Government reforms on directors’ pay
– Vince Cable announcement
20 June 2012 (updated 21 June)
A Government remuneration policy at last
The Coalition Government, through the Department for Business, Innovation and Skills (BIS), has been
consulting regularly since September last year about what it could do to reign in ‘excessive’ executive pay and
strengthen the link between pay and performance in major companies. Today (20 June) the Business
Secretary, Vince Cable, announced to the House of Commons the Government’s final proposals for change.
New legislation will be incorporated in the Enterprise and Regulatory Reform Bill and enacted in October 2013
(we understand it will apply to companies with year-ends after that date).
What has emerged demonstrates that Mr Cable has been listening hard to both companies and shareholders
and has produced as rational and constructive a set of proposals as could be expected. There are also some
clever devices in the construction of the proposals that will encourage both shareholders and companies to err
on the side of higher engagement and regular votes whilst giving apparent discretion and flexibility.
Some months ago BIS decided that the route to dealing with apparent excess was to strengthen shareholder
powers in relation to directors’ remuneration, and the new proposals do that – but it is clear from the
structure of the proposals that Vince Cable is not only empowering shareholders but putting pressure on them
to engage more fully and to use their voting powers.
Not all shareholders or remuneration committees will welcome every aspect of the proposals. The forum
discussion at the Manifest/MM&K Remuneration Briefing Seminar on 12th June* revealed that some
shareholders and shareholder advisors would have preferred more time to make the existing shareholder
pressures work, whilst some remuneration committee chairmen cannot see that the proposals will help them
make better decisions. Nevertheless, Vince Cable was probably right when he said in a Commons reply today
that the ‘Shareholder Spring’ has been encouraged by the Government’s proposals.
The proposals
A guide to the Government reforms can be found at:
http://www.bis.gov.uk/assets/biscore/business-law/docs/d/12-900-directors-pay-guide-to-reforms.pdf
The stated aims are to:
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restore a stronger, clearer link between pay and performance
reduce rewards for failure
promote better engagement between companies and shareholders
empower shareholders to hold companies to account through binding votes.
But Vince Cable put it more succinctly in the Commons when he said the test for the success of the proposals
will be whether they encourage restraint and encourage strategic thinking in pay (a test which few people
would disagree with).
The proposals centre around two reports to be included in the annual report to shareholders.
(1) The Policy Report – a binding vote
This proposal, which has been trailed for some months, requires companies to make a completely new type of
report on future policy and put it to a binding vote of shareholders. The final proposal differs in a number of
respects from earlier versions:
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The vote will be on a simple majority basis
The previously-mooted separate binding vote on exit payment policy is now covered by the same policy
report vote
Companies can put their policy to the vote every three years (rather than every year) but the BIS
proposal cleverly allows this only if the policy does not change and if the company passed the advisory
vote (see below) the previous year Many companies might find it simpler to call for a future policy vote
every year
The report must include material factors taken into account in setting pay policy, specifically employee
pay generally and shareholder views.
The detailed proposals have yet to be published and it is going to be interesting to see how the Government
expects the policy constraint to work in practice. No doubt many companies will write their policy in such a
way that allows plenty of flexibility. An example is to set a grant maximum in a share plan which is well
above normal grant levels. Questioned about how the Government would avoid such flexibility and headroom,
Mr Cable replied it would be the shareholders’ job to ensure their powers were not being usurped in this way.
(2) The Implementation Report – an advisory vote
In many ways this comes close to the audited part of the current remuneration report and the current
advisory vote in so far as that vote applies to remuneration practice in the reported year. But there are some
differences:
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It is a simple majority vote. But a failed vote triggers a new binding policy vote the following year
A single total figure of remuneration for each director must be published
Full information on exit payments for the year
A chart comparing company performance and CEO pay
Details of remuneration committee advisors (we think with fees charged).
MM&K has been lobbying actively during the BIS consultation, and we have strongly advocated a report
comparing company performance and CEO pay, although a five-year historical record is necessary for
shareholders to make sense of the data. The three year period for the binding vote was also an MM&K
initiative.
Update 21 June
The Financial Reporting Council’s Financial Reporting Lab has been working on a definition
of the “single total figure” for the Government.
Today (21 June) it produced its report:
http://www.frc.org.uk/press/pub2807.html. The nine investors and three investor organisations who
contributed were close to unanimous about what they want in the single figure (if there has to be one) and
the supplementary information that they say is essential. The nine listed companies who contributed had a
variety of views and we would expect the investor approach to prevail.
Manifest and MM&K correctly predicted that the proposed single figure would include the actual value of long
term incentives realisable (ie vesting) rather than the expected value of new grants. But the Lab took the
same view as we have done that it is not sufficient just to present this single realisable remuneration figure,
even if it is the best one for tracking the link with performance. It is necessary also to provide information
about awarded long-term incentives, picking up the value of the new grants and showing changes in a
Remuneration Committee’s policy.
The Lab report has asked for the face value of LTI grants to be
presented, alongside design and performance criteria. It has not asked for the expected value of grants. The
investors feel the latter has little value because of the wide range of possible assumptions in calculating
expected value – (they would rather do their own sums).
The Lab clearly had a lot of debate over some of the detail. It has adopted the principle that all variable
remuneration should be reported in the last year of the performance period. This means companies will need
to do an estimate where vesting is not due until after the annual report is published (and there could be
different treatment for EPS-based and TSR-based components). It has also decided that deferred bonuses
shall be reported in the year they are earned rather than the year they vest – with later truing up if they
subsequently lapse (eg for leavers or clawback). It has gone for a simple approach for defined benefit
pensions – using an HMRC-type 20 times multiple of the increase in benefit in the year.
The investors agreed that the components of remuneration are of more interest to them than the single total
figure. But, giving credit to Vince Cable where it is due, the FRC probably would never have got round to
defining the components in a consistent manner if it did not have to define the single figure.
MM&K has always argued for reporting both the ‘realised’ and ‘awarded’ totals. But we agree that, if the
Government is wed to one figure, the realised amount is the better one as it is the figure that should correlate
to performance. We have included in our June 2012 Executive Director Total Remuneration Survey a list of
single figures for FTSE 100 CEOs in the latest year up to December 2011. For a copy of this report (£500 plus
relevant VAT) e-mail Lisa McLaren at lisa.mclaren@mm-k.com.