Initially conceived as a panacea to bring top executives’ pay in line with shareholder interests, long-term incentive plans or LTIPs have faced a barrage of criticisms for allowing CEOs to take home sky-high pay packets without delivering the same level of improvement in company performance.
The failings of the remuneration scheme were dissected during the final panel of the Investment Association’s Stewardship & Governance conference on Thursday.
Ashley Hamilton Claxton (pictured), head of responsible investment at Royal London Asset Management, said many fund managers at the firm are critical of LTIPs.
“When I asked them why don’t they like them they said because when having a discussion with the board about performance targets, the company always has more information than we do. Trying to have a discussion about setting performance targets when there’s that asymmetry of information is challenging.”
Contrary to what its name suggests, long-term bonus schemes can actually encourage short-termism among CEOs, said Weir Group non-executive director and remuneration chair Clare Chapman.
“When you’ve got three-year LTIPs, what you’ve got potentially is the incentive programme pushing for short-term actions being taken.”
‘Mind-blowing’ pay packets
Meanwhile top executives have continued to see their pay go up.
The most recent study from the High Pay Centre shows that median pay for FTSE 100 CEOs was up 11% in 2017. The average pay of Britain’s most high-profile bosses rose 20% though Luke Hildyard, director at the High Pay Centre, says this figure is skewed by a few firms like Persimmon.
And while the public outcry over executive pay has grown in recent years, with more media attention being thrust upon shareholder and senior management clashes, investor pushback has remained relatively subdued.
“There are very few resolutions that have actually been defeated,” Hildyard said during the IA panel discussion. “It is only the odd sort of high-profile contretemps at an AGM that gives an exaggerated impression about the extent to which shareholders are holding companies to account on this.”
Some of the most controversial pay packages have been pushed through in the end.
The fact that ex-Persimmon boss Jeff Fairburn’s pay package, which included a £75m bonus, was approved at the firm’s recent AGM is “mind-blowing,” said Hildyard.
“It shows what poor judgment it was to vote it through given the CEO had to resign a few months later.”
Alternative schemes
Some companies have taken to adopting alternative schemes to ensure senior executives have significant skin in the game.
Weir Group made a bold move to scrap its long-term bonus schemes for annual awards of restricted shares. The measure received an overwhelming amount of shareholder support, with 92.4% voting in favour of the new scheme at the company’s AGM in April 2018.
Chapman said shareholders realised that because of the cyclical nature of the Scottish engineering business and volatility in commodities pricing, the LTIP framework did not make sense for Weir.
“At Weir, eight years out of 10 the pay-out was either zero or 100%. In actual fact, the way the LTIP was designed was tracking the cycle more than it was rewarding the performance.”
But she admits that the restricted shares scheme is not for everybody.
At multinational retailer Kingfisher, where Chapman is also remuneration chair, the firm kept its LTIP scheme but cut annual bonuses by 50% and put measures in place to ensure executive pay is better linked to the delivery of strategic milestones.
Challenges
Not to mention it can be difficult to convince a majority of shareholders that reform is required.
Hildyard notes that only about 8-9% of remuneration packages were opposed by shareholders during the recent AGM season.
Weir encountered a wave of shareholder opposition the first time it tried to shake up its executive pay scheme in 2016 but Chapman says that was largely down to the fact the proposed solution involved a combination of restricted stock and LTIPs and “lacked coherence”. “If LTIPs don’t work then having a smaller LTIP is actually not a good answer.”
When Weir decided to put its revised restricted shares scheme to a vote this year, Chapman recalled that shareholders were perplexed with one telling her, “You’re either brave or mad”.
“The fact you’ve got an investor telling me I must be either brave or mad to try something different tells you that when you don’t have a really strong reason for change and a board with a backbone and courage, actually what can happen is you default to the status quo.”
Not the death of the LTIP just yet
Rob Burdett, senior client partner at Korn Ferry, doesn’t think the LTIP scheme is likely to disappear anytime soon.
“The death of the LTIP is slightly exaggerated,” he said. “In five years’ time the majority of companies will retain their existing pay-grade whether good or bad.”
However, in the future Burdett believes more scrutiny will be paid to target setting and how objectives are linked to bonus awards.
Hamilton Claxton also emphasised the importance of getting the structure right and stressed that companies need to be able to justify why executives are earning much higher salaries than other employees in the business.
“We want to see pay for performance,” she said. “We’re not against high pay full stop. We’re very much willing to approve high pay packages provided it’s the right structure, it’s long term, it’s simple to understand and that it is going to be commensurate with performance.”
Size matters
But in quelling the public anger over pay, Hildyard said the size of the packet trumps concerns over structure.
“The societal concern is an important business issue. Ultimately, it’s not going to be good for business in the long term if it’s seen as a racket for rewarding a tiny number of executives at the top.”
Toward the end of the discussion, panel moderator and BBC business presenter Dominic O’Connell asked whether the way forward on executive pay would be to scrap any kind of bonus altogether.
Hildyard replied: “For most people in their job their bonus might be a small share in company profits at Christmas and the world continues to turn for them. But the idea in a year or two’s time people will get their agreed salary and will somehow tear themselves out of bed and go to work just for that seems a bit unlikely unfortunately.”
