1. 28 | February 4, 2010 www.wabusinessnews.com.au WA Business News
■ OPINION |
The first 15 recommendations in the report
seek to improve corporate governance and
enhance the effectiveness and credibility of
boards, as well as to make the board more
accountable in relation to pay setting.
Pamela-Jayne
Kinder
Commission backs board role in exec pay
Australia’s corporate
governence framework
rates highly, a new
report has found.
ON January 4, the federal gov-
ernment released the Productivity
Commission’s report on Executive
Remuneration in Australia. Judging
by the response to the report, the
commissioners largely got it right.
The report concluded that
Australia’s corporate governance
and remuneration frameworks rated
highly internationally, and as a con-
sequence the commissioners looked
to ways of strengthening Australia’s
existing framework.
They rejected imposing caps on
total pay and bonuses, and binding
shareholder votes on the remunera-
tion report. Instead, the commis-
sioners held firm to the view that
the board plays the central role in
determining the remuneration of the
executives.
The report concluded that: “The
only practicable means for the many
thousands of diverse shareholders of
a public company to achieve a remu-
neration structure that promotes the
company’s long-term interests is for
them to ensure that they have an able
and properly motivated agent – the
board.”
The first 15 recommendations in
the report seek to improve corporate
governance and enhance the effective-
ness and credibility of boards, as well
as to make the board more account-
able in relation to pay setting.
The recommendations fall into five
areas of reform.
• Board capacities: The board plays
the central role in determining exec-
utive remuneration. Board members
need a broad mix of skills, knowl-
edge and experience to provide
independent, well-informed deci-
sion making, including on remu-
neration. Board membership and
renewal should reflect merit-based
processes that draw appropriately
from the pool of available talent.
(Recommendation 1.)
• Conflicts of interest: Given the
desirability of boards operating
independently, any potential con-
flicts of interests need to be effec-
tively addressed. Some potential
conflicts require regulatory con-
straints, whereas greater transpar-
ency will be sufficient in other
areas. (Recommendations 2-7.)
• Disclosure: Appropriate disclo-
sure of information is necessary
for shareholders to understand
the extent to which their interests
are being served by the compa-
ny. This includes understanding
executive pay structures and how
pay links to company performance.
(Recommendations 8-12.)
• Remuneration policies: Incentive
pay structures provide a key
mechanism for boards to align the
interests of executives with those
of companies and shareholders.
However, such arrangements need
to be carefully designed, as inap-
propriately constructed pay pack-
ages can deliver perverse outcomes.
(Recommendation 13.)
• Shareholder engagement:
Shareholder engagement with
boards (their agents) requires
appropriate signalling mechanisms
and sanctions through effective
voting processes and audit trails.
(Recommendations 14 and 15.)
The remaining two recommenda-
tions are related to implementation
issues, including making legislative
changes to ensure compliance with
recommendations relating to con-
flict of interest (2 and 3) and dis-
closure (10 and 11) should the ASX
and Corporate Governance Council
not make the requisite changes and
a review of the reforms within five
years.
The report also made two findings.
The first noted the continuing under-
representation of women on boards
and concluded this was an indication
that boards were not drawing from
the existing wide pool of talent. The
commissioners strongly endorsed
the ASX Corporate Governance
Council’s initiatives of requiring com-
panies to adopt and disclose (on an
‘if not why not’ basis) their progress
against gender objectives set by their
boards, and encouraging nomination
committees to review the proportion
of women at all levels in the company
and disclose on an annual basis the
skills and diversity criteria used for
board appointments.
Again, if after a three-year review
little progress has been made, it has
been suggested that these initiatives
be “upgraded” to a listing rule.
The second finding guides boards
as to how the commissioners
feel they could better explain
their remuneration decisions to
shareholders by explaining:
• how the remuneration policy
aligns with the company’s strategic
directions, its desired risk profile
and with shareholder interests;
• how the mix of base pay and
incentives relates to the remunera-
tion policy;
• how comparator groups for bench-
marking executive remuneration
and setting performance hurdles
and metrics were selected, and
how such benchmarks have been
applied;
• how incentive pay arrangements
were subjected to sensitivity analy-
sis to determine the impact of unex-
pected changes (for example, in the
share price),and how any deferral
principles and forfeiture condi-
tions would operate;
• whether any ‘incentive-compat-
ible’ constraints or caps apply to
guard against extreme outcomes
from formula-based contractual
obligations;
• whether alternatives to incen-
tives linked to complex hurdles
have been considered (for exam-
ple, short-term incentives deliv-
ered as equity subject to holding
locks);
• whether employment contracts
have been designed to the degree
allowable by law, to inoculate
against the possibility of having
to ‘buy out’ poorly performing
executives in order to avoid litiga-
tion; and
• whether post-remuneration eval-
uations have been conducted to
assess outcomes, their relationship
to the remuneration policy and the
integrity of any initial sensitivity
analysis.
The majority of the recommenda-
tions were supported across indus-
try and membership organisations,
including the Australian Institute of
Company Directors, and was seen
as a substantial improvement in the
position of shareholders byAustralian
Shareholders’Association.
The commissioners have trodden
the middle ground, receiving praise
for recognising the high regard
Australian corporate governance is
held internationally and by recom-
mending shareholders have greater
access to, and say on, remuneration
practices of listed companies.
As expected, the two most con-
tentious recommendations relating
to ‘no vacancy’ and ‘two strikes’
(1 and 15) remain the most widely
discussed.
In relation to the ‘two strikes’
recommendation, some suggest it
places too much significance on
remuneration (diverting the board
away from strategic issues) and
others say it allows boards that get
executive remuneration wrong too
long before they can be ultimately
held to account.
No matter which side of the divide
you sit, the implementation of these
recommendations will require fur-
ther stakeholder involvement in the
review and comment on drafting.
After almost nine months of
research, review and public consul-
tation we have the recommendations.
Now, we must wait for the Rudd gov-
ernment’s response.
■ Pamela-Jayne Kinder is principal
of PJ Kinder Consulting – board and
executive remuneration governance.
PRODUCTIVITY COMMISSION RECOMMENDATIONS
Photo:GrantCurrall
Board capacities
1. Any declaration of ‘no vacancy’ at an AGM to
be agreed by shareholders. Finding 1: Support
an ‘if not, why not’ requirement for boards to
report progress against gender objectives.
Conflicts of interest
2. On an ‘if not, why not’ basis:
a. Remuneration committees to comprise at
least three members, all non-executive directors,
with a majority and the chair independent.
b. Companies to have a charter setting out
procedure for non-committee members attending
meetings.
3. For ASX300 companies, executives
to be prohibited from sitting on
remuneration committees. (Listing rule)
4. Prohibit executives and directors
voting their own shares on remuneration
reports.
5. Prohibit executives hedging unvested
equity remuneration or vested equity subject to
holding locks.
6. Prohibit executives and directors voting
undirected proxies on remuneration reports.
7. Require proxy holders to cast all their directed
proxies on remuneration reports.
Disclosure
8. Improve information content and accessibility
of remuneration reports through:
a. A plain English summary of remuneration
policies.
b. Reporting actual remuneration received and
total company shareholdings of individuals in the
report.
An expert panel to advise on revised
Corporations Act architecture to support
changes.
9. Remuneration disclosures to be confined to
key management personnel.
10. Companies to disclose executive
remuneration advisers, who appointed them, who
they reported to and the nature of any other work
undertaken for the company. (if not, why not’)
11. For ASX300 companies, advisers on
executive pay to be commissioned by, and
their advice provided directly to, the board,
independent of management. (Listing rule.)
12. Institutional investors to voluntarily disclose
how they have voted on remuneration reports
(and other remuneration-related issues).
Remuneration principles
13. Remove cessation of employment as the
taxation point for deferred equity subject to risk
of forfeiture. Finding 2: Remuneration ‘check
list’ for boards to improve information content in
remuneration reports.
Shareholder engagement
14. Confirm allowance of electronic voting
without amendment to company constitutions.
15. ‘Two strikes and re-election’:
a. 25 per cent ‘no’ vote on remuneration report
triggers reporting obligation on how concerns
addressed.
b. Subsequent ‘no’ vote of 25 per cent activates
a resolution for elected directors to submit for
re-election within 90 days.
Implementation issues
16. The Australian government to implement
intent of recommendations 2, 3, 10 and 11 by
legislation if the ASX and Corporate Governance
Council do not make the requisite changes.
17. Review within five years to consider:
a. The effectiveness and efficiency of the
reforms, including to termination payments and
employee share schemes.
b. The regulatory architecture.
Source: ‘Executive Remuneration in Australia’
pp 395-396