Negative TSR Prompts
Hard Look at Exec Pay
February 22, 2016
committees are undergoing serious reviews of pay strategies amid
falling stock prices and the realization that total shareholder return
(TSR) for a majority of companies could be negative.
With both the S&P
500 and the Dow Jones Industrial Average ending 2015 in negative
territory and continuing downward to start 2016, shareholder concerns
about executive compensation are starting to intensify as proxy season
unfolds. MSCI ESG Research reports that declining stock values
have resulted in the average one-year TSR for S&P companies’ falling
to negative 2.93%, the first time TSR has been negative since 2009.
Since investors have also seen four straight quarters of declining
earnings, companies should expect higher levels of scrutiny as to
whether executives’ 2015 pay is actually aligned with company
“We’ve had five
years of positive TSR growth and now companies need to be prepared for
a different environment when total shareholder return is flat or
declining,” says Irv Becker, national practice leader for
executive compensation at Hay Group.
is likely to be more acute at companies where CEO pay appears to be
relatively high following multiple years of negative TSR and lagging
Becker and other
observers suggest negative TSR numbers may even impact some companies’
say-on-pay votes this proxy season.
“If stock prices and
earnings are down, it is reasonable to expect that shareholders are
going to be in a grumpier mood when it comes time to vote on pay,”
says Steve Kline, a director and senior compensation consultant
who specializes in pay-for-performance measurement and analysis at
Willis Towers Watson. “Shareholders are going to expect to see how
the performance declines have washed through the pay practices.”
compensation committees should review how their current pay plans
compensate executives when stock price and performance are declining.
Additionally, they should consider how their companies will explain
their pay decisions, particularly if they expect questions from
High Pay, Low
many industries will see negative TSR numbers this year and possibly
next, so understanding how TSR metrics can affect compensation is an
issue for all boardrooms, whether they use it in their pay plans or
A Frederic W.
Cook report published last December reveals that 54% of the top
250 companies in the S&P 500 are currently using TSR as a performance
metric in compensation plans.
On a broader scale,
Equilar last month reported that 48.7% of S&P 1500 companies
use relative TSR in their pay plans.
already using TSR as a measure in their pay plans, figuring out the
clearest way to explain the role it plays will serve as good practice
for the SEC’s pay-for-performance disclosure rules, as well as helping
boards prepare for engagements with investors.
Opinions about the
use of TSR have been mixed as pay plans have moved toward
investors and proxy advisory firms favor the use of TSR as a way to
achieve pay-for-performance alignment with company outcomes over the
believes use of TSR as a metric can be overblown because executives
don’t have the same control over stock price as they have over other
metrics such as earnings or revenue.
alignment with shareholder returns, but it’s not a direct reflection
of how well or poorly management is running the firm,” notes
Farient Advisors vice president Dayna Harris.
She points out that
broad market sell-offs and other factors can drive stock prices
downward, and executives fear their compensation could be cut
director of research, Belen Gomez, agrees.
“If [an] executive
team hit absolute performance metrics, did everything in its power to
prevent disaster for the company, and the loss of value could have
been much worse, the company may end up with disgruntled executives
and retention could become an issue,” says Gomez.
A look at CEO pay
among several companies with negative TSR quickly reveals how complex
the pay landscape can be for both management and shareholders.
head of MSCI ESG Research, identified a select group of companies for
Agenda that have registered negative TSR numbers over one- and
three-year periods. (Please see chart.)
these companies have absorbed losses for at least three consecutive
years, yet the CEOs’ pay for 2014 appears to be generous considering
the period of poor performance. The combination of relatively high CEO
pay and three years’ worth of negative TSR should put these companies
on notice that they will likely attract shareholder scrutiny.
The numbers suggest
“these are companies that are already overpaying for previous bad
performance,” says Marshall. “If they continue to follow their past
patterns they may not be that responsive [to shareholders, and] they
may continue to overpay.”
For example, asset
Franklin Resources compiled a
one-year TSR of negative 32.51% and a three-year average TSR of
negative 7.66%. Yet the board approved CEO Gregory Johnson’s
$15.9 million pay package in 2014, which included a $3.65 million cash
Franklin Resources’ peer group of asset managers and custody banks
registered one-year TSR of negative 11.38%, and a three-year average
TSR of negative 49.31%. The annual average CEO pay for the group was
Even though Johnson
received more than twice the average CEO pay for the index and earned
a $3.65 million bonus, shareholder support for the company’s 2016 pay
plan in a say-on-pay vote held on Jan. 8 was 99%.
“It is hard to
understand how they can continue to pay above the average for the
entire index even though the last several years of performance have
been as bad as they have, both relative to the market and relative to
their peers,” says Marshall.
In the case of
Chevron, an oil and gas company,
negative TSR might be expected, given the way oil prices plunged in
the past year. Chevron compiled a one-year TSR of negative 16.21% and
a three-year average TSR of negative 7.01%. The integrated oil and gas
peer group registered one-year TSR of negative 13.86% and three-year
average TSR of negative 2.21%. The annual average CEO pay for the
group was $4.6 million.
its poor performance directly in its 2015 proxy statement. The board
justified Chairman and CEO John Watson’s $25.9 million
pay package on the basis of his meeting targets other than share price
because the entire industry had been impacted by lower oil prices, and
thus lower share prices.
In addition, $13.5
million of Watson’s pay is in the form of future equity grants. The
remainder is composed of basic salary of $2.1 million, a $3.1 million
bonus and $7.2 million in shares that vested during his previous six
years with the company.
There are other
compensation issues boards have to deal with in a negative TSR
environment other than explaining pay to executives and discussing pay
practices with shareholders.
As stock prices
decline, boards have to think about how they will grant stock in the
Boards will have to
consider whether to give out more shares at lower prices to match the
value of the awards that were given in the previous year. Or boards
may decide to grant the same number of shares, regardless of the
price. In the former case, some companies may run the risk of running
out of shares in their stock plans.
“This is what
companies are struggling with right now,” Kline says. “We saw this in
2009 after the market tanked in 2008. Stocks were down 40%, so you had
to come up with some creative ways to make stock grants.”
typically increases in the high single digits annually, but in a
negative TSR environment, pay increases may stall.
associate director of research services at Equilar, says executive pay
may flatten or even decline, depending on whether boards reduce bonus
payments and how lower stock prices affect the grant-date value of
counters that target compensation is likely to continue its upward
rise, whereas realizable pay may go down.
shareholders are going to see in the summary compensation table is
increasing comp,” he says. “Many companies will do an additional
disclosure that will show the real impact of the share price decline.”