periods of at least four years on stock awards and wants to limit the top five officers of a company to a total of no more than 5% of the stock grants given each year.

"We would like to see all employees benefit and not just have the top five execs hog all the options," says Mark Anson, chief investment officer at CalPERS.


  Compensation consultants say many of the specific perks CalPERS has targeted are already being phased out. These include repricing stock options to reflect stock declines and "evergreen" provisions that automatically grant new awards each year.

Even so, experts expect that some CalPERS proposals, such as one requiring shareholder approval of severance payments exceeding three times an executive's salary and bonus, to meet stiff resistance. "Artificial limits never work in a free society," says Joseph Rich, vice-chairman of Pearl Meyer & Partners, a compensation-consulting firm.

Anson says the fund is trying to be flexible. For example, while CalPERS asks for executive pay to be tied to financial performance measures, Anson says the company is free to choose which ones. His favorite: return on invested capital, a measure of the actual cash coming into a business. "Earnings can be manipulated," he says.


  CalPERS has had its share of successes beyond Novell. Earlier this year, software maker Siebel Systems (SEBL ) tied part of its compensation plan to revenue and operating margin targets after years of discussion with CalPERS. In coming months, the SEC is expected to introduce rules that require more disclosure about how CEO pay is determined. CalPERS says that its investments in funds pushing for corporate governance reforms at ailing companies were up 20.8% for the year ending in June, well above the fund's overall 12.7% increase.

No doubt, though, the tug of war over CEO pay will continue. In April, shareholders of timber company Weyerhaeuser (WY ) voted 2 to 1 against a CalPERS-sponsored proposal to more clearly link executive compensation to performance. A company spokesman says the board is still developing its own such plan.

And on June 30, AT&T (T ) shareholders passed a CalPERS proposal requiring shareholder approval of severance payments greater than three times salary and bonus. But since AT&T is in the process of being acquired by SBC Communications (SBC ), it's unlikely the board will implement the measure. Says CalPERS' Wood: "We'll be engaging SBC in a follow-on process." Stay tuned.

Palmeri is a writer for BusinessWeek in the Los Angeles bureau

Edited by Beth Belton

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