Top cats on a hot tin roof

WHEN the boards of Australia's largest companies front their annual meetings for their day of reckoning, they may find that their grey-haired armies of shareholders have an extra spring in their step.

AGM season, after all, is the one opportunity each year that mum-and-dad shareholders get to quiz the high-powered directors of the companies in which they invest.

Invariably, it is the self-funded retirees with their nest eggs at stake who attend in droves, vote on resolutions that boards put forward, and then adjourn to hobnob with directors over sandwiches and a hot cuppa. It is corporate democracy in action.

But this year is shaping up as an annual meeting season with a potent sting in the tail.

The non-binding votes on company remuneration reports, that until now allowed investors only a token protest at how much senior management and directors pay themselves, finally have teeth.

For the first time, shareholders will have the ability to force every single non-executive director to face re-election if 25 per cent of investors vote against the remuneration report for two years in a row, thanks to laws that took effect on July 1.

And as investors helplessly watch their nest eggs being smashed by falling global markets, they may be tempted to use it. After all, this is the most powerful weapon handed to them in 20 years of gradual reform that has peeled back the corporate veil on how and why boards and executives each year take home more money than most people will earn in a lifetime.

"Shareholders will say: 'We know it's tough, we understand it's tough, but should we be the only ones who hurt? You still get bonuses . . . whereas I only get my bonus when the sharemarket is performing well'," says Ann Byrne, the chief executive of the Australian Council of Super Investors, which advises their fund members on corporate governance issues.

Matt Williams, the head of Australian equities at fund manager Perpetual Investments, says the new "two-strikes" rule has had company chairmen hot under the collar and anxious about the potential consequences.

"This is really the hot issue, there's no doubt about it," he says.

Retail shareholders may fill the auditoriums at annual meetings but the real power often lies in the hands of major shareholders, including institutional fund managers like Perpetual. Companies are in constant dialogue with such heavyweights, conscious that without their support a share price, or an issue of stock to raise money, can be crushed.

As such, the outcome of an annual meeting vote (and even what appears on the agenda) is often decided well in advance of the event through proxy votes cast by institutional investors.

Williams welcomes the rule change, and says it will help boards focus on structuring a pay deal that aligns management more closely with shareholders.

"I think this whole concept has been brought in because of the perception that this alignment [of executive remuneration and shareholder interests] has gotten out of whack and I think there's a fair basis to that assessment," he says.

COMPANIES may be bowing to demands for greater explanation and justification, but executive pay increases still seem to be running at rates higher than inflation.

A BusinessDay analysis of company reports filed in recent months by most of the country's 100 largest companies shows that the median increase in base pay for chief executives in the latest financial year was about 9 per cent up from $1.47 million to $1.61 million.

Add in short-term cash bonuses, and the cash-in-pocket rises to $2.61 million, up 5 per cent. Total remuneration which includes notional valuations of long-term share-based rewards showed a median decrease of 1.3 per cent, from $3.57 million to $3.52 million in the latest financial year.

While executives may never receive some of those shares if they fail to clear certain performance hurdles, the fall in value is more a reflection of falling share prices than less-generous grants to the executives.

The BusinessDay analysis differs from the annual ACSI chief executive pay report in that it excludes superannuation, long-service leave and miscellaneous perks (for example, the use of a private company jet) disclosed in annual reports.

ACSI's report last year found the median fixed pay of chief executives rose from $1.81 million to $1.82 million a 131 per cent increase in the past decade. And according to ACSI, only 10 per cent of chief executives failed to take home a bonus last year.

Commonwealth Bank's Ralph Norris, vilified last year for his record $16.16 million pay in a year when the bank upped home mortgage rates beyond Reserve Bank increases in official rates, saw his total pay fall to $8.64 million this year.

This means the mantle of highest-paid chief executive has reverted to shopping centre mogul Frank Lowy (see Page 10).

The Westfield chairman, who stood down as chief executive in May to make way for his sons Stephen and Peter, took home $15.96 million, comfortably topping the list ahead of Rio Tinto's Tom Albanese, who pocketed #8.36 million ($A12.75 million) and ANZ's Mike Smith ($10.86 million). BHP Billiton's Marius Kloppers earned $US11.63 million ($A10.84 million). Westpac's Gail Kelly ($9.59 million) rounds out the top five.

In some cases, executives further down the pole than the chief executive have reaped the rewards of turning an operation around such as Coles supermarkets chief Ian McLeod, who, with $15.63 million, picked up more than twice as much money as his boss, Wesfarmers chief executive Richard Goyder ($6.94 million).

And yet few could rival the golden handshake offered to 34-year Leighton Holdings veteran Wal King, whose severance package could rise to $30 million, including a retirement benefit of $12.6 million and nearly $16 million in various consultancy, non-compete and transition bonus payments.

Leighton will also have to dole out several other seven-figure payouts to other senior executives who have left during the year, including King's successor, David Stewart, who departed suddenly after only eight months in the job.

This, and the company's poor financial performance this year, has led some proxy advisers and analysts to predict Leighton will come close to receiving a "strike" against its remuneration report, despite German majority shareholder Hochtief now controlled by Spanish construction giant Grupo ACS holding 54 per cent of the votes.

The BusinessDay executive remuneration analysis, which takes in the pay details of more than 60 chief executives (some are yet to file annual reports and others were excluded because they either left or were appointed part-way through the year), indicates a growth in short-term cash-based remuneration as a proportion of total pay, possibly reflecting a "rebalancing" of pay as executives fail to meet their hurdles for long-term incentives due to poor earnings or share-price performance.

"There has been a slight trend in balancing the pay mix of some companies, either increasing fixed or reducing long-term incentives or just increasing the short-term element," Aaron Bertinetti, a director at proxy adviser CGI Glass Lewis, says.

Williams says this often happens when it becomes apparent that bonus hurdles are too hard to achieve, either through management's fault or in tough economic times.

"You do see on occasion the goalposts get shifted by some remuneration committees [on boards] to make it easier for management to achieve short-term [bonuses]," he says.

Bertinetti says high short-term bonuses have been a prevalent concern, particularly in the listed-REIT (real estate investment trust) sector.

Under pressure from fund managers ahead of its annual meeting this month, Stockland this week announced it would undertake a "comprehensive review" of its executive remuneration policies, which will see managing director Matthew Quinn's short-term bonus paid in shares rather than cash, and deferred over several years.

Bertinetti says short-term bonuses are also inappropriate for companies with a long-term investment horizon, such as miners and banks.

"We need to apply a lot of scrutiny on capital-intensive companies," he says. "I think short-term bonuses in retail probably make sense, but not in some of the other [sectors] where you're investing billions of dollars over five to seven years in some cases."

Williams says an adequate earnings-per-share hurdle combined with a return-on-capital measure for bonuses would ensure executives are appropriately motivated to strike the right balance between growth and shareholder return.

"We've seen many instances where companies just manage for the short-term profits, and the executives get their money and, lo-and-behold, they're out the door," he says. "And the next management comes in and realises the business has been underinvested in and for short-term profitability.

"You see that too much and I think that's a key issue for boards at the moment."

YOU may get two strikes before you're out, but company chairmen are desperate to avoid the ignominy of receiving even one.

Predictably, the move has many corporate heavyweights up in arms, galled by the audacious prospect of losing their board seat so swiftly after earning it through decades of senior management experience.

After receiving a first strike, the following year's notice of annual meeting will automatically include a so-called "board spill" resolution. If a second strike is recorded, shareholders will vote to consider whether they will convene again within 90 days to depose the board.

Critics of the two-strikes rule say the possible consequences of the vote would deter major shareholders from casting a vote against the remuneration report for fear of causing instability and damaging the share price in the short term.

"I think a common concern is that it leads to unnecessary board instability," says Will Moncrieff, a corporate governance expert at Perth law firm Jackson McDonald. "It's using a sledgehammer to crack a nut."

But worse still, Moncrieff adds, the rule could result in some unintended and unsavoury outcomes, with some major shareholders potentially able to use a threat of a board spill to hold the company to ransom.

Bertinetti agrees that large shareholders could wield too much power in some cases.

"A concern for us and our clients is how those substantial shareholders and cornerstone investors particularly sovereign wealth funds from overseas will use that new power," Bertinetti says.

Bertinetti argues the old non-binding vote was actually quite effective. He points out that even when a remuneration report was voted down (by a majority of more than 50 per cent), it was very rare for shareholders to then vote more than 10 to 15 per cent against a relevant director at the same meeting.

"So the reality is [that] institutions always had the power to hold directors accountable for remuneration practices, but they haven't actually exercised that power."

With the stakes higher, Della Conroy, a remuneration consultant at big-four advisory firm PricewaterhouseCoopers, says there has been a big move by boards to ensure greater transparency over why remuneration decisions were made, and a bigger effort to communicate those decisions to major shareholders.

She says the extra care has meant "a number of remuneration reports redrafted several times" but that the increased focus has developed over several years due to requirements from the Australian Securities and Investments Commission and reviews by the Productivity Commission and the Corporations and Markets Advisory Committee.

"This year more time has been spent on [remuneration reports], but again I think that's an evolutionary thing rather than a simple reaction to the two strikes," Conroy says.

Bertinetti, however, believes it has dominated the consciousness of company directors tasked with developing remuneration policies.

"I think it's pretty front and centre [of their minds], unfortunately," he says. "I think that's its the biggest downfall of the law."

"The two-strikes rule has basically added much more bite to remuneration so that even more time is being spent on this issue and, dare I say it, probably at the expense of more important issues."

But Perpetual's Matt Williams says executive remuneration is paramount as it goes to the heart of corporate culture and how a business is run.

"I think it's fundamental to how managements will behave," he says. "What gets rewarded will get done, I guess."

10 BEST-PAID CHIEF EXECUTIVES

Westfield

Frank Lowy $15.96m*

Rio Tinto

Tom Albanese $12.75m*

ANZ

Mike Smith $10.86m^

BHP

Marius Kloppers $10.84m

Westpac

Gail Kelly $9.59m^

Macquarie Group

Nicholas Moore $8.69m

CBA

Ralph Norris $8.64m^

Woodside

Don Voelte $7.77m*

NAB

Cameron Clyne $7.73m^

Crown

Rowen Craigie $7.71m

* YEAR ENDING DEC 31 2010 ^ YEAR ENDING SEP 30 2010

SOURCE: COMPANY REPORTS

COMPANIES TO WATCH THIS AGM SEASON

Companies that received large votes against remuneration report in 2010

Challenger 70%

Paperlinx 66%

Transurban 58%

Boart Longyear 57%

Billabong 54%

Straits Resources 53%

Graincorp 49%

SOURCE: AUSTRALIAN COUNCIL OF SUPER INVESTORS

HIGHEST BASE-PAY 2010-11

CBA Ralph Norris CEO $3.32m

Wesfarmers Richard Goyder CEO $3.17m

ANZ Mike Smith CEO $3m*

Crown Rowen Craigie CEO $2.98m

Westpac Gail Kelly CEO $2.68m*

NAB Cameron Clyne CEO $2.67m*

Woodside Don Voelte CEO $2.56m*

CSL Brian McNamee CEO $2.5m

Orica Graeme Liebelt CEO $2.32m^

Newcrest Ian Smith CEO $2.3m

BIGGEST CASH BONUSES 2010-11

Westpac Gail Kelly CEO $2.83m

Orica Graeme Liebelt CEO $2.72m

Macquarie Group Nicholas Moore CEO $2.7m

Woolworths Michael Luscombe CEO $2.55m

ANZ Mike Smith CEO $2.5m

Tabcorp Elmer Funke Kupper CEO $2.47m

Transurban Chris Lynch CEO $2.46m

UGL Richard Leupen CEO $2.44m

Toll Paul Little CEO $2.35m

Stockland Matthew Quinn CEO $2.2m