Tony Boyd on stakeholders and remuneration

Friday, 01 December 2023

Tony Boyd
Contributing Editor, Australian Financial Review

    Remuneration can be a tricky issue for stakeholders to align on, but the board that does its research and seeks engagement gets results. 

    If you are a member of an ASX-listed company’s remuneration committee, or the chair of one, you will know how difficult it is to align the financial interests of shareholders and management. It is a thankless but crucial governance task that has the potential to put boards in conflict with institutional shareholders, proxy advisers and management teams.

    On the one hand, getting remuneration right is good for shareholders and good for management, especially if the stretch targets agreed to by the board actually deliver consistent and sustainable growth in earnings.

    On the other, getting it wrong can be damaging to the company’s reputation, alienate shareholders and feed into the broader community resentment of excessive executive pay.

    It is against this backdrop that it is worth reviewing a contemporary case study of an ASX 200 remuneration committee in action. It’s controversial because it divided the proxy advisory firms and triggered a groundswell of opposition from some key shareholders.

    However, I believe it carries some key lessons for other remuneration committees trying to develop competitive salary packages for CEOs managing global businesses. By that, I mean companies that earn more than 70 per cent of their revenue outside Australia.

    Long-term incentives

    The company in question is Reliance Worldwide Corporation, the plumbing supplies group chaired by former Computershare CEO Stuart Crosby. Its remuneration committee is chaired by Christine Bartlett MAICD, who is a director of Mirvac, Sigma Healthcare, Australian Clinical Labs and the unlisted TAL Life.

    Reliance designs “high-quality, reliable and premium branded water flow, control and monitoring products and solutions for the plumbing and heating industry”. The company’s signature product is the SharkBite push-to-connect plumbing product.

    Before discussing Reliance’s successful effort to get shareholder approval for a large equity grant to its CEO, Heath Sharp, it’s worth pointing out that Reliance has been highly attuned to the backlash against excessive executive pay. In August 2021, it decided to slash Sharp’s fixed remuneration by about 20 per cent over three years with a corresponding increase in short-term incentives (STI) and long-term incentives (LTI).

    Before arriving at a new LTI package for the CEO, Reliance commissioned research by leading US compensation firm Pay Governance. The research found that Reliance needed to significantly lift LTI to match the sharp upward movement in CEO pay at rival companies in the US where Reliance derives 70 per cent of its revenue. The board was already aware of this competitive pressure, having previously lost its US regional head to a company operating in the same sector.

    After analysing the salaries of a peer group of 16 building materials companies, the Reliance board landed on a 2024 maximum total package for Sharp of US$8.5m, including a maximum LTI grant of US$5.6m. This brought his package into line with the peer group. Previously, it was 26 per cent below the median.

    The critical issue here is that the maximum LTI vesting only occurs if Sharp achieves a total shareholder return at 80 per cent of the peer group, plus a 15 per cent compound annual growth in earnings per share, and 15 per cent growth in return on capital employed.

    Big pay packets

    These are aggressive targets that have not been reached in many years, which helps to explain minimal stock movements over the past five years. The growth targets should be seen in the context of US interest rates staying higher for longer, rising concern about earnings growth and a squeeze on profit margins.

    Also, analysts at Morgan Stanley have warned that Reliance could face further raw material inflation that can’t be recovered, possible supply chain disruption, and fail to hit its targets.

    The board was wise to have multiple meetings with major shareholders in the lead-up to the annual meeting. It put forward a compelling case using data provided by Pay Governance and local remuneration expert Stephen Walmsley.

    Annual meeting resolutions proposed for big equity grants can struggle to gain support, thanks to the increasing power of passive equity investment vehicles, such as exchange traded funds, which blindly follow proxy advice.

    The big three proxy advisers — Ownership Matters, CGI Glass Lewis and ISS — tend to be sceptical of big pay packets. I’m not surprised, as I’ve seen many CEOs walk away with tens of millions of dollars in recent years, while leaving a share price that is worse than it was when they started. The absence of stretch STI and LTI targets among some ASX 200 players raises questions about the business growth plans put forward by some CEOs.

    Reliance looks to have got it right. Its LTI stretch targets will probably be achieved once every eight years. In this case, Ownership Matters and ISS advised shareholders to vote against the equity grant to Sharp, while CGI Glass Lewis recommended to vote in favour. Ownership Matters said the equity grant to Sharp was “a materially larger grant than warranted by the size and complexity of the business”.

    The presentation prepared by Reliance for use in its meetings with shareholders stressed the company was competing for talent in the US where 75 per cent of its executives were based.

    “Therefore, our compensation framework and benchmarking has focused on attracting and retaining leadership talent within the US market in order to be competitive,” said the company in the presentation.

    The task of convincing shareholders to back the equity grant was complicated by the history of the company and its performance as a listed company. Reliance listed in 2016 as a growth stock after many years operating as a successful private company. In my view, it is now a value stock. Its share register reflects changed dynamics, which means there was scepticism about an LTI package with all the characteristics of a growth stock.

    It is a tribute to Crosby and Bartlett that the equity grant for Sharp was approved by 66 per cent of shareholders. That means that 34 per cent of the shares voted at the AGM were against awarding the equity grant. 

    As Australian companies expand offshore, more boards of directors will have to confront the tricky problem of aligning the interests of shareholders and management, while retaining senior executives who are working in the US. They will also have to brace themselves for potential backlash if aggressive growth targets are met.

    If Sharp actually reaches the maximum 2024 growth targets, he will join the ranks of the top 10 highest-paid CEOs in Australia, receiving more than the CEOs of the big four banks, Telstra and Rio Tinto. 

    Tony Boyd is a contributing editor for the Australian Financial Review and a former Chanticleer columnist. 

    This article first appeared under the headline 'On the Money’ in the December 2023 / January 2024 issue of Company Director magazine.  

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