Clarity in Remuneration Reports: Common Problem Areas

Remuneration reports convey an enormous amount of information to shareholders and it’s important that they are as clear as possible. Egan Associates identifies some common problem areas we encounter during our data collection and analysis.

Fixed remuneration

The simplest part of executive remuneration, this information can rarely be misunderstood in the remuneration report.

  • Position changes

One potential problem area is when there is uncertainty as to when an executive began or ended a role, or whether the remuneration disclosed relates to just one or multiple positions.

One example of where starting and finishing dates might trip up a data entry team comes from the Australia and New Zealand Banking Group. It included 15 months of remuneration in the 2015 year for former Business Group head Phillip Chronicon, as the executive finished his role before the end of the financial year but remained employed by the company until the end of the calendar year.

Although this mode of disclosure provides an overview of Chronican’s payments for his last months at the company, if the unaltered figure from the statutory table is used as an annual figure for benchmarking purposes, it will skew the data upwards. In order to obtain an annual figure, it is necessary to read the note under the statutory table, which states that Chronican’s fixed annual remuneration was $1.3 million for 2015.

  • Benefits

One potential exception to the general clarity of fixed remuneration is the disclosure of benefits. While some companies disclose what is included within this column, not all do. This information can be important, because one off payments for events such as relocation will often skew remuneration upwards and may require to be removed for analysis.

Short term incentives

Disclosure of short term incentives is where most issues arise. There are numerous areas where uncertainty can surface.

  • Alignment of remuneration disclosure with performance period

One fundamental issue is whether the disclosed STI relates to performance in the financial year of the annual report or the prior performance year. Many companies now disclose the amount of cash STI that an executive has earned via the performance in the current financial year, regardless of the fact that payment will actually occur slightly after the financial year has completed. Other companies disclose the cash STI in the year it is paid. In some cases, bonus payments from prior years may also be included.

For example, Premier Investments made cash STI payments to two of its executives, according to the statutory remuneration table.  A note pointing to another page discloses that part of the CEO’s payment was for performance in the 2014 year and part for performance in the 2013 year.

If attempting to compare performance in the current financial year with disclosed short term incentive payments, this approach is problematic. Egan Associates believes short term incentive payments should be disclosed in the financial year to which the performance relates.

  • STI Deferral

The disclosure of STI deferral is extremely problematic. While cash STI is often now disclosed in the performance year it relates to as noted above, the number of deferred STI rights or shares granted is generally not disclosed until the following financial year.

This is because the company will not know how many shares are to be granted until it has the share price grant date or the volume weighted average share price leading up to grant date. These grants can occur up to three months after the end of the financial year.

Yet, even if it is impossible to provide the number of shares to be deferred, the value of the award to be deferred is generally known as it is most often a proportion of the cash award.

Some companies disclose “actual remuneration” in a separate table to the statutory remuneration table, or provide a table of STI outcomes including the value of the STI to be deferred, or the total value of the STI earned (from which the value of the deferred STI can be calculated).

Unfortunately this is not always the case, as there is no standard for disclosing “actual remuneration”. Some organisations will provide the STI earned for the year’s performance, while others will provide the value vesting in the year. Reading the notes is imperative.

Where the value of the deferred STI is unclear but the value of the cash STI is known, it is often possible to calculate the value of deferred STI by finding the ratio of STI cash to STI deferred, and then using that ratio to calculate a share value from the STI cash amount.

Difficulties arise where it is not clear what the ratio is.

In some cases STI is only deferred once a target level of performance is reached, so it is necessary to know what the target STI for each executive is. This information is not always available.

Another example where it is difficult to discover the ratio that is deferred comes from Macquarie Group. This company defers a portion of the profit share provided to executives, of which a portion is invested partially into shares and partially into notional Macquarie managed fund equity. The report also does not exactly disclose the portion deferred or invested on a per executive basis, as can be seen below.

Macquarie Group STI

Further difficulties regarding the actual deferred STI value arises where, in a small minority of companies, rights are allocated at a discount to the prevailing share price using a Fair Value methodology.  Additional variability arises in relation to the method and timing of delivering dividends on deferred security awards.

In rare cases the amount of STI cash paid is difficult to find. For example, the CSR statutory remuneration table combines the STI cash and deferred payments into one column.

CSR Statutory remuneration table

Luckily, the company also provides an actual remuneration table disclosing the total STI earned for the year.

  • Unusual Deferred STI plans

The comments regarding the calculation of the value of STI deferred are only relevant when the amount of STI cash and equity is linked.

Some organisations grant STI equity at the beginning of the performance period with vesting subject to the achievement of agreed performance conditions. In this case, it is difficult to determine how much the executive has earned in the year unless the company explicitly states how many shares were granted at the beginning of the year and forfeited at the end of the year given performance during the period. This adds a further calculation challenge in determining the award value which will reflect the share price at the date of vesting.

Even if organisations manage to navigate the above issues, it’s always possible to find complexities. Coca Cola Amatil, for example, currently only discloses the percentage of “post-tax” remuneration that is deferred, which is difficult to determine.

 Long Term Incentives

Understanding long term incentives can be less of a minefield than examining short term incentives, although they can be complex depending on how tailored the plan is for the organisation’s situation.

If investors are interested in the actual amount of remuneration that is vesting from long term incentive plans, they are dependent on the voluntary actual remuneration disclosures of organisations unless they are willing to do some calculations using information from different sections of the annual report.

Egan Associates is generally interested in the LTI opportunity – that is the value of long term incentive an executive is granted at the commencement of the performance period. This information is generally readily available by examining the number of securities granted or utilising information on the remuneration mix.

  • Fair Value

One area that is often ambiguous is how the number of securities that will be granted is calculated. In most cases, companies now calculate the number of rights (the most common security granted) to be granted using the face value of the shares. Some companies will still use fair value to calculate the number of securities granted, inflating the share value allocated. This will not always be clearly declared in the annual report.

  • Ambiguity between incentive plans

Another problem area is where long and short term incentives share the same equity instrument and/or plan and the organisation has not stated which grants relate to the short term incentive plan and which relate to the long term incentive plan.

For example Brickworks (which issues shares for both its deferred short term incentive and its long term incentive under the one incentive plan) has not specified in the following table which shares were granted for short term performance and which were granted as a long term incentive.

Brickworks grants

  • Exercise price

Some organisations do not provide the exercise price for their options, an important piece of information that indicates how difficult the implicit share price hurdle is.

  • Statutory LTI

Although statutory LTI disclosures neither present the amount the executive is granted nor the amount that vests to them during the year, they can be useful under certain circumstances. Yet, even in this disclosure governed by accounting standards there can be some uncertainty.

For example, Infigen Energy does not distinguish in its statutory table between the fair value of its LTI and STI Deferred, only between cash and equity-settled incentives.

Remuneration Mix

The disclosure of the remuneration mix (the proportion of the remuneration that comprises fixed remuneration, short term incentives and long term incentives at target and maximum performance) has been improving since Egan Associates raised the issue a number of years ago, however there are still some issues.

  • Incomplete disclosure

Sometimes only the target level of incentives is provided and sometimes only the maximum. On occasions neither is disclosed. In cases where an uncapped profit share arrangement is in place there will be no maximum, however in all other cases these should be disclosed to provide shareholders with information on executives’ remuneration opportunity.

  • Confused disclosure

There are still some companies that are confusing target and maximum. Generally, target remuneration levels are paid where performance matches the company’s annual plans and budgets. The maximum payout is achieved where performance substantially exceeds expectations.

An example of confusion between target and maximum comes from Eclipx Group. The table below notes that the maximum STI opportunity for CEO Doc Klotz is $850,000. The table also notes that the target STI is 100% of fixed remuneration and that the STI earned for the 2015 year was 100% of target.

Eclipx STI

When examining the statutory remuneration table, it states that the STI paid was $850,000. Examining this information would lead to the conclusion that the target and the maximum are the same.

  • Fair Value

Some organisations use the fair value of the long term incentive in their remuneration mix, which may give investors a false impression of the size of the executives’ remuneration opportunity. South 32 uses fair value in the calculation of LTI for its target remuneration mix, but clearly discloses this fact.

Click here for more information on these topics.