Say on Pay: Boards Listen When Shareholders Speak
Shareholders have now had two years to express their views on executive pay, and a theme has emerged: They have no problem approving generous compensation packages, provided they’re getting richer too. When a company’s stock falls, they are not so agreeable.
The Dodd-Frank financial reform law enacted in 2010 calls for companies to submit executive compensation plans to nonbinding shareholder votes at least once every three years. This year there have been some notable nays. In April, Citigroup shareholders refused to endorse Chief Executive Officer Vikram Pandit’s $14.8 million package after the stock fell 44.3 percent in 2011. In May they voted four to one against the $5.8 million Chiquita Brands awarded CEO Fernando Aguirre following a 41 percent decline in the stock in 2011—even after the board said that the company’s poor performance had cost Aguirre his bonus.
Overall, though, shareholders were remarkably obliging. As of June 4, corporations had brought 1,911 say-on-pay resolutions to a vote. Institutional Shareholder Services, which advises investors, recommended voting against 265 of them. Shareholders rejected just 36, or less than 2 percent.
Does that mean say on pay is a bust? Daniel Ryterband, president of pay consultant Frederic W. Cook, says the numbers underplay the drama taking place behind the scenes. In his view, “say on pay has had a significant impact on the design and magnitude of pay packages.” Boards are nervous about how proxy advisers such as ISS and Glass Lewis will react to packages, so they’re reaching out to shareholders and reducing pay that’s not tied to performance.
Almost all of the companies that faced embarrassing “no” votes last year have done away with practices that irked their investors. Hewlett-Packard no longer uses the formula that allowed CEO Léo Apotheker to pocket $30 million for an 11-month run during which the stock fell by almost half. Successor Meg Whitman has a salary of $1, with the bulk of her $16.5 million package tied to the company’s share performance. Nabors Industries’ former chief agreed in February to waive his $100 million termination payment in the face of last year’s no vote.
In some cases, shareholders remained unhappy. When presented last year with Kilroy Realty CEO John B. Kilroy Jr.’s pay package, 51 percent of shareholders gave it a thumbs down. That sent the Los Angeles company’s six-man board—chaired by John B. Kilroy Sr.—scrambling to “make substantive changes,” according to Securities and Exchange Commission filings. Not substantive enough, perhaps. Kilroy’s 2011 package, which the company calculated at $6.4 million, was rejected by 70 percent of the votes on May 17. “We made a lot of effort last year,” says Chief Financial Officer Tyler Rose, “and the board will continue to evaluate this issue.”
Towers Watson analyzed 1,438 companies that conducted the nonbinding say-on-pay votes as of May 30 and found that companies whose shareholder returns were consistently in the bottom quartile over five years were about nine times more likely to fail their say-on-pay votes than neutral performers.
Companies with hot stocks can pretty much do what they want. Apple shareholders overwhelmingly approved CEO Tim Cook’s $378 million package, much of which is stock that vests over 10 years. To Doug Friske, who leads Towers Watson’s executive compensation practice, such votes show the Dodd-Frank rule working exactly as intended. “If a company is doing well,” he says, “shareholders have no problem with pay that recognizes that.”
Eleanor Bloxham, a pioneer in designing pay programs who now advises boards as CEO of the Value Alliance, says that placing such a high premium on stock performance can undermine a company’s long-term success. She points to studies by the Federal Reserve and others that found loading up a CEO’s pay package with stock incentives just encourages riskier behavior and a focus on the short term. “Boards should concentrate on rewards tied to things a manager can control, like profits,” she says. Trying to please people whose sole goal is to profit from a share spike risks moving boards back into favoring tools that encourage leaders to talk up earnings and game the system. “These votes reward the perception of performance instead of long-term goals.”