BP PLC Remuneration Policy – ShareSoc’s comments prior to the AGM

In preparation to BP’s AGM tomorrow (17th May 2017), ShareSoc’s Remuneration spokesman has prepared this post on the company’s remuneration policy and many other issues.

Overall, the changes proposed by the Company,should be considered positive.

The discontinuation of the matching share awards and simplification is particularly welcomed, as is the downward discretion applied by the remuneration committee during the year to reduce pay. However, even after the reduction Dudley’s aggregate incentive forward-looking opportunity could still be deemed to be excessive at 725% of salary.

I have commented with more detail (available to full members of ShareSoc) in the Remuneration Forum: http://sharesoc.ning.com/xn/detail/6389471:Comment:43625 . Full members will also find the Manifest reports referred to below at that location.

Comments by Cliff Weight, ShareSoc Director and Remuneration Spokesperson. Disclosure: Cliff Weight is also a non-executive director of Manifest, the global governance experts.

Pearson Pay Vote Lost

Shareholders in Pearson (PSON) yesterday rejected the Remuneration Report on a vote at the company’s AGM. That was by 61% opposed to 32% supporting with 6% abstaining. But they approved the Remuneration Policy.

Opposition to the Report seemed to be based on the fact that CEO John Fallon achieved a 20% rise in total pay despite a record loss and several profit warnings.

However the share price rose on the day substantially by 12% perhaps because of a positive first quarter trading statement issued in the morning in certain areas, although the overall 2017 outlook guidance was unchanged.

What is puzzling is that the remuneration votes at Rolls-Royce the previous day were passed with ease, where there were similar negative comments by ShareSoc, some proxy advisory services and the media on the bonuses achieved by CEO Warren East even when underlying profits fell substantially. See my previous blog post for more information. Why did that revolt turn into a damp squib, when it was just as justified as the opposition to pay at Pearson?

Is this simply the perversity of institutional voting, better communications from the company or was there some other specific reason?

Roger Lawson

Rolls-Royce – Audits Investigated and AGM

Yesterday (4/5/2017) I attended the Rolls-Royce (RR.) Annual General Meeting in Derby. In former years they used to hold the meetings in London but it’s been Nottingham and Derby the last couple of years. As a result, from talking to a few attendees it seemed to be mainly Rolls-Royce employees and retirees attending rather than the normal private investor crowd. The choice of venue may of course be deliberate so as to achieve a more sympathetic audience.

But the story promoted by the company is much the same – orders up, sales down and profits down, but the company says it has a bright future in summary. In the last year we have also had the settlement of past bribery in the company, and the issue of needing to change their revenue recognition on maintenance contracts (these issues have been well covered in past ShareSoc blog posts). In addition there was a massive reported loss arising from foreign exchange hedges being revalued.

The same day it was announced that the audit of the company’s accounts by KPMG in 2010-2013 are to be investigated by the Financial Reporting Council. Which seems very appropriate bearing in mind what was disclosed at the AGM.

Here is a brief summary of what was said by Chairman Ian Davis and CEO Warren East, and what I said in the Q&A session (not verbatim – summarised for brevity) . There is a fuller report on the ShareSoc Members Network:

Ian Davis confirmed the outlook for 2017 was unchanged – a trading statement was issued in the morning which said trading was in line with expectations but that profit and cash flow would be weighted towards the second half of the year. Cost savings were given as being “on-track” and the company priorities includes continuing to “rebuild trust and confidence in our long-term growth prospects” which is a clear admission that investors had lost faith in the company. The share price has improved over the last few months but it’s still considerably lower than it was back in 2013-2015.

Mr Davis said he was impressed by Warren East’s building of his management team, and that the long-term prospects for the company remain outstanding. The order book has grown to £80 billion.

After that short presentation, Warren East spoke at more length. He said that 2016 was a year of stabilisation and was a great foundation for moving forward. Underlying revenue was down slightly but underlying profit was down significantly [49% down in fact]. He explained the large “headline” fall in profits has being due to derivative contract revaluation. But he did say that underlying profit (which excludes derivative charges) fell due to significant headwinds in the civil aviation business. However they have grown the wide-body engine market share from 30% to 50%. There was a once in a generation transition to more efficient engines. The launch costs will decline and the installed base will grow.

They are losing mid-range and corporate jet market share, and defence is still a challenging market. In power systems there was a stable performance and the installed base grew. Marine suffered from extreme weakness due to a dearth of orders for new vessels and servicing. There have been major job losses. In nuclear there had been some investment in the development of small modular reactors.

Mr East continued by saying they had invested a lot in 2016 in R&D, in assets and in operational excellence. But they had not forgotten cost control. He said investors were now more confident in the company now – hence the improvement in the share price. They have restored trust in the company.

Mr East then talked about the new management appointments and said they still need to follow through on strategies set in 2016 while also thinking about the future.

He explained the deferred prosecution agreement over the bribery allegations (£671 million in fines, plus an obligation to change their behaviour). There had been extensive action within the business to change policies in this area.

I covered a number of issues when questions were invited:

1) I questioned whether the former management (e.g. the CEO) should be subject to clawback on bonuses because of the bribery and other issues. The answer given by Ruth Cairnie (Chair of the Rem Comm) was that the management who were involved in the bribery scandal had lost all their bonuses and options and that clawbacks had been introduced. But the Chairman said that the former CEO knew nothing about the matter at the time. Incidentally there was an amusing comment from Matthew Vincent in the FT today which was “All of this prompts the question: which euphemism did Rolls-Royce use for the £100,000 or so it spent on a Silver Spirit car to indulge the automotive appetites of an Indonesian intermediary? Miscellaneous travel?” That question was directed at KPMG but it might just as well be directed at the former CEO surely.

2) I suggested a shareholder committee would perhaps help Rolls-Royce deal with the various problems they faced.

3) As regards the accounting change to future maintenance, which had been explained away as a “technical accounting issue”, I said that it was not just a technical matter but a question of prudence. In my view it was not prudent to recognise future sales and profits in the current year. And it was certainly not clear in the past that this dubious accounting treatment was being used.

4) I also commented negatively on the complexity of the Remuneration Policy. Ruth Cairnie said it had been simplified but I pointed out that the maximum salary multiple in the LTIP had actually been increased. I spoke to Ruth at some length after the meeting on remuneration. I pointed out that such LTIPs result in enormous payouts at companies like Persimmon and Berkeley Group (WPP is another example incidentally) and that a recent Commons Committee said they should all be scrapped. She responded that they had to pay a competitive “package”. I agreed with that but said it would be better to have a higher fixed base salary and do away with LTIPs, or pay bonuses in cash or shares annually. There was no incentive provided by LTIPs as anyone familiar with business management would know – rewards for good performance need to be made soon after achievements. I also said to her that if public companies did not reform their attitude to pay and the levels they considered appropriate that the Government might take a hand. I did say to her that it was her responsibility and she could do something about it. She did not seem happy with my comments but reiterated the usual stance about having consulted all their major investors. Indeed they did achieve 95.6% support on the Remuneration Policy vote and 98.7% support on the Remuneration Report vote.

It was only a moderately useful meeting to attend. As in previous years, treated more like a PR exercise for company pensioners than a serious meeting for investors by the Chairman. Bearing in mind that the Chairman has been Chair of this company for several years, it surprises me that he is still there when the company has had so many problems on his watch. I would certainly prefer a new Chairman. Matters such as remuneration tend to be driven by the Chairman and his response to criticism of any kind is not helpful. But he still got 99.5% of votes to re-elect him. Surely an example of how corporate governance by institutions tends to be brain-dead. The votes on remuneration also demonstrate a pathetic response to the pay issue.

In essence the old problems are still there. Orders going up, but sales falling, i.e. orders not able to be delivered and turned into cash. They need to start using a different measure of likely future business. With such a large and complex business, it is difficult to say yet whether Warren East has really got to grips with reforming the company. We will have to wait and see.

Meanwhile there was a good editorial in the FT on how the defects in auditing at companies such as Rolls-Royce “highlight the failure of the accountancy profession and its regulators to resolve in the intervening 15 years [since Enron and the demise of Arthur Andersen], the fundamental question of how far auditors should be expected to go in their efforts to uncover bad behaviour”. One cannot but agree with that and with their view that 4 major audit firms is not enough to ensure competition and that it tends to encourage cosiness between auditors and their clients. But there are surely more substantial reforms necessary to really improve auditing standards which the profession itself seems to not accept as being required in any way.

Roger Lawson

A General Election – What Should Be In the Manifestos?

There is to be a General Election on the 8th June in case you have not heard. That has the unfortunate consequence on freezing Government business, with the prospect of changes of Ministers thereafter. Any formal consultations – for example on improved Corporate Governance and remuneration restraints – will be deferred. So the key question now is what would we like to see in the manifestos of the leading political parties? Here’s my list:

  1. A commitment to ensure that private shareholders in nominee accounts are fully enfranchised by changes to the Companies Act and a low cost “name on register” system mandated to be provided by all brokers with specific warnings about nominee accounts.
  2. The mandating of Shareholder Committees to improve Corporate Governance and ensure there is more restraint on pay. In effect return some more control on some matters to the owners of public companies, namely the shareholders.
  3. To cancel the proposed changes to dividend taxation and stop the double taxation of company profits (i.e. revert to the tax credit system) and properly index link capital gains taxes.
  4. To stop the proposed changes to Probate Charges so they more properly reflect the service being provided. It should not be turned into a tax, i.e. a fund raising measure to subsidise other Government legal services as recently proposed.
  5. To reform the insolvency rules so as to stop the abuses arising from Pre-Pack Administrations and ensure administrations are not just about protecting the interests of bankers.
  6. To improve the oversight of the auditing profession and strengthen the FCA and SFO so that frauds and false accounting are vigorously pursued. To ensure that companies and their directors are also accountable to shareholders by reform of the Companies Act and removing the Caparo judgement from law.

Now that would be a manifesto that would get my support, and no doubt that of many other people. It is of course very much the manifesto adopted by ShareSoc when it was set up – see http://www.sharesoc.org/ShareSoc%20Manifesto.pdf, and other issues have been covered by our campaigns on Shareholder Rights, Remuneration and Shareholder Committees. But progress on achieving our aims do date has been slow. Here’s a good opportunity to move them along.

Roger Lawson

BP – Pay Cut or Downward Discretion

I seem to be spending a lot of time talking about pay at companies of late. It would be better if we could concentrate on more important matters, like their strategy, the lack of productivity in UK companies, how they are revising their plans to cope with Brexit and exchange rate changes, and all those other matters that affect shareholder returns. But it seems everyone wants to talk about pay. So here’s the latest story.

The BP Annual Report has been published and the Remuneration Report shows that the CEO, Bob Dudley, had his pay reduced by 40% last year. That was after a revolt at the AGM last year where there was a majority of shareholders against the Remuneration Report, albeit only an advisory vote. That followed a pay rise for Mr Dudley after horrible financial results in 2015.

The Remuneration Committee have “exercised downward discretion” to reach their decisions on the pay cut, which as Matthew Vincent in the FT has pointed out is a major innovation in the invention of a new euphemism by BP. Let us hope other companies also find it a useful new paradigm.

But even after the reduction, Mr Dudley still received total single figure remuneration of $11.5 million last year.

For 2017 a new Pay Policy will be voted upon at the AGM. The basic pay of Mr Dudley will be unchanged at $1.85 million. But it is proposed that there will also be an Annual Bonus of up to 225% of salary, and the award of Performance Shares (a form of LTIP) of up to 500% of salary. So despite the suggestions of some simplification, this is in essence yet another complex formula with many different measures of performance in use and which could result in total pay of over $15 million. And that’s excluding other “benefits”.

The Chair of the Remuneration Committee, Professor Dame Ann Dowling reports “substantial engagement with shareholders during the year”, and with proxy voting agencies. That’s sixty eight meetings or telephone calls in all. But did they consult private shareholders? Not so far as I am aware.

So the outcome which we are being asked to vote on at the AGM on the 17th May in London is hardly a revolution at all it appears to me. A lot more work clearly remains to be done to simplify and reduce pay at major public companies it seems to this writer. More “downward discretion” must be exercised to put it bluntly!

Roger Lawson

Perverse LTIPs and Alliance Trust (ATST)

To follow up on my previous blog post on the subject of the BEIS Committee report which recommended scrapping LTIPs, another example of a perverse consequence has just come to my attention.

We know that LTIPs at WPP and Persimmon are enabling directors to receive bonuses worth not just millions, but tens of millions of pounds. This is partly because of the unforeseen consequences when shareholders voted in favour of the schemes that will end up awarding such amounts. Another example is at Alliance Trust.

In February 2016, CEO Katherine Garrett-Cox left the company after a revolution prompted by Elliott Advisors and supported by ShareSoc – or to put it more politely, she was made redundant as her job disappeared after a restructuring of the Trust. Under her leadership the Trust had underperformed in comparison with its peers and there was a general view that she was overpaid and her strategy for the company had proved to be unsound – at least that is what many shareholders felt.

But both Katherine and former CFO Alan Trotter, who departed in 2015, were the beneficiaries of an LTIP scheme and as they were classified as “good leavers”, being made redundant, they will still receive the benefits of those LTIPs. According to the latest Annual Report for the company, not only will awards vest in 2017, but there will be a further vesting of shares in 2020.

So in 2020, Katherine could receive a maximum award of 400,985 shares (worth over £2.7 million at the current share prices let alone what they might be worth then). Alan Trotter could likewise receive up to 139,121 shares.

The share awards are subject to performance conditions, namely based on relative TSR and NAV performance to a peer group. But even based on median performance they would achieve 25% of the maximum bonus.

But why should executives receive such bonuses long after they have left the company and when they can have had little impact on the fund performance outcome by 2020? In reality the improvement in the performance of the company, assuming it continues, is surely the result of the changes made by their successors as directors so as to rectify the past strategic mistakes.

So this is a typical example of the perverse consequences of complex LTIPs where people vote for schemes that have unanticipated outcomes and where the duration over which they run leads to these unusual results.

So I welcome the call by the BEIS Committee to scrap LTIPs. Although encouraging a long-term approach to incentives is sound, and using share options with required holding periods is one alternative approach, the sheer magnitude of the bonuses is clearly a problem. And when employment is terminated, even when those departing are treated as “good leavers”, options should crystallise so that those departing cannot benefit from the work of those remaining.

The previous blog post on the proposals of the BEIS Committee is present here: https://sharesoc.wordpress.com/2017/04/05/hard-hitting-beis-report-on-corporate-governance-and-pay/

Roger Lawson

Hard Hitting BEIS Report on Corporate Governance and Pay

The BEIS Commons Select Committee have today published a strongly worded report on Corporate Governance after its recent hearings on the subject. Here are some of the key points they make:

  1. They agree with the Prime Minister that high levels of executive pay need to be tackled “for the benefit of society as a whole”. They forcefully recommend that Long Term Incentive Plans (LTIPs) should be abolished as soon as possible because they create perverse incentives and are often a way to conceal high headline pay levels. They suggest pay structures should be simplified and deferred stock options should replace LTIPs.
  2. They support the “comply or explain” basis of the UK Corporate Governance Code but they wish to see some changes made to it so as to improve shareholder engagement and make non-executive directors more accountable plus more powers be given to the FRC so as to assist. They are concerned that Section 172 of the Companies Act which concerns the obligations of companies to their stakeholders is being ignored. They think boards should be required to explain how they have considered the issues.
  3. They came out in favour of “Stakeholder Panels” to assist boards and improve engagement. This is somewhat disappointing when ShareSoc has suggested Shareholder Committees would be better (they mention the actions by ShareSoc and UKSA in respect of RBS). Stakeholder Panels are a very watered down version and in our view are not likely to prove effective in influencing boards although other witnesses supported them. Interestingly they mention that several witnesses mentioned the possibility of “digital engagement via online forums” which would be a novel approach.
  4. They do not directly support having workers’ representatives on boards although they do suggest that employees might be considered for the roles of Non-Executive Directors, and that employee representatives should be appointed to Remuneration Committees.
  5. They support the publication of annual pay ratios, but they are opposed to the introduction of annual binding votes on pay simply because past experience of such votes does not suggest they would be effective in controlling pay. However, they do suggest that a binding vote on pay be invoked in the following year if more than 25% of votes are cast against the Remuneration Report (presumably in addition to the three yearly binding policy vote already present). They also suggest a rule that the Chairman of a remuneration committee be required to resign if pay proposals do not achieve the support of 75% of shareholders.
  6. They suggest more disclosure is made about advisors engaged by companies and their pay.
  7. They propose that the appointment of new directors be explicitly done by open advertising or the use of external search firms rather than the currently common “informal” which is surely a positive move and in accordance with ShareSoc’s recommendations.

My personal comments: In summary they are not proposing any radical reforms to the whole approach to UK corporate governance, but they are putting forward some significant improvements. But they are proposing more reporting and more FRC regulation so bureaucracy will be increased further which may not be helpful and will certainly add to costs. In addition the use of “Stakeholder Panels” would add to the corporate governance burden while how they would operate and their benefits is not actually very clear. They could just turn into “talking shops” with no real impact on the behaviour of directors or influence over their recruitment.

But the scrapping of LTIPs and the other proposals on remuneration are certainly positive recommendations.

They unfortunately failed to tackle one reason why votes on pay have not been as effective as hoped. Namely that private shareholders are mainly disenfranchised and do not vote. In addition fund managers do not represent the views of their underlying beneficial owners in the funds they control.

No doubt there will be formal public consultations on these proposals if the Government adopts the Committee’s recommendations, to which ShareSoc will respond. So if you have any comments on them, please let us know by adding your views to this blog post.

The full report of the Business, Energy and Industrial Strategy (BEIS) Committee is available here: https://www.publications.parliament.uk/pa/cm201617/cmselect/cmbeis/702/702.pdf . It’s well worth reading.

Roger Lawson