Two years ago, responding to, or trying to take advantage of, the community backlash against perceived corporate greed, the Rudd government directed the Productivity Commission to inquire into executive remuneration, presumably because it wanted the commission to do something about it.
Apart from the controversial “two strikes” policy for voting on remuneration reports, however, the PC report was more an endorsement of the local remuneration system rather than a criticism of it.
Last year the government asked the Corporations and Markets Advisory Committee to look at how best to revise the legislation covering remuneration reporting.
While not as overt an attempt to find a mechanism for directly or indirectly regulating remuneration, the terms of reference did request that CAMAC provide recommendations as to how the incentive components of executive pay arrangement could be simplified “in order to provide transparency and strengthen the correlation between the interests of a company’s executives and the interests of its shareholders”.
CAMAC issued its report yesterday. If the government was expecting a blueprint for influencing/constraining executive remuneration, and incentive payments in particular, it would have been disappointed.
While the committee does make some recommendations for change, it specifically rejects the need for any new legislation to simplify executive incentives and says that the incentives and other components of remuneration are matters for each company to determine and that incentive designs should be driven by individual companies’ business strategies.
The suggestions it did make were sensible and, to a degree, corporate-friendly.
It says companies should be required to give a general description of their remuneration governance framework; that companies should be able to withhold commercially sensitive information that relates to a performance condition; and that the components of all termination payments should be separately identified, as should the individual components of each executive’s annual remuneration.
It also wants the removal of accounting-based remuneration disclosures, saying that they can confuse or mislead shareholders.
Breaking down termination and normal remuneration into their components is a sensible idea.
Termination payouts are usually a mixture of entitlements such as accrued superannuation and leave, contractual obligations and occasionally, and controversially, “golden parachutes”. Normal remuneration reporting usually contains a mix of salary and performance incentives, some relating to prior years that are paid or vesting in that year, and some that are granted in that year but are yet to vest.
Given that shareholders and the media are prone to lump any and all components of remuneration together — regardless of whether they have actually been paid, will ever be paid or were statutory entitlements — providing clearer breakdowns of the various types of remuneration would be useful.
Similarly the use of accounting standards to report remuneration, while perhaps appropriate for financial reporting, can produce misleading and useless information when used in remuneration reports. The fair value of scrip-based incentives, for instance, may bear little relationship with the actual value eventually received by an executive.
What should matter most to shareholders in a remuneration report is how much value an executive has actually received during the financial year concerned. Separately identifying payments that relate to past performance and those grants that may or may not produce value for the executive in future from the actual payments/value received during the financial year is a commonsense approach.
Those companies with best-practice remuneration disclosure policies do, of course, try to do that, although the requirement to put theoretical value on scrip-based incentives that might vest in future can create very misleading headline totals.
The best aspect of the CAMAC report is that it doesn’t encourage more legislative intervention in the setting of remuneration to forcibly align it with some notion of shareholder interests. This allows boards the flexibility and discretion to determine what best suits their companies’ interests — in full knowledge that they may have to justify the arrangements to shareholders and, once the “two strikes” policy is in place, could face a spill of their positions if they fail to do so twice in succession.
*This first appeared at Business Spectator.