Annual Meeting June 22
The company infamous for its inflated EpiPen has been in the news a lot lately. The astonishing pay package of Chairman Robert Coury — $97,600,615 reported for 2016 — has received widespread coverage from Bloomberg, Business Insider, CNN, USAToday and dozens of other publications.
Given the information included in the above articles, I thought I’d focus on the original source documents filed at the SEC and the back and forth between the company and some of its reasonably angry shareholders. Since Mylan filed its proxy on May 23, there have been eight additional filings. Here is a breakdown of those filings with links and highlights:
On May 30: a group of institutional shareholders filed a non-exempt solicitation urging shareholders to vote against six directors as well as Coury’s pay package that the funds estimate as being worth $160 million. “Despite persistent investor concerns with Mylan’s pay practices, Mr. Coury – who stepped down as Mylan’s CEO as of January 1, 2012 – received a third new and excessive compensation agreement in mid-2016, when the Board changed his title from ‘executive’ to ‘non-executive’ Chairman for at least the next five years.”
These investors — New York City Comptroller Scott M. Stringer, on behalf of the New York City Pension Funds; New York State Comptroller Thomas P. DiNapoli, the California State Teachers’ Retirement System, and PGGM — hold 4.3 million shares valued at $170 million. (In later correspondence Mylan directors refer to them as, “this small opposition group.”) The letter to shareholders notes, “We believe the time has come to hold Mylan’s board accountable for its costly record of compensation, risk and compliance failures.”
Among other things, the investors decry Coury’s compensation given that he was executive chair. The New York City Pension Funds have been attempting reform for over five year. As noted: “this Board has given Mr. Coury THREE post-CEO compensation agreements to keep him around – and this despite strong investor support (35% to 42% of votes cast) for the New York City Pension Funds’ shareowner proposal requesting an independent chair at Mylan’s 2012, 2013 and 2014 annual meetings.”
In addition to critiquing Coury’s package the funds raised the specter that Coury’s opposition to a potential acquisition by Teva Pharmaceutical Industries Ltd. May have been motivated by self-interest. “By year-end 2016, when Mylan’s Chairman, CEO and President each had again earned extravagant payouts, Mylan’s share price had dropped further to $38.15. All of the mudslinging back-and-forth between Mylan and Teva10 only served to reinforce our concern that Chairman Coury would rather keep his pay and power at Mylan’s helm than likely lose those benefits to Teva cost- and position-cutting”
On May 31 the New Your City comptroller’s office filed a press release that included quotes from investors explaining why they joined the campaign:
“This entrenched and unaccountable board is long overdue for an overhaul,” said NY State Comptroller Thomas P. DiNapoli. “Mylan’s bloated pay packages add insult to the injury investors have suffered as a result of its poor governance.”
”Problematic pay and poor governance practices have plagued Mylan for a number of years. The EpiPen price spike was particularly appalling because California state law requires schools to have EpiPens or like products on site. As the fiduciary of the Teachers’ Retirement Fund, it is our responsibility to hold the Mylan Board accountable for its actions and potential resultant financial and reputational risk damage. Voting against the say-on-pay proposal sends a strong message to the Mylan Board that it has failed in its responsibility and duty to shareholders by continuing the misalignment of executives’ pay with the value received by shareholders,” said CalSTRS Director of Corporate Governance Anne Sheehan.
On June 2, the company filed a colorful proxy supplement (with tiny fonts in its discussion of non-GAAP Financial Measures). The presentation goes through, at some level of detail, its target setting process, pay for performance design, and the fact that, “the board continues to refine our compensation approach.”
As one example of such refinements the company noted that it had “removed automatic accelerated vesting of stock option, RSU, and PRSU awards for eligible executives upon an individual satisfying retirement-eligibility criteria (55 years of age with 10+ years of service).” Frankly, that it had such a feature, particularly on performance shares, is extraordinary. In addition, it appears that the change may be true only on going forward basis. The company notes that, “Ms. Bresch and Mr. Malik have voluntarily waived their right to this provision for previously granted RSUs and PRSU.” I did not see information on how many executives may have been grandfathered in.
On June 6, in an unusual move, the company publicly filed a copy of a letter it sent to Institutional Shareholder Services (ISS) challenging the proxy advisory firm’s decision to not give the company pre-review rights on its report and recommendations. In it board members explained that, “When faced with the prospect of Mr. Coury’s retirement last year, the Board, recognizing the immense value that Mr. Coury has brought to the company, its shareholders and other stakeholders, believed it was critical to retain his leadership and experience in this new role – a role that is uniquely suited to Mr. Coury’s talents and past experiences.”
On June 7, the company filed ISS’s response which explained its policy. .
On June 12 the company filed another letter it wrote to shareholders. In it they attempted to justify Coury’s compensation by noting that, “almost all of it was granted and earned over his 15-year tenure as CEO and then Executive Chairman, or directly relates to his retirement as an executive in 2016 and transition to non-executive Chairman.” They add that, “his new compensation structure is even further aligned with the company’s stock performance while providing shareholders with the benefit of his continued leadership and guidance in setting Mylan’s strategic direction over the next five years. Mr. Coury’s restricted stock units will incentivize him to perform over the next five years and are unrelated to retirement payments otherwise due to him as a result of the termination of his employment.”
Also on June 12: , The pension funds filed with the SEC a press release, noting that proxy fund advisors ISS and Glass Lewis have each recommended against the pay proposal as well as against some directors. The filing quotes ISS as noting that, “Mylan and its shareholders have suffered significant destruction in shareholder value as a result of the EpiPen pricing and classification controversies which emerged as public issues in 2016…. The company has also suffered long-term reputational damage.” Glass Lewis wrote, “we find the compensation arrangements made with Mr. Coury pursuant to his transition to be egregious.”
Meeting date: June 8
In 2016, Vertex writes, “74% of the “Say-on-Pay” advisory votes cast by our shareholders [were cast in favor], which was a significant increase in support compared to 2015.” Of all I read in the proxy statement that sentence stood out to me the most, the way they framed a low level of support.
If one of my children came to me to say they got a 74% on a test, which was a “significant increase” in a grade, I would not be satisfied. I’d acknowledge improvements made but still hold them to a high standard. Shareholders have an opportunity to give a similar message to Vertex at the upcoming annual meeting. Yes, pay is down significantly from a few years ago, but it has fallen from obscenely high to merely bad. CEO pay at Vertex is still out of line with peers and still includes problematic practices.
Vertex continues a practice of what some call “aspirational peers.” It includes larger companies in its peer group for establishing pay comparison. It is the job of the directors to take on the supervisory role and tone, perhaps saying something along the lines of, “We’ll talk about whether you should be paid as much as those big, successful pharmaceutical companies when you are as big and successful as they are. Until then, stop worrying about what they are being paid and focus on your own work.”
However, directors at Vertex apparently lean toward indulgence. The board set “company goals and assigned relative weights that reflected our operational, strategic and financial objectives for the year” with a maximum score of 150 points. Many of these, such as “maintain high productivity in research” as somewhat subjective. When the total earned came to 111, the board awarded an additional 9 points “based on additional factors that were not anticipated in our goals.”
Also of note, a Boston Globe analysis of director pay, Vertex had among the highest paid directors in 2015. One recent article on CEO pay noted that director William D. Young received $1.7 million in compensation from Vertex in 2015. The vast portion of this, as the Globe pointed out, was in the form of stock options he received when joining the board. For the past year Young, who is a member of the compensation committee, received $668,096 in compensation.
It seems to me that if someone is being paid an outrageous sum for what is essentially a part-time job it follows that they might be inclined to support a level of generosity toward the executive the purportedly direct.
May 25, 2017
Next week Blackrock shareholders will vote on an important proposal that has potential to make a real difference on CEO pay. It isn’t just an advisory vote on the company’s pay, but one that seeks to learn more about why Blackrock routinely supports outrageous pay packages at the companies in its portfolios. Specifically, the proposal requests that the Board of Directors issue a report to shareholders which evaluates options for BlackRock to bring its voting practices in line with its stated principle of linking executive compensation and performance. Such report should assess whether and how the proposed changes would advance the interests of its clients and shareholders.
The Steve Silberstein Trust first filed this proposal last year, and it received press attention from the New York Times which included the memorable headline, “Blackrock wields its big stick like a wet noodle on CEO pay.” Enough shareholders supported that proposal that the threshold for resubmission was crossed. This year, ISS’s SRI policy service is recommending support for the proposal, noting that the “requested report would benefit shareholders.”
As You Sow has been monitoring votes on pay for several years. Nearly every one of the 118 mutual fund families and over pension funds opposed more pay packages in 2016 than they had in 2015. Yet the overall vote levels pay packages received did not change substantially. How is that possible? Primailary because three of the largest funds (Blackrock, Vanguard and TIAA are also the least likely to oppose proposals).
In the most recent version of our annual report on the 100 Most Overpaid CEOs in the S&P 500, Blackrock voted against pay packages at only 7% of the companies. Contrast that with the pension funds:
- Florida State Board of Administration voted against 82%
- State of Wisconsin Investment Board voted against 73%
- Colorado Public Employees Retirement voted against 46%
In fact none of the pension funds voted against as few of the packages as Blackrock did. The pension funds who voted against the fewest packages still opposed more than three times the number that Blackrock did, and more than one fund voted against more than 10 times as many packages as Blackrock did.
Likewise, almost all large mutual funds opposed more pay packages than Blackrock did. Dimensional voted against 53.2%, Columbia against 45% and so on.
Why is its voting record so pallid? Blackrock is hardly impartial on a compensation system in which it is so deeply implicated itself. The company itself has a CEO we view to be overpaid. In fact, at least one proxy advisory firm has recommended against pay at the company this year.
Blackrock is a behemoth with a mission statement is, “We are one Blackrock.” Their website says, “Constant communication is critical to our success.” Yet as we have followed the company we often have the feeling that the right hand doesn’t know what the left hand is doing however, or that the spokespeople know how the proxies are being voted. For example, last year Amra Balic , the company’s head of investment stewardship in Europe, reportedly sent a strongly worded letter to U.K. companies. In the letter, Balic said Blackrock “would only approve salary rises for top executives if firms increase workers’ wages by a similar amount.” This would be a game changer if enacted, but it counters voting at U.S. companies.
Here’s an example, unrelated to compensation, of an astonishing internal disconnect. This year shareholders vote not only on pay packages but on how often they will vote on pay packages, a vote sometimes called, “Say when on pay.”
Here’s how the Board at Blackrock recommends shareholders should vote on the company’s own proxy:
After careful consideration, the Board has determined that future advisory votes on executive compensation that occur every year is most appropriate for our Company, and the Board recommends that you vote for a one-year interval for future advisory votes on executive compensation.
The Board believes that an annual advisory vote on executive compensation will allow our shareholders to provide us with their input on our compensation philosophy, policies and practices as disclosed in the Proxy Statement on a timely basis. Additionally, an annual advisory vote on executive compensation is consistent with our policy of seeking input from, and engaging in discussions with, our shareholders on corporate governance matters and our executive compensation philosophy, policies and practices. We understand that our shareholders may have different views as to what is the best approach for the Company, and we look forward to hearing from our shareholders on this proposal.
Here’s what Blackrock says in its guidelines about how it vote at other companies
Advisory votes on the frequency of Say on Pay resolutions (“Say When on Pay”) BlackRock will generally opt for a triennial vote on Say on Pay. We believe that shareholders should undertake an annual review of executive compensation and express their concerns through their vote on the members of the compensation committee. As a result, it is generally not necessary to hold a Say on Pay vote on an annual basis, as the Say on Pay vote merely supplements the shareholder’s vote on compensation committee members. However, we may support annual Say on Pay votes in some situations, for example, where we conclude that a company has failed to align pay with performance.
So Blackrock as a shareholder believes that every three years is the right amount of review (something I disagree with), but as a company recommends its shareholders vote for annual votes. The company is unable to be consistent even on a simple matter of one year vs. three year votes. How then does it enact consistent analysis on compensation, an issue far more nuanced and complicated. Shareholders are given very little information.
The amount of support proposal at Blackrock can gain is limited by the company’s structure. PNC which controls 21.2% of shares has a signed agreement that guarantees it will not vote in favor of shareholder proposals. Specifically, “PNC has agreed to vote all of its voting shares in accordance with the recommendation of the Board of Directors on all matters.” Note that I recently reviewed pay at companies insulated by shareholder
However, if more shareholders speak out and support the proposal, perhaps Blackrock will manage to put some starch into that wet noodle.
Annual meeting: May 19
Leslie Moonves from CBS was the number one overpaid CEO on our list in our most recently published report. The regression analysis by HIP Investor showed an excess pay of over nearly $42 million in 2015. Moonves was also among the top five in both 2013 and 2014.
That was last year. The proxy published in 2017 shows that Moonves’ pay increased $12 million in one year for a total of $69.55 million in total disclosed pay. An unusually high percentage of this pay was in cash. His 2016 bonus was $32 million, on top of his $3.5 million salary. It is aligned in no way with the interests of shareholders.
I expect that most pension funds and mutual funds holding the stock would vote against the pay package if they could vote. However, nearly 90% of CBS shares –369,984,335 of Class B Stock – are “non-voting shares.” There are 37,598,604 shares of Class A Common Stock that can vote. However, 79.5% are owned by Sumner Redstone and his family.
Non-voting shares are in the news lately due to the Snapchat IPO and subsequent stock price tumble. After its first earnings reports since IPO was released on May 11, Snapchat’s stock price fell 25%. Of the $2.2 billion in disclosed losses, $2 billion was from expenses related to stock based compensation. As reported by Dow Jones, “Snap’s $2 billion payout surpassed its annual revenue by a wide margin.”
What recourse to Snap’s shareholders have? None, other than hoping there’s a greater fool waiting to buy the stock. They can’t vote directors off the board. They can’t vote on the pay package.
Snapchat and CBS are not the only companies with highly paid CEOs insulated from the will of shareholders. Bloomberg recently came out with a list of the highest paid CEOs of 2016. A quick glance at the list and I realized many were dual-class companies.
In addition to CBS, there are six other companies of the ten that have shares with multiple voting rights and/or non-voting shares. Some (including Gamco & Google) have a similar form to CBS, with certain shares getting 10 votes each. Apple has a tri-class structure. Evercore Partners’ voting structure is so complicated a diagram is required to show the structure Class A units, Class E units, Class G interests, Class H interests and Class I-P units.
What do we make of this fact? The next question I looked into was how the percentage of dual-class companies compares to the larger pool. As far as I can tell, using data from CII, there are 26 dual-class companies in the S&P 500. Just a bit more than 5% of S&P 500 companies have dual class shares, but 70% of the highest pay do.
I wondered if this statistic might have something to do with Dodd-Frank’s provision that allowed shareholders to vote on pay. What were the stats 10 years ago before the practice was adopted? To find out I quickly found a list of the highest paid CEOs from 2006. I then looked at 2007 proxies for each of these companies – which included familiar names like Lehman Brothers and Countrywide Financial – to see how many had dual class stock. The answer: none.
In the 10 highest paid of 2016, two of the three that did not have dual class voting structures have considerable insider control. At Walmart U.S. e-Commerce CEO Mark Lore received over $236 million in compensation, mostly connected to Walmart’s purchase of Jet.com which he had founded. If every single non-Walton family shareholder voted against pay this year the extraordinary package would still receive majority support. Elon Musk’s share of Tesla is not as dominant, but he controls over 20% of the vote.
In fact, looking at all ten of the companies, it appears that IBM – with a compensation package I wrote about earlier this spring — is the only one without either dual class shares or significant insider ownership. At the vote on pay at the company this spring 46% voted against the pay package, an unusually high percentage.
To me this is a hopeful sign. Advisory votes on pay may be working to hold in check the worst impulses of overpay. We are not anywhere near normal or appropriate CEO pay, but it appears that shareholders are having an effect. Voting is a powerful tool, but it has to be exercised.
In its 10Q filing on May 9, Yahoo included as an exhibit its 2017 Executive Incentive Plan, signed in March. (Thanks to Michele Leder for posting on this yesterday).
The formula for the bonus – which will be determined at the end of 2017 by the Plan Administrator — will include a company performance factor and an individual performance factor. The company performance factor will use metrics such as: GAAP Revenue, Revenue ex-TAC, Adjusted EBITDA, and TSR.
These seem reasonable. However, skip ahead to the section that defines what happens with a change in control. Specifically, the agreement says that if there’s a change of control “the Company Performance Factor of Section II.B shall cease to apply.”
Instead, the agreement notes, executives (only four are named explicitly in the agreement though others may be added) will received a payment, “equal the Participant’s Target Award for 2017 multiplied by the Participant’s Individual Performance Factor.” There’s a cap, but it is 200% of target. As far as I can tell, Mayer’s maximum Executive Incentive Plan bonus will equal seven-fifteenths of 3 percent of Yahoo! Inc.’s Adjusted EBITDA.
Yahoo shareholders will vote on June 8 on the sale of Yahoo’s operating business to Verizon Communications. One of the definitions of change in control in the incentive plan is: “the consummation of a sale or disposition . . . of all or substantially all of the assets of the Company to a Person or Persons in one or a series of related transactions; provided, however, that, for purposes of this paragraph (d), the assets of the Company shall not include the Company’s direct and indirect equity interests in Alibaba Group Holding Limited and Yahoo Japan Corporation.” It seems to me that the Verizon deal fits that definition.
The plan lists as objectives as, “To reward annual financial and individual performance that complements the Company’s longer-term strategic focus.” The amount of the bonus and the treatment in a change of control suggests otherwise.
Annual meeting: May 16, 2017
On May 5, Conoco Phillips posted with the SEC an appeal to shareholders, filled with colorful graphs, urging them to read the supplement prior to voting. Such a filing is an early indications that a company is anticipating a poor vote on its pay package. It isn’t surprising, CEO Ryan Lance has been on our overpaid CEO list for each of the three years since we began publishing the list. Total compensation for 2016 was $19,212,038.
Almost every element of pay at ConocoPhillips significantly higher than peers. Salary for the CEO is $1.7 million, up from $683,758 in 2010, and from $1,258,667 the year he was named CEO. This salary significantly above that of CEOs at companies with a higher market cap, including Microsoft, Johnson & Johnson and Alphabet.
Like many older companies, there is a lucrative pension/retirement package. Lance’s package, one of the 100 largest in the S&P 500, is valued at approximately $30 million.
But while the company supports a pension like the established company it is, it issues stock options like a start-up. For a new company options can reward employees for getting a creation off the ground and are best when used broadly. Options were intended not to reward executives in established company in a cyclical industry. One of the red flags that placed the company on As You Sow’s overpaid list is the excessive use of options over the last eight years. The extreme variation in stock price shows that more than the actions of an individual in the C Suite are driving company value (something companies are eager to note when there’s a cyclical downturn). Lance has options with a strike price of $33 and options with a stock price of $69 dollars. This means Lance can benefit in a perverse way when the price of oil and the company stock price goes down: options granted in a bad year will have a low strike price. A temporary cyclical decline will likely reverse itself, and then he will have a windfall. Options expiring in 2018 may still be underwater when they expire, but the next tranche of 61,115 shares have an exercise price of $34, well below the current trading level.
Shareholders are also concerned about the large number of metrics used in calculating both short and long term incentives, and offers little disclosure of targets.
Last year the company received a relatively low level of support for its pay package, and the company trumpets the changes it has made since. For example, options have been reduced from 50% to 40% of long term incentive awards. The committee has “eliminated positive discretion by capping individual adjustments for stock options at target.” However, the committee retains broad discretion on many aspects of pay. In fact, the term “discretion” appears 31 times in the proxy statement (though the board has used negative discretion at times).
None of the changes the company has adopted has done much to address the fundamental issue of quantum of pay. While Lance’s pay is somewhat lower than it was two years ago, it remains excessive even by the standards of U.S. CEO pay.
NOTE: At the company’s anual meeting shareholders voted decisively against the pay package: http://www.houstonchronicle.com/business/article/Conoco-investors-reject-exec-pay-in-advisory-vote-11151120.php
Annual meeting: May 24
Why did CEO pay at McDonald’s practically double last year? The chain faces a fundamental demographic challenge of customer decline. (I see this echoed in my own household: as soon as my kids were past the age of Happy Meals they began to treat the fast food chain with disdain). The short term solutions – selling more restaurants to franchisees, offering breakfast all day long – do nothing to change the fundamental issues faced by the company.
And yet, McDonald’s CEO Steve Easterbrook’s total disclosed compensation grew from $7.4 million in 2015 to $15.4 million in 2016 total compensation. He received a $3 million increase in just his one-year incentive pay, that totaled $4.5 million for 2016. The remainer of the overall 94 percent increase came from increases in stock awards, options and salary.
In the menu of questionable pay practices McDonalds has some standards: a high calorie salary, super-sized buybacks, and an extra-large order of non-GAAP calculations.
Each of the named executive officers at McDonald’s received a salary increase in 2016. These salaries also help inflate bonuses, since target is based on a percentage of salary. Easterbrook’s salary was increased to $1.3 million, putting considerably higher than the median salary for S&P 500 CEOs.
We’ve discussed buybacks before. The statistics from McDonalds are particularly incredible when compared to company earnings. According to Forbes, McDonalds spent $6 billion more on buybacks ($20.5 billion) from 2014 to 2016 than it earned in income ($14 billion). These buyback have been funded by debt. The Forbes article provides an excellent introduction to buybacks generally.
As noted above, the major component of the pay increase was the annual incentive. McDonalds is yet another company where bonus is paid based on figures that have do not comply with generally accepted accounting principles (GAAP). The adjusted 11% operating income growth rate is nearly twice the amount reported under standard accounting.
Easterbrook became CEO in 2015 and some of his decisions – notably all-day breakfast – have driven increased traffic. Even those who laud some of his choices are not quite sure he deserves the break he got. As Joe Cahill wrote in Crain’s, “the company shouldn’t shower him with riches for short-term results that don’t necessarily signal sustained recovery.”
For now the CEO is loving his pay package, and shareholders are loving the buyback inflated boost in stock price. But ultimately if customers aren’t loving it the company cannot succeed.
Also of note, in addition to voting on pay, shareholders have the opportunity to vote on an As You Sow proposal encouraging the company to report on the environmental impact of the polystyrene foam cups it continues to use internationally.
Annual Meeting: May 24
Why should anyone expect a CEO who doesn’t acknowledge the basics of climate science to adhere to generally accepted accounting principles?
The pay of Southern Company CEO Thomas Fanning – who recently stated on CNBC that he is unpersuaded that carbon dioxide is a primary contributor to climate change – increased from $11.8 million in 2015 to $15.8 million in 2016. Part of the pay increase was due to what some investors have called the decoupling of pay and performance, recently covered by Russell Gold in the Wall Street Journal.
In a letter filed at the SEC April 24 shareholders opposing the pay package highlighted the ways the compensation package has been inflated by using non-GAAP exclusions. (GAAP stands for Generally Accepted Accounting Principles.) According to that letter, signed by multiple pension funds, “A driver for higher executive compensation levels in both the 2015 and 2016 fiscal years was the Compensation Committee’s decision to use an earnings per share (EPS) figure “adjusted” to exclude the negative earnings impact of the project[s] and certain other items.”
The largest exclusion related to cost overruns and the Kemper Clean Coal plant, initially forecast to cost less than $3 billion, but with delays and overruns continuing to inflate the construction cost, now at nearly $7 billion. A 2016 New York Times expose, entitled “Piles of Dirty Secrets Behind a Model ‘Clean Coal’ Project” details deliberate concealment of cost overruns and delays and notes that, “Members of Congress have described the project as more boondoggle than boon”
The cost overruns have required the company to take pretax charges against earnings related to Kemper in 15 of the last 16 quarters. What has changed, however, is how these numbers have affected compensation. In 2013, Southern recorded pre-tax charges of $1.14 billion related to Kemper and no adjustment was made for compensation metric purpose. In 2015 and 2016, however, the letter notes, “the Compensation Committee simply used adjusted EPS for all employees, including top executives, insulating them from Kemper’s negative impact on earnings.”
The letter – signed by CalSTRS, Local Authority Pension Fund Forum, Seattle City Employees Retirement System and the Nathan Cummings Foundation – is impressively detailed and I encourage you to read it in its entirety. It concludes: “We believe it is important to communicate that shareholders do not support the Compensation Committee using its discretion to shield senior executive pay from the negative impact of projects that are central to Southern’s strategy and failing to exercise its discretion to reduce incentive pay for executives to hold them accountable for strategy execution missteps.” In addition to urging shareholders to vote against pay they encouraged votes against the reelection of compensation committee directors Steven Specker and Dale Klein.
I have written before about the expanding use of the use of non-GAAP earnings. In addition to making cross-company comparison more challenging, the exclusions may allow executives to make targets that would not otherwise have been achieved, as they did at Southern. Another problem is that systemic problems can be hidden by a mass of individual “non-recurring” costs or other adjustments. They muddy already confusing financial statements.
But muddying things seems standard protocol for many energy executives. When it becomes impossible to deny the climate is changing, the line moves to casting doubt on what is causing the change, raising questions on the veracity of individual statements and studies, and the appropriate response to climate change. Fanning, in his CNBC interview, said that climate change couldn’t be denied but also contended that the climate has been changing for millennia.
Another item caught my eye as I read the proxy: there were multiple peer groups listed. Anytime a company has more than one peer group it deserves particularly careful attention. One group in Southern’s Proxy is used for compensation benchmarking, the others in determining the relative TSR figure that drives bonuses.
The company states that “several of the companies in the 2016 PSP peer group do not meet the size requirement to be included in the compensation peer group (+$6 billion in revenues).”
What does that mean: for the most part it means the CEO wants to be paid like large companies on guaranteed compensation, but is willing to include smaller companies when doing a TSR comparison. The easiest element of pay to benchmark is salary, and it is a component that has risen remarkably at Southern. In 2016, Manning’s salary was increased $1.29 million. It appears that his salary has increased significantly every year. In 2009, when Fanning was CFO at the company his salary was $690,250. In 2010, the year he became CEO, he was paid a salary of $809,892. By 2011, Fannings salary had crossed the million dollar threshold and reached $1,064,399 with increases based in part on “market data.” And his salary continues to rise.
Use of aspirational peer groups is one of many factors that has inflated compensation for years. The abuse decreased when institutional investors focused on some of the outlandish examples. A useful study published by the IRRC Institute in 2012 found that peer group benchmarking is inherently flawed and inflationary. Misuse of peer groups is subtler now, though by the time the practice slowed the inflated executive pay was already in the system.
Climate change denial is subtler these days too. Investors at Southern’s annual meeting will also have an opportunity to vote on a proposal calling for the company to issue a report Southern’s strategy for aligning business operations with the IEA 2°C scenario, while maintaining the provision of safe, affordable, reliable energy.
CalPERS which owns nearly 3 million of the shares, has already announced its support for the proposal. “We believe proposal #6 is of particular significance in light of the global consensus regarding climate change and emission reduction targets reflected in the Paris Agreement. The importance of the proposal’s request is also underscored by the efforts of Financial Stability Board (FSB), an international body mandated by G-20 leaders to develop efficient climate-related financial risk disclosures.”
Annual meeting April 25
In 2016, IBM CEO Ginny Rometty received a 65% increase in total disclosed compensation: $32.7 million. A significant portion of the increase was due to a large stock option grant. Companies with large option grants sometimes contend that the figure in summary compensation tables overestimates the value of options. They rightly note that options only have value when stock price increase is complicated stuff: Myron Scholes, after all, won the Nobel prize for Economics in 1997 in part for his role in creating the Black-Scholes method. In this case, however, experts believe the value as presented may be an understatement.
As analyzed by ISS and further by Melin Anders of Bloomberg, IBM’s calculation of stock options – the same it has used for many years but highlighted this year by a grant of 1.5 million options valued at $12.1 million — is problematic. “Based on [ISS] calculations, the award [as estimated by the company] is almost 60 percent below the proxy adviser’s own ‘fair value’ estimate of about $29 million. That’s the biggest gap for S&P 500 companies that granted options to executives last year.” Melin also points out that the option award was granted at near the company’s five year low trading price. Although there were price increase criteria attached, the stock price has since recovered enough that those have already been met.
Even without this analysis of option value, there’s a growing consensus that Rometty is overpaid. Michael Hiltzik wrote a great column this year calling her package, “proof that IBM continues to set the standard for overpaying its CEO for mediocre performance.”
Indeed, IBM appeared on our list of companies with overpaid CEOs last year as well. In 2015 Rometty received a $4.5 million bonus, up $900,000 from 2014. This high pay came amidst falling profits and revenue.
This year her bonus increased again, by $400,000. In a document IBM filed at the SEC this month the company noted that, “The long-term incentive plan paid out at 32% for the 2014-2016 period due to lower operating EPS and free cash flow performance in the three year period.” However, it is critical to note the way EPS is influenced by stock buybacks.
A stock buyback is just what it sounds like: a company buying back some of its stock in the open market. There are times it may be appropriate, if the shares are undervalued and there’s really nothing better the company can do with the cash. But it also reduces the number of shares out there, making EPS look better by lowering the number of shares in the denominator of the fraction. Robert Ayres has as pithy an explanation of buybacks as I have seen: “When compensation is tied to share price, [executives] are rationally driven to take advantage of any legal mechanism to drive share prices up during their tenure.”
Ayres uses IBM as an example in “The Economic Consequences of Shareholder Value Maximisation” on the flaws of linking compensation primarily on stock performance rather than company performance.
“Since the 1990s, blind dedication to Shareholder value maximization (which continues) has led to unending emphasis on cost-cutting (by job cutting), lack of product innovation and the use of cash to finance corporate stock buy-backs. Between 2005 and 2014, IBM delivered US$32 billion in dividends to shareholders and spent US$125 billion buying its own shares (to prop up the share price), while investing only US$111 billion in capital investment and R&D combined.”
Much more has been written and will be written about larger failures of IBM. Where did the circle start? It could have been when pay for performance was adopted in a narrow way that rewarded stock performance above all else. It could have been when buybacks became an accepted way to prop up stock price. It could have been when shareholder value primacy was widely adopted.
The question is who is going to stop the spiral. Shareholders play an important role with their votes. A strong, appropriately engaged board should also provide a check. Some of these larger strategic issues predate Rommety’s promotion to CEO in 2012, though she has been at the company since 1981. There has been a fair amount of turnover in the board, which may be another governance red flag, but there remain five directors who have served more than 10 years. The longest serving director, American Express CEO Kenneth Chenault – himself an overpaid CEO – has been on the board since 1998. Glass Lewis & ISS have both recommended against the compensation plan, so many shareholders will vote against. We may see significant opposition to directors as well.
Annual meeting: April 20
CEO Gary Goldberg has been at Newmont Mining since 2011, becoming CEO in 2013. When Goldberg became CEO the stock price was trading at approximately $41 per share. In 2015 at one point it traded under $20. In 2016, the stock improved, and Goldberg’s total compensation increased 24% percent to $16.5 million. This large upside for improved stock performance represents a great flaw of executive compensation practices, because the inverse never seems to be true.
Indeed, Goldberg’s salary has increased every year, to $1.27 million in 2016. Likewise, with his stock awards, which were $5.9 million in 2014 and $11,778,961 in 2016 ($9,395,636 in performance stock units and $2,383,326 in restricted stock units).
According to press reports, ISS recommends a vote against because, according to a recent press report, “The CEO’s fixed pay and incentive opportunities increased following significant stock price decline.” Further, according to a company with a filing, ISS found that “the [compensation] plan could provide for vesting at target where stock price remains flat over the performance cycle.
Stock awards are a particularly problematic payment in an industry this volatile. The stock at Newmont swung wildly in 2016. Once article notes for example, that, “Over the past year, the stock has traded as low as 11.5 times free cash flow and as high as 31.0 times.” The price used to determine target value of the 2016-2018 awards was $19.04 per share. However, by December 30, 2016, the closing price of the stock was $34.07.
The company notes that such stock awards “represent the single largest component of the officer compensation program.” This is true. The proxy statement goes on to state that it is “aligned with shareholders experience.” That is false. Shareholders purchase stocks at a certain price; long term shareholders hold them through the ups and downs of stock. Executives do benefit considerably when stock price goes up, but face only paper losses based on estimates when the stock falls. Shareholders are unlikely to receive large grants at the bottom of the market, and executives often do.