The Firm | Board Practice | Strategy Practice | Diversity| Current Trends |In Pictures |Contact Information

 

 



Short term priorities amongst investors and the current corporate governance regime, is confining chief executives to plucking low hanging fruit and enabling them, to be content with it.

Hedge funds, which hold stock for weeks and months rather than years, have no interest in a company investing for the medium to long term. They would much rather a chief executive produce a blip in the share price by superficial tinkering, than invest time and money in new product development, an acquisition, or improving the quality of the management team. Equity fund managers also do not encourage ambition as it brings with it a certain level of risk. Fund Managers are judged on their performance relative to an index and to their peers, rather than absolute returns. They earn comfortable bonuses as long as they can hog the performance of their peers or in other words, be unexceptional. Non-Executive Directors, who serve for nominal fees, have little to gain if the company out performs its sector or the index, but their reputations to lose if an acquisition or a new initiative fails.

The consolation for chief executives is that they are increasingly on packages which award them very respectable bonuses and LTIPS for an average performance. The vast majority of chief executives in the FTSE-100 receive a considerable bonus in any given year. They cannot all be out performing!

It is difficult to see, in such an environment, what a chief executive has to gain by being creative and taking risks. All he or she has to do in order to become very comfortable is to stay in the role for a few years. However, the downside is there for all to see. One initiative gone wrong and there will be a clamour for his/her head; family and friends will be forced to read lists of his/her inadequacies in the press everyday.

We extinguish the appetite for risk in our senior executives at our peril, particularly, at a time when private equity is making ever bigger and bolder acquisitions. It pays executives precious little for an average performance but bestows fabulous riches on an exceptional performance. The FTSE-100 must not fall into the trap where only executives who are safe pairs of hands, become chief executives of public companies, and all executives who are capable of growing and transforming businesses, move into private equity.

Three measures would help to maintain the attraction and vitality of the public company sector.

First, fund managers must be subjected to a certain level of disclosure on their remuneration packages. After all, they are directly managing the savings and pensions of the population at large. It is, therefore, perfectly reasonable for people to know the criteria upon which their bonuses are awarded. Merely turning up the pressure on public company chief executives is unlikely to achieve the desired outcome, when the people who pull the strings disclose almost nothing. Pension fund trustees can help by demanding this information when engaging fund managers.

Secondly, the risk to reward ratio in public companies must be addressed. Basic salaries for average performance should be the norm just as exceptional packages for exceptional performance. Non-Executive Directors must see an upside to their companies out-performing. Creativity and initiative should be encouraged rather than stifled. Contrary to the prevailing ethos of choosing the safe option, the ethos ought to be that the safe and lazy option is almost never the best one.

Thirdly, shareholder pressure groups like ABI and PIRC should be more discriminating in their criticisms. It does sometimes appear that a three million pound package for a mediocre performance is perfectly acceptable but a ten million pound package for an exceptional performance is not. Given that the mediocre chief executive is unlikely to have created value and has probably destroyed some, anything over seven hundred thousand should be considered unreasonable. On the other hand, if a chief executive has created hundreds of millions, if not billions of pounds of share holder value, then ten million pounds should be seen as perfectly well deserved.

Samuel Johar is Chairman of Buchanan Harvey & Co., Boardroom Consultants.

 

Building bridges between corporations, executives and countries.