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Rex Tillerson's Entirely Reasonable Pay Deal With Exxon

Justin Fox is a Bloomberg View columnist. He was the editorial director of Harvard Business Review and wrote for Time, Fortune and American Banker. He is the author of “The Myth of the Rational Market.”
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Exxon Mobil Corp. is planning to put about $175 million in cash into a trust for Rex Tillerson, who stepped down as the company’s chief executive officer on Jan. 1 in order to pursue a new career opportunity at the U.S. State Department. This giant payout is likely to be an issue at his Senate confirmation hearing this week. It should be. So should lots of other things. But there’s some background here that should be understood.

The reason the secretary of state nominee has cut this strange deal with his former employer, instead of just selling his stock holdings like CEOs aiming to take government jobs usually do, is that Exxon is excruciatingly slow about handing over stock to its top executives. The biggest part of their pay each year comes in restricted stock that they can’t get their hands on for a while. Half of it takes five years to vest, the other half vests either after 10 years or at retirement, whichever is later.

Why does Exxon do this? I’ll let Sam Palmisano, the former International Business Machines Corp. CEO who is chairman of the compensation committee of Exxon’s board of directors, explain:

Exxon Mobil’s capital allocation process generates returns in 15 to 20 years. That means the company is making decisions for the long term. So the compensation fits the model and the strategy.

To be sure, there are also some nice tax consequences to spreading out vesting like this. I don’t want to say that there’s nothing self-serving or excessive or otherwise flawed about executive compensation at Exxon. But in an era when lots of people complain about the short-term orientation of U.S. corporations, the company’s approach to pay definitely stands out for its long-term bent. It’s not just the restricted stock -- cash bonuses are paid out over several years, reduced if earnings targets aren’t met, and can be clawed back if earlier earnings are restated.

Nonetheless, when corporations first became required to hold “say on pay” votes in 2011 (it was a provision of the 2010 Dodd-Frank Act), Exxon’s compensation plan did not sit well with the advisory services that provide voting recommendations to big investors. Institutional Shareholder Services Inc. complained that Exxon’s shareholder returns had trailed its peer group over the past three years and that “the link between pay and performance is not entirely clear.” Exxon replied that “the ISS recommendation is heavily influenced by a short-term orientation,” while its shareholders “expect management to deliver long-term sustainable value and to manage risk effectively.”

That year, only 67 percent of Exxon’s shareholders agreed. Since then, though, the company has embarked on a big-time persuasion effort with major investors (you can see the slides from its most recent say-on-pay presentation here), and for the past few years its say-on-pay yes vote has been around 90 percent. That’s still below average, but given how controversial the company is for other reasons, it’s really not bad.

Exxon is a giant corporation whose founder died 79 years ago. Like lots of other big corporations, it struggles with how to incentivize its top executives to think like founders and owners, as opposed to caretakers or hired guns. By all indications, Exxon thinks harder about this and is more successful at it than most big corporations. Its executives stay with the company for the long haul (Tillerson spent 41 years there) and make it the focus of their lives.

What this system isn’t adapted to is executives leaving to take positions in government. Tillerson was going to have to retire anyway when he turns 65 in March, but the vesting schedule for bonuses and restricted stock meant he’d still have a lot of pay coming to him. At Goldman Sachs Group Inc., where departures for Washington are common, there’s actually a standard policy for cash payouts and accelerated vesting for executives who leave the firm for “conflicted employment.”  Exxon had no such plan.

So it came up with one for Tillerson that would have him give up his $3.9 million in unvested bonus payments and surrender his 2 million unvested restricted shares (he has 611,057 vested shares, which he will sell) to Exxon in exchange for:

a cash payment to an irrevocable Ethics-Compliance Trust established with an independent third-party trustee … equal to the value of the underlying ExxonMobil common stock determined under a market-based formula. The payment will be discounted by approximately $3 million (at current market values) consistent with guidance from federal ethics authorities.

At this morning’s stock price, that means a payment of $173 million, which will be invested in mutual funds by the trustee and will become Tillerson’s property according to the same vesting schedule that applied to the restricted stock. One big caveat: If he takes another job in the oil and gas industry, the trustee gets to donate all the unvested assets to charity.

Is this the best possible resolution? Jena McGregor of the Washington Post had a nice article last month detailing the conflicting views of compensation experts on what should be done. The biggest concern seemed to be that, by letting Tillerson out of his financial dependence on the future performance of Exxon’s stock, the company would weaken the link between pay and long-term performance that it has spent so much time and effort expounding to investors. But if Tillerson’s financial future were still tied to Exxon’s performance, that would be a huge conflict of interest at the State Department. Fortune’s Stephen Gandel suggested last month that one simple way to get around all this would be for Tillerson to give up his claim to all 2 million unvested shares -- that is, most of his net worth -- but that seems like an awful lot to ask.

All in all, this seems like a reasonable solution to a problem posed by a reasonable executive pay system. In comparison with the sprawling mess of conflicts posed by the business interests of Tillerson’s soon-to-be boss, in fact, it’s downright elegant.

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  1. Which, according to Goldman’s 2016 proxy statement, is when an executive “resigns solely to accept employment at any U.S. federal, state or local government, any non-U.S. government, any supranational or international organization, any self-regulatory organization, or any agency or instrumentality of any such government or organization, or any other employer determined by our Compensation Committee, and as a result of such employment the participant’s continued holding of our equity-based awards would result in an actual or perceived conflict of interest.”

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Justin Fox at justinfox@bloomberg.net

To contact the editor responsible for this story:
Brooke Sample at bsample1@bloomberg.net