Executive pay: why the Swiss are right and the EU is wrong
As we prepare for the start of a new proxy voting season, we must be prepared for yet more heated discussion on the vexed issue of executive pay. Like death and taxes, rumbling discontent over ‘fat cat’ pay and banker bonuses seems always to be with us. It is not unreasonable to ask why, after nearly 20 years since the British Gas ‘fat cat’ outrage of 1996 does this issue still arouse such strong anger?
As seasoned fund managers voting our shares on behalf of clients we have a duty to understand the nature of the public discourse on pay (and any policy responses), to try and address the real concerns in our voting actions. At Ecclesiastical, we are unusual in applying an ‘excess test’ to many of our proxy voting decisions. By and large, the link with performance determines whether a pay package in aggregate is thought deserving, but we have always gone one step further and asked whether, notwithstanding performance, are the highest levels of pay enjoyed in some of our biggest companies actually justified. How much is too much?
This perspective, looking at pay from a disclosure, performance and excess point of view gives us an interesting insight into recent policy decisions in Europe that have caused alarm here in the City and for UK policy makers. First, the EU, with the UK looking predictably isolated, has voted to introduce mandatory caps on banker bonuses. Secondly, the Swiss have just voted overwhelmingly in a national referendum to introduce stiff limits on executive pay in that market. Taken together, these measures appear to represent a tectonic shift in public aggressiveness towards levels of excessive executive pay, but we believe the two announcements should not be confused, and that the Swiss in particular may have better captured the public mood.
Without doubt the EU proposal, which has generated great hostility in London, represents an incomes policy by stealth. It focuses on one sector only, ignoring the fact that excess and its causes exist across all sectors of the market, particularly in our largest corporations. The effect of a proposed one times cap on annual bonuses (rising to a maximum two times with shareholder approval) will not, in our view, treat the symptoms of chronic excess. More, focusing on bonuses alone will escalate the ratchet on base salaries (which are pensionable, whereas bonuses are not), and therefore have a catastrophic effect on fixed costs. In bad times, bonuses can be slashed without affecting jobs or fixed costs; in good times, variable pay such as bonuses represent a one-off hit. The net effect will be to reward, in aggregate, to a similar extent without a defined link to performance. In bad times, jobs will ultimately be lost. It is worth adding that the vague threats periodically made by companies to ‘offshore’, represents, in our view, a lower risk. Ultimately domicile status depends on a complex matrix of determinants, not least the presence of a trained skills force that can be easily hired in the home country; bonus levels (or their limits) will not by themselves determine this.
In responding to the symptoms of pay abuse, the Swiss, it seems to us, are closer to providing the means for thoughtful action. Under the Swiss model, restrictions will apply to all companies, not just the much maligned banking and financial services sector; it doesn’t focus on bonuses but on many of the ‘ancillary’ benefits that represent pay abuse – golden hellos, golden handcuffs and the like. Offering annual, binding, ‘say on pay’ votes goes further than the watered down solution offered by Vince Cable is his proposal to offer triennial binding votes here in the UK. Annual director elections are also proposed by law; now a common feature in the UK, but still not required by UK Company Law. Finally, the Swiss provide teeth to their raft of proposals with criminal sanctions for non-compliance. The two thirds support to the proposals given by Swiss voters provides an emphatic statement on society’s expectations of business going forward.
It is early days, but we believe the Swiss model will send a powerful signal about business behaviour in the round, check the worst abuses, introduce democratic accountability and provide criminal sanctions. The EU model instead is irrationally focused on a narrow list of companies and acts as an incomes policy by stealth; it will neither check abuse nor treat the underlying symptoms. The EU, whilst piling more odour on banking, remains silent on the levels of executive remuneration seen elsewhere – for instance at Reckitt Benckiser where in 2012 aggregate CEO remuneration in bonus and incentive shares touched 7,352 per cent of salary at face value, and 3,353 per cent in the previous year.
Shareholders need the tools to take action where egregious remuneration is offered across the market, Ecclesiastical will continue to plough its furrow in this new proxy voting season by opposing deals that we view are excessive in the round, not linked to superior performance, and represent a poor deal for shareholders.
Neville White is senior socially responsible investment analyst at Ecclesiastical Investment