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Executive pay: curiouser and curiouser.



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This transcript has been prepared by a source external to the Department of the Parliamentary Library.

 

It may not have been checked against the broadcast or in any other way. Freedom from error, omissions or misunderstandings cannot be guaranteed.

 

For the purposes of quoting verbatim from a transcript, it is advisable to verify the transcript against the broadcast.

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Background Briefing

 

Sunday 20 July 2003

Executive pay: curiouser and curiouser

 

Stan Correy: $12-million, not including shares. $16-million, plus options. $33-million if you leave soon.

Hallo, I’m Stan Correy. This is Background Briefing.

What’s left to say about excessive executive pay? It boils down to greed, arrogance, and the devil take the hindmost. Doesn’t it? Well yes, that’s certainly part of it, but there’s another st ory in the rising anger about the work of an interesting, but until now ignored group of corporate advisors.

These remuneration consultants, who like to stay behind the scenes, advise CEOs and Boards about executive pay, and because they’re compromised by their insider status, are now being seen as a big part of the problem.

There hasn’t been much about that here, except for occasional references in the stock market column of The Australian newspaper.

Michael West: Remuneration consultants want to keep quiet about their business because there’s no need for this business to operate, it just drives up executive salaries.

Stan Correy: So what do you know about how they operate in Australia?

Michael West: Well for instance, my interest in this story first came when I got a call from a contact of mine who was Managing Director of an Australian publicly-listed company. He said, You have to have a look at these remuneration consultations, he said, he told me that he just wanted a pay rise, so what he did was what people usually do when they want a pay rise, they called in the remuneration consultants, they pointed out that there were other people in his same industry that earned a lot more than he did, so he said, Well, could you do a report on that please? And a few weeks later, bingo! He had an independent, a supposedly independent report from a remuneration consultant saying that he wasn’t paid enough and while they were at it, they did the rest of the management and the board.

Stan Correy: Michael West. And he has no sympathy for the argument that outside consultants are needed because executives don’t have the skill to calculate their own pay packages.

Michael West: If these executives that operate in their particular industries can’t price labour in their own industries, in other words their own labour, there’s got to be a problem. They will know better than any external party, what they are worth, and what executive labour in their particular markets should be worth.

Stan Correy: In the UK and the USA the mud is flying now. They’ve been called Pay Parasites by the Business Editor of The Sunday Telegraph in London.

Multibillionaire US investor Warren Buffet calls pay consulting firms Ratchet, Ratchet and Ratchet.

Ratcheting sounds

Stan Correy: That’s the sound of executive pay being pushed higher and higher wherever the consultants are found. Regulators and corporate governance experts criticise them for being too close to management, lacking independence, and camouflaging what’s really going on with clichés, jargon, pat phrases and obscure language. There are real complexities, of course, but it’s in no-one’s interest to clarify them. Retention bonuses, share options with names like Mega Grant, or Zepo Shares, useful tricks to make sure your options go further, like ‘cashless exercises’, or ‘reloading’.

Special hedging techniques called Zero Cost Collars, Incentivised Performance, S-TIPS, L-TIPS, the list goes on and on.

Of course the modern executive package also needs the basic incentives: cheap loans, private school fees, cars, houses, travel, flowers for lovers, holidays as reward for success, or even too often, for failure. When all these goodies are made public, it explodes into the tabloid media, as Fat Cat Fever. No-one, left or right, is impressed.

Peter Costello: Well I find it impossible to believe that any executive is worth $32-million. I can’t conceive of it. And I would say to the directors that are responsible for that, they’d better have a very good explanation for their shareholders, and I would say to the shareholders they have every right to demand some answers from their directors, every right indeed. It’s their money. Let me make this clear, this is the money of the shareholders of the Commonwealth Bank.

Stan Correy: The Treasurer is talking about Chris Cuffe, who was the top fund manager for Colonial First State, owned by the Commonwealth Bank. Cuffe’s enormous payout caused an uproar. The man who helped him get the package that so outraged even the Treasurer, is remuneration consultant, Chris Hart. He says the fact is, top executives will move on if they aren’t getting the big prizes. So some perspective on Cuffe’s nearly $33-million payout is needed, claims Hart. And he wouldn’t have changed any of his advice.

Chris Hart: No I don’t think I would have changed it. The biggest issue that we had to look at at First State was the potential of the stars, and Chris had been mentioned a number of times, and they were eminently poachable by other corporates. Not saying that the publicity and the way it’s come out could have been done better, and maybe that there should have been more transparency to that whole process, yes, but again I’ve raised earlier in this discussion, the issue about the owning or the retention of this intellectual capital, and you do not give away all your information because then these individuals may be poached or offered something of a similar nature to be able to try and take them out.

Stan Correy: Fear of them being taken out, losing that top investment talent, meant boards and their consultants worked out more and more lucrative incentive schemes. But this pay nirvana, says Chris Hart, only existed for the crème de la crème.

Chris Hart: You’ve got to understand you’re now talking about the titular end of the market. It’s not the top 1%, this is the top 0.1% or 0.01%, and hence therefore you’re talking about the par excellence employees that need to be retained, that generated hundreds of millions of dollars, hundreds and hundreds of millions of dollars in profitability and success for shareholders and other stakeholders within the group.

Stan Correy: Remuneration consultants like Chris Hart have a plethora of names. They may be called pay consultants, or compensation of salary packaging consultants.

The Royal Commission into the $5.3-billion collapse of insurance company HIH gave Australians an inside look at how pay consultants interact with boards and management.

While the Commission made no critical comments about pay consultants as outside advisors, the report does reveal that they are an integral part of corporate life in Australia.

Some of the pay statistics that came out of the HIH Royal Commission are:

Finance Director Dominic Fodera was given $1.2-million as a golden hallo to join the company.

Then just before the liquidation in March 2001, the board recommended him a golden goodbye of $1.6-million.

When Ray Williams retired as Managing Director in October 2000, he was on a salary package of $1.5-million a year.

Australia’s top pay consultants were all advisers of H IH, including Chris Hart.

Chris Hart: I did provide advice on resignation benefits for Mr Williams, and we did look at some of the issues pertaining to senior executive reward. Now you’ve got to also understand what we’d been told. I’m not suggesting we were misled, but certainly now that the course of information has come out, the information that had been provided to me to provide some of our advice was certainly not complete, and therefore we provided advice on what we understood the case to be. So to an extent, you can manipulate your advice if you provide certain salient points, or if you ignore certain salient points in that question of what is this person worth? And all we can do is turn around and say as the basic principle of remuneration consulting is, is it competitive to that external marketplace? And we measure regularly, what is occurring in the marketplace. Now if you turn around and say the market’s got it wrong, it’s over the top, hence therefore everything should be cut back, well if that was the case, then the market would cut itself back and we would then use a different base to measure from. Except things go up a lot easier than they come down.

Stan Correy: Pay consultants insist they are just brokers of neutral information, and do not need to be regulated. And all consultants Background Briefing spoke to said they had no problem with making their advice more transparent to investors. They say there is no ‘blanket of blah’ in their profession, nor any attempts to camouflage situations. They maintain they work from what they know about what other executives are paid around the world, and they merely advise companies and top executives. They have no responsibility beyond that.

Stan Correy: It’s a fascinating irony that during the very same decade that ordinary workers were deregulated and encouraged to enter into AWAs, in which third parties like Union negotiators were discouraged, that in the top echelons, senior management had the help of some of the most canny, experienced and toughest pay negotiators on the planet.

Stan Correy: In the US academics have been focusing in on how executive pay does get out of control. Professor of Law at the University of California, Berkeley, Jesse Fried, has found that market disciplines aren’t working inside the top end of the business world. We telephoned Professor Fried as he was checking the manuscript of the book he and Lucian Bebchuk are publishing on these issues. Unfortunately the phone line was incredibly noisy, so we’ve re-voiced his comments.

Jesse Fried: If the compensation consultants were truly independent and provided advice at arm’s length for the shareholders, then they would play a very useful role. But just as the Board has often compromised, so are the compensation consultants, because they’re being paid for the service of providing the Board advice on the CEO’s package and they’re usually chosen by the company itself. So if they want to be hired to advise the Board in two or three years after the compensation contract has expired, and it’s time to negotiate a new one, they’re going to want to give advice to the Board that makes the CEO happy. Because if they give advice to the Board that makes the CEO unhappy, then the CEO subordinates will choose another compensation consulting firm to give advice to the Board the next time.

In addition, these firms often have larger business arrangements with the firms that they’re consulting with on executive pay. They might be involved in setting up benefit plans for all the workers, for designing compensation arrangements for senior level and mid-level management. And these contracts are worth a lot of money. So not only are the compensation consultants possibly risking their contracts with the firms that have them give advice on executive compensation, they’re also putting at risk much larger contracts that these consulting firms have with a firm about the compensation of all the other employees.

Stan Correy: Pressure like this has been on for a while in the UK and the US. In March this year, in a magazine published by America’s foremost business think tank called The Conference Board, compensation consultants responded to all this under the headline ‘It’s Not Our Fault, Usually’. One of the consultants is Frank Glassner. Here’s a reading of some of what he said.

At the end of the day compensation consultants have got to go home and look at themselves in the mirror. Too many cave under pressure, and don’t want to t ake responsibility for communicating bad news because they fear they will lose the client. This is purely due to a lack of integrity. It’s almost like a physician giving bad news to a patient, but fearing doing so, he just gives the patient a lollipop.

Sta n Correy: Some consultants work by themselves, others are big companies and are very large, like Towers Perrin, The Hay Group, Watson Wyatt, Mercer. And there are boutique operators such as Egan and Associates, Hart Consulting and Equity Strategies. Some of the big law firms, like Freehill’s and Blake’s are also getting more active in the executive pay trade. What happens is a kind of leapfrog. If someone hears that a CEO has just been given a spectacular package, there’s a rush to get Board approval for the same or more for your clients.

The International Corporate Governance Network, representing big time investors around the world, recently described executive remuneration as being like the Caucus Race in Alice in Wonderland. What the Caucus Race describes really well is how it works at the top.

What I was going to say,’ said the Dodo, in an offended tone, ‘was that the best thing to get us dry would be a Caucus Race.’

‘What is a Caucus Race?’ said Alice, not that she much wanted to know. But the Dodo had paused as if it thought that some body ought to speak, and no-one else seemed inclined to say anything.

‘Why,’ said the Dodo, ‘the best way to explain it is to do it.’

And as you might like to try the thing yourself some winter day, I will tell you how the Dodo managed it. First, it marked out a race course in a sort of circle. ‘The exact shape doesn’t matter’, it said. And then all the party were placed along the course, here and there. There was no ‘One, two, three and away!’ but they began running when they liked, and left off when they liked, so that it was not easy to know when the race was over. However, when they’d been running half an hour or so, and were quite dry again, the Dodo suddenly called out, ‘The race is over’, and they all crowded round it panting, and asking, ‘But who has won?’

This question the Dodo could not answer without a great deal of thought, and it sat for a long time with one finger pressed upon its forehead, the position in which you usually see Shakespeare in the pictures of him, while the rest waited in silence.

At last, the Dodo said, ‘Everybody has won, and all must have prizes.’

‘But who is to give the prizes?’ quite a chorus of voices asked.

‘Why she, of course,’ said the Dodo, pointing to Alice with one finger. And the whole party at once crowded round her calling out in a confused way, ‘Prizes, prizes.’

Stan Correy: This race for prizes for every executive is called the global compensation imperative.

The umpires in this race should be the Board. But Boards are often weak, and not well-informed. They’re made up of people who meet once a month or so, and who rely on the company’s senior management for most of their information.

John Shields from the School of Business at Sydney University.

John Shields: What you have to understand about executive remuneration consultants is that they are embedded in organisations as players. The nature of the relationship between them and the big corporates is one of a service provider-client relationship. It isn’t just that they provide advice to big corporates in relation to a remuneration level or remuneration composition or strategy. It’s that, but it’s also that they have those corporate clients as information providers in relation to a range of remuneration practices so they aren’t just your average run of the mill HR consultant who were brought in once every three months to fix a problem of team-working, they are there constantly, they provide Board level strategic advice on remuneration practice, that has a profound effect for better or for worse, on company performance and company governance process, and in our view there is a need to for greater accountability on their part, in the same way that there is a need for strong accountability in relation to the provision of auditing services by external service providers in the accounting profession.

Stan Correy: John Shields, one of the co-authors of a recent report for the New South Wales Labour Council on executive pay. That report recommended that pay consultants in Australia be registered and regulated like other corporate advisors.

Anger at high executive pay, and at remuneration consultants, is camouflaged, deflected and hosed down in many ways. Director of the Reward Section at the Hay Group in Melbourne, Graeme O’Neill, says the media is largely to blame.

Graeme O'Neill: Let me start with the issue about my response to coverage of executive pay issues in the media. Generally speaking I find it disappointing. The reason I say that us that we still have I think, as indeed it is in the US and the UK as well, the general trend which I would characterise as ‘Don’t let anything stand in the way of a good story.’ The problem with that especially when it’s accompanied by emotive language, is that it prevents us from having an informed debate about the impact of executive pay in terms of social comparison, in terms of its impact on performances in organisations, because the focus then is on figures which to the ordinary person in the street are indeed quite high.

A good example, says O’Neill, of ill-informed media analysis happened recently when Macquarie Bank disclosed how much its top executives would get when they retired.

The Age headline read:

Mac Bank Opens Up Its Golden Parachutes

Stan Correy: The Australian Financial Review:

Mac Bank Shares Out The Spoils

Graeme O'Neill: If you compare the stories, The Age began with a very reasoned headline and a very reasoned opening paragraph, which in fact complimented Macquarie Bank on leading the way in terms of governance and disclosure standards by revealing the information. The Financial Review, on the other hand, paradoxically almost, grabbed a sensationalist headline and an opening paragraph which talked about again in emotive language, the amounts of money these people stand to gain. So I think that’s the sort of contrast I would make.

The second thing about the media coverage Stan, I’d say, that the whole issue is getting increasingly complex. A headline in a paper which trumpets something like CEO Pay Increases Average 21%. Now this is the sort of thing where they make no distinction between the various components of pay.

Stan Correy: Graeme O'Neill’s point is that too often the media concentrates on the big numbers, and makes no distinction about the different elements of pay in the salary package. Options, and what they might or might not bring in, are an example. And recently Microsoft dropped options as a way of paying their staff. Here’s a piece from the BBC, explaining what happened and why.

Commentator: Up to 4,000 of Microsoft’s 50,000 employees have been made millionaires in recent years, mainly because they’ve been given in addition to their salaries, something called a stock option, and it works a little bit like this: They grant you the option to buy a Microsoft share at, say $10 and if it reaches $100, or even $180 as it did at one stage, clearly you go back and exercise that option, and you can pocket up to 1000% profit. It’s been easy money for more than a decade, to employees at Microsoft, and so the very chance of making this kind of money has been a key ingredient in getting the talented software engineers to go and work there, and even put up with Bill Gates. Now though, the day of the stock option may be over: Microsoft isn’t working any more, mainly because the company’s share price is going down and not up. Whatever the reason, the death of Microsoft stock options is welcomed by many who say in fact it was really a symbol of corporate excess and greed.

Stan Correy: Options are just one of the parts in any big executive package of course, and now they’re out of favour. It’s said the pay consultants are already working on new complex schemes for executive pay. Jessie Fried at Berkeley, says the complexity is used to throw a dampening blanket of words and jargon over many issues that might worry shareholders or regulators, and part of a consultant’s job is to hose down public outrage.

Jesse Fried: One of the few constraints on executive pay is outrage, not only by shareholders but by media and other groups of people about whose views the CEOs might care. Periodically, the business journals in the United States will run issues where they’ll put up the face of a CEO, and they’ll put like a pig’s nose over his nose, and they’ll run some unflattering article about him for being a greedy pig. Well, CEO’s don’t want to end up on the cover of a magazine with a pig’s nose pasted over their face, they don’t like having negative publicity. They don’t like having their pay criticised, it’s embarrassing, it’s not pleasant. We think one check on the levels of CEO pay is the reluctance of boards and CEOs to put together pay packages that are so ridiculous that they would generate an enormous amount of outrage. In fact, there was a study that looked at the effect on CEO pay of negative press coverage in journals like Business Week. And these researchers found that if these journals ran articles that commented negatively on the CEO compensation of particular firms, that the increase in the compensation of those CEOs would not be as high as the increase of CEOs in firms where there was no such criticism. So it didn’t actually reduce the compensation on a year to year basis, but it slowed the increase.

So there’s actually some pretty good evidence that outrage constraint has some effect, but it has to get pretty outrageous before the constraint kicks in.

Stan Correy: Last year a report by the international corporate governance network said ‘The world of executive remuneration is dogged by clichés.’

One of the common clichés is if we don’t pay well, how can we recruit and retain the best? Or to really scrape the cliché barrel: Pay peanuts and you get monkeys.

Last year when he retired early from BHP-Billiton, Paul Anderson was rewarded with just over 18-million dollars. He argued that yes, executive salaries are exorbitant but you have to pay what someone would get in America, otherwise you’re not going to get them or keep them. Here he is explaining public anger, saying he understands it, but also saying the situation can’t change. Paul Anderson was speaking at the Australian Business Council.

Paul Anderson: I think that CEO compensation is out of control, totally out of control. It’s reached a point now that there’s no way to justify the incredible compensation, and I realise in Australia my compensation is viewed as outrageous, but relative to a US CEO, I make a fraction of what somebody at a major company in the United States would make. And there’s no way to justify that, there is just no value that can be created by a CEO that you can say that makes a lot of sense. I don’t think the CEOs should be paid as much as they are, but I don’t know how you back off of that and still maintain a good management team.

Stan Correy: This argument is wearing thin in post-Enron-WorldCom America. Even the new head of the US Securities and Exchange Commission, the world’s most powerful corporate regulator, William Donaldson, thinks this is a bit rich. Here’s a reading from a speech Donaldson gave in Washington, DC, in March.

The conventional wisdom of many corporate boards these days has become that in order to remain competitive, executive compensation must be in the top quarter of companies in their industry. But we don’t live in Lake Woebegone, where as Garrison Keillor says, all the women are strong, all the men are good-looking, and all the children are above average. Such a description makes you think long and hard about moving to Minnesota, but obviously it’s literally impossible for everyone to be above average, or in this context, for every company to be in the top quarter. It is the job of the Board to set appropriate compensation that is related to the goals and performance of top management, not the pressure to meet an artificial standard informed by outside consultants who do not share the responsibility of being Board members.

Stan Correy: The compensation consultants are finding this criticism and interrogation hard. In April this year, the compensation consultant for Enron, Charles Essick from Towers Perrin, had to appear before a US Senate Finance Committee.

Here’s a reconstruction of an exchange between Charles Essick and US Senator John Breaux.

John Breaux: So it seems to me what you’re telling the Committee is that if everybody else that you’re surveying out there is doing something that’s pushing the envelope and is hiding stuff from the IRS, then you go to your client and you say you’re right there with them, good luck.

Charles Essick: We do not consult on the issues. Our consultation is Here’s what the pay levels were in the marketplace, here’s what the structure of the plan designs is in the marketplace, here’s what your pay philosophy is that you’ve established, and here’s where it comes together and -

John Breaux: But you in no way tell them whether it’s the right thing to do, it’s a good idea or you’re pushing the envelope. I mean you just say it’s consistent with what everybody else is doing out there?

Charles Essick: We provided a view on what real companies do in the outside world.

John Breaux: And even if they’re doing it wrong, you can tell your people that you’re consistent and go forward?

Charles Essick: We tell them what’s happening in the real world.

John Breaux: Even if it’s wrong?

Charles Ess ick: We tell them what’s happening in the real world based on fact and what real companies are doing.

Stan Correy: The continuing denial that there is anything to discuss dumbfounded the Senators. That exchange, in April, between Charles Essick and the Senate Finance Committee helped to move the issue of pay consultants from the sidelines to the centre.

Now there are conferences all over the US addressing what to do about compensation consultants.

Stan Correy: The collapse of WorldCom also brought them into the unwelcome limelight. Richard Breedon, the administrator of WorldCom, had some amazing information for the New York court. He had discovered that in the year 2001, WorldCom’s auditors had met for a total of four hours. WorldCom’s Remuneration Committee had met for hundreds of hours. Breedon was so disgusted he now thinks compensation consultants should be banned from advising Boards.

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Stan Correy: In the early 1950s right at the beginning of the birth of managerial capitalism, Shepherd Mead wrote the book on which the film, How to Succeed in Business Without Really Trying was based. This was also the birth of executive remuneration consulting.

Since then, the gap between ordinary employees and executives has grown ever larger every year. In the 1970s an executive was paid 30 times that of an average worker. Today it is 1000 times as much.

Stan Correy: Graef ‘Bud’ Crystal writes for Bloomberg Business News as their commentator on remuneration, or as the Americans say, compensation. The trouble with these consultants, says Crystal, is that they are not playing the game by the rules of a real free market. Managers should get performance pay according to what they did. But that’s not the system that exists. Bud Crystal knows, he used to be a compensation consultant himself, and is often a guest on prime time TV shows talking about business. Here he is on the Money Line show last month, introduced by Lou Dobbs.

Lou Dobbs: Tonight we examine how it is that CEOs have continued to grow rich even with corporate profits down and unemployment rising to what is now a nine-year high.

Bud Crystal: Your average American gets up every morning when an alarm clock rings, to put in a full day’s work. They earn a salary.

Man: The next person, please.

Bud Crystal: They probably don’t get a bonus, they probably don’t get a stock option and yet the CEOs, they’re the laziest slobs in America, because to get them to even get to the shower in the morning, you have to give them 100,000 share stock options.

Lou Dobbs: Meet Graef ‘Bud’ Crystal. After more than two decades as an executive compensation consultant, Bud had enough, and he believes so have America’s CEOs. Bud keeps a database tracking CEO pay. We asked him to share his thoughts on who are among the most overpaid.

Bud Crystal: Edward Whittaker, CEO of SBC Communications, overpaid. He’s received massive amounts of pay, I believe at one point $67-million in a single year, I clocked him at , for that, for delivering virtually nothing in the way of performance. Gordon Bethune, CEO of Continental Airlines, overpaid. He’s had all sorts of strategies he’s picked up to pay himself a lot of money, meanwhile of course we’re beating the hell out of our pilots and the Machinists’ Union and the flight attendants, you’ve got to pull in your belt, and you know, you can’t see his belt because he has such an enormous paid gut overhanging it.

Lou Dobbs: But Crystal does say there are …

Stan Correy: Bud Crystal himself began in the business of compensation consulting in 1959. He rose to the top of the profession. He was World Practice Director for Towers Perrin until he left in 1987, and has been a thorn in the side of the profession ever since. He knows everyone, including the flamboyant head of General Electric, Jack Welch. Welch was recently on a lecture tour of Australia. Packed meetings of Australian CEOs were eager to hear his words of wisdom about running a successful company. Welch warned them that public disquiet about the perks of executive pay was all a media beat-up, stirred up by shareholder activists wanting to stifle innovation.

Jack Welch: A lot of these stories now, I don’t know HIH I’d hope the over-reaction doesn’t stifle innovation in Australian small business.

Man: Jack has CEO pay got out of control.

Jack Welch: What do you mean by that?

Man: Has it disconnected so totally from normality, that’s it’s now not only absurd but counter-productive.

Jack Welch: Well stock markets …

Stan Correy: Welch didn’t talk about the perks he was shamed into giving up last year, perks that included General Electric paying for planes, apartments and flowers.

On the phone from Las Vegas, Bud Crystal.

Bud Crystal: Mr Welch is the perfect example here and it’s not about the perks, I mean that you can do a whole story on by yourself, but it’s about I’ve been a student of Jack Welch for years, I know him too, and every year, if you looked at the proxy statement, the report of the Compensation Committee of the Board, every year you had a piece of boiler-plate language, as it’s known in there, that said: ‘Under Mr Welch’s sterling leadership during his tenure of X’ you know add X as a number, add one each year to that number, ‘under his sterling leadership for; 20 years, 19, years, 18 years, whatever it was, ‘the aggregate value of the company as measured by the number of shares outstanding multiplied by the market price has risen since the beginning of his tenure by $300-billion’, while in the next year it’s risen by $325-billion, $350-billion, $450-billion, it keeps going up. Well, we got to the year 2000 and the Compensation Committee went through its usual boiler-plate, you know, it opened the document from the last year, where it said he’d been here 18, 19, 20, years they put 21, whatever the number was, and they now filled in the number and let’s say the number was $365-billion, and they put that in for the shareholders as justification for paying him a huge amount of money and they gave him a raise of 80% to a pay package if I remember, of from about $135-million or some enormous pay package, and I looked at that and I said, ‘Wait a minute, I want to just pull out the report from the preceding year.’  

And the preceding year says, ‘Under his brilliant leadership, the value of the company has increased $400-billion,’ I’m just using a illustrative numbers here, and this year the number is not $400-billion, it’s $365-billion. And you say, Wait a second, the value of this company has decreased by $35-billion, and that friends, is enough to buy the entire company of any company in the United States except the largest 11 companies, of which GE is one. It’s decreased by an astounding $35-billion and is Jack Welch’s pay dropping? On the contrary, it went up about 80% in one year. And that’s what we have to contend with here.

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Stan Correy: One of the corporate kingmakers of remuneration consulting in Australia is John Egan. He’s worked in big firms, and is now an independent consultant, often called in by CEOs and Boards of the same company for advice. He admits he has to carefully manage conflict of interest.

HIH executives and Board members consulted John Egan. After the collapse of the company, Egan’s advice about how much to pay directors for chairing Board committees became part of the Royal Commission’s investigation. Egan’s advice wasn’t the issue, rather that one Board member had distorted his advice.

At his office in the seaside suburb of Manly, Background Briefing talked to John Egan about the difficulties of remaining independent.

John Egan: Well if you take any controversial request, I think one of the things that a remuneration consultant has to do, and I’ve been in this business for over 30 years, and I believe I am independent, and I can’t be influenced unduly if there is a particular demand, so I’ve taken a position in a couple of cases that have got a fair amount of public airing, where I wasn’t agreeable to the position of the Board or a Chief Executive might wish to take, and I stated it, so that I wasn’t intimidated by the request that ‘We want you to consider this proposition and we would seek your endorsement.’ I think you’ll find that many advisors won’t support something which is clearly inappropriate, if they’re given time to consider it. And I always request time.

Stan Correy: Egan has been right in the thick of many of Australia’s recent executive pay controversies. When AMP first hit trouble, and there were questions over the $12-million package given to former chief and star overseas import, George Trumble, it was called a reward for failure. No, says John Egan, don’t be outraged, it was reward for the risk of failure, and also for the possibility of being ousted from the job.

John Egan: The issue there us that, and it still exists, that when a Chief Executive signs up and particularly when a Chief Executive is attracted from offshore, they’re uncertain about the Australian business culture, they’re uncertain about the constituency and the stability of the Board that they’re going to work to, and one of the things that they demand and they have in the past received, and I think they will in the new term continue to receive, is risk mitigation, which is if they lose their position in their judgement not as a result of misbehaviour, there’s a serious settlement. If they also have rights to equity, but they’re not entitled to remain to receive the benefit of that, they’ll argue quite strongly that their rights to that equity shouldn’t be removed or shouldn’t lapse.

Now in the case of the AMP that you referred to, the discussions and the negotiations between the Chief Executive and the Board were resolved by an eminent lawyer as an external mediator, so the finalisation of that particular matter didn’t come to be resolved by a remuneration consultants, but it was resolved by an eminent QC because that is where detailed negotiations involving potential litigation are resolved.

Stan Correy: John Egan of Egan Associates.

In the executive remuneration debate, there’s always endless talk about transparency, accountability and d isclosure.

Let’s go back to July last year. Chris Cuffe was then Australia’s most powerful institutional investor. As scandals were breaking out all over the global stock market, Cuffe was interviewed by David Koch on Channel Seven’s Sunday Sunrise program. Cuffe called for greater transparency about executive remuneration, about those most complex of performance incentives, share options. What was annoying him at that time is that companies didn’t have to show or to use the technical term ‘expense’ options as part of the cost of running a company. In the interview, Cuffe is saying Boards need to be tough about disclosure of the cost of excessive executive pay.

Chris Cuffe: The heat’s back on the Boards to really look closely at what’s going on. So I think that’s very important . I think the other thing is it’s been talked about often, the accounting standards around disclosure of executive remuneration options in particular, there’s no doubt that that has to be looked at. The way things are reported there’s various different ways you can do things, but transparency is so key, people have got to know what’s going on.

David Koch: Should executive options as part of a remuneration package, be expense to the profit and loss rather than be stuck on the balance sheet?

Chris Cuffe: I think no doubt they should absolutely be expensed. They’re a cost to the shareholder, ultimately whether it comes through in a lower share price because it comes away, it’s out of the profit and loss, or whether it comes through the profit and loss, it doesn’t matter, it affects the shareholders, it should be expense. And really, it’s back to the point of accounts should be much simpler. They’re getting too complicated and we’re missing the point on a lot of things.

Stan Correy: Chris Cuffe last year. In February this year, Cuffe left Colonial First State to join the Packer controlled investment company, Challenger International. In his pocket a termination payment of $32.5-million. And his interest in transparency about his golden handshake evaporated when he moved to his new job with Kerry Packer, as this report from ‘AM’ in May, revealed.

Presenter: Our finance correspondent, Stephen Long reports.

Stephen Long: The law of the land requires companies listed on the Stock Exchange to reveal what they pay their top executives, unless, it seems, you run a company for the Packers and you’re name’s Chris Cuffe. This is what Mr Cuffe said yesterday when pressed about details of his salary.

Chris Cuffe: My remuneration will, as the scheme booklet says, I’m paid out of the responsible entity, CPH Management Limited, CPH Management Limited is not a listed entity, it’s got no requirement to do it, it doesn’t cost people any extra, that entity earns a management fee and that’s the part that’s paid out of a trust, so my details become irrelevant.

Stephen Long: In plain English, this means that Challenger International won’t disclose Chris Cuffe’s salary as Chief Executive, because in a strict legal sense, he doesn’t get one. Instead, his income is paid by a separate legal entity, CPH Management. But as far as Chris Cuffe’s concerned, what he gets paid is his business, and he wouldn’t be drawn on his $33-million payout from the CBA either.

Chris Cuff e: I don’t think I can answer much there. I enjoy working. Challenger is a great group.

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Stan Correy: Believing. That’s one of the major problems for corporate regulators dealing with executive pay. WorldCom, Enron, HIH, all had well-written corporate governance statements with well-worn phrases like pay for performance. But it didn’t work out that way.

The next idea is that annual General Reports will give not only the figures but also the rationale for executive pay packages. Fine, says Chris Hart, but it may not have the desired results.

Chris Hart: Well certainly I think we’ve got to turn around and say justify. If we all expect that this information will become public in some way, shape or form, now or in the near future, you do need to indicate the reason and rationale for why you are suggesting a certain level of remuneration. So yes, I would (be) more than happy to say that remuneration consultants are giving their views and their expertise and therefore justifying the levels of remuneration being paid. The trouble of course that we all talk about is we talk about a handful of very large numbers to relatively small number of personnel. Can I suggest that corporate governance and the disclosure of the remuneration in the annual reports has helped spur this, in the sense that it’s just voyeurism. What we’re looking at, the media has pumped it, in the sense of Let’s put it all out there. We’ve got it in annual reports, and then the executive say, Well me too. I mean why is Joe Blow down the street getting X and I’m only getting X minus Y? I want all of X thanks very much. And the whole disclosure arrangement has spurned the uptake of much higher levels of remuneration. You’ve got to understand that some of these things have been created by the governance debate in their own right.

Stan Correy: At the School of Business at the University of Sydney, John Shields says the argument that the governance debate is encouraging more excessive pay demands doesn’t stand up to critical scrutiny.

John Shields: The problem with that argument is that it’s a logical nonsense. It’s an argument that I notice was advanced by CBA CEO David Murray a month or so back, at least he was reported as doing that in the press, that the trouble with executive remuneration goes back to the disclosure requirements of the mid 1990s. Well the implication was that that was the first time that anyone outside of a company boardroom had any knowledge of the levels of remuneration being paid to CEOs. Of course that’s not the case. The remuneration consulting firms have been around assiduously doing salary surveys for 15 years at least prior to that. That information was certainly there, available to any company board that chose to make itself a client of any remuneration consulting firm that did salary surveys. There would have been absolutely nothing new in the weak disclosures in company annual reports that started in Australia in the later 1990s, so that’s a complete furphy.

Stan Correy: The next big thing is shareholder activism. The Federal government will soon announce changes in the corporate law to give shareholders more power to reject exorbitant pay packages. Shareholders include all sorts of small-time investors, but those with real clout are the big institutional investors such as the superannuation funds, and the private investment funds like Colonial First State. If shareholder activism is to work, the big investors need to avoid the same compromise culture that corrupted boards and directors.

Bud Crystal: The problem here is that the institutional investors in America, I mean you can’t expect much from a little shareholder who owns 10 shares, not to say that they’re stupid I don’t mean to suggest that at all, but who has the time to go spend two hours poring through the proxy statement and trying to understand how stock options work and how they’re valued and what the black -scholes model means and all that, it’s very technical stuff. But the institutions which own over 50% of corporate America do have the staff and the time and the talent to analyse the stuff. Now they have been sitting on their big fat you-know-what all these years and they have not taken on these companies. The reason in part, is because they’re compromised themselves. If you’re Fidelity, the huge mutual fund, are you really going to criticise a CEO of X company for making an obscene level of pay when you yourself are making an obscene level of pay? Because you have this problem of everybody being co-opted.

Stan Correy: Background Briefing’s Co-ordinating Producer is Linda McGinness. Research, Paul Bolger; Technical Operator, Jenny Parsonage. The reading from Alice in Wonderland by Lewis Carroll was by John Gaden. Executive Producer is Kirsten Garrett. I’m Stan Correy, you’re listening to ABC Radio National.