A busy year ahead for nomination and remuneration committees

2014 will be another challenging year for board nomination and remuneration committees as they gear up for pay increases, heightened company takeover activity and possible initial public offerings (IPOs) and changes to government regulation.

Michael Robinson, a director at Guerdon Associates, predicts a moderate three per cent rise in median non-executive director (NED) fees this year, despite higher inflation, supply pressures to meet diversity targets and a shortage of qualified independent directors for planned IPOs. This will follow a 2.2 per cent rise in 2013.

However, he says if government proposals for more independent directors in larger super funds are implemented, the search for and placement of suitably qualified independent directors, plus additional disclosure requirements on pay imposed in 2013, will see pressure on director fees in this industry.

“Expect fee rates to increase much more than four per cent, and the rate of increase to be highly variable across funds well into 2015 and perhaps beyond,” he says.

Robinson also forecasts a rise in executive pay in 2014, particularly in the latter half as the economy picks up, with an expected median fixed pay increase of five per cent.

However, he also expects this to vary widely across industries and companies.

With a rush of IPOs expected this year, he says IPO companies need to shore up their executive remuneration practices.

“We are constantly amazed that so many prospective IPO companies miss an opportunity to provide investors with assurance that the management team is going to stay on to see through a transition to a public company and will not take the money and run as soon as their IPO stock comes out of escrow.

“If you are appointed to the board of a prospective IPO company, consider developing and disclosing in the prospectus a remuneration framework that does not leave an incentive gap between stock coming out of escrow and a performance-contingent long-term equity plan. There should be some overlap so that management retains ‘skin in the game’ at all times.

“With many IPOs likely to qualify for ASX-300 status shortly after listing, ensure an ongoing remuneration framework that does not get you into trouble with institutional investors at the first remuneration report vote. There are too many activist hedge funds seeking opportunities to short sell recent IPO stocks that may face ‘governance’ issues. Deny them an opportunity by ensuring an executive remuneration framework aligned with investor interests that extend beyond the prospectus’ forecasts.”

Robinson adds that in a year of heightened company takeover activity, it may also be circumspect for companies to review change in control provisions.

“Be particularly wary of equity that could vest on the smell of a merger or acquisition. There have been instances of this in the past whereby a merger or acquisition did not eventually take place, but equity vested to executives in full. Retain discretion to consider all factors and decide the timing and extent of any vesting in relation to changes in control.”

Robinson says nomination and remuneration committees should also be prepared for changes to government regulation.

“Already the new federal government has recognised the damage that the 2009 changes to employee share scheme taxation have done in limiting new venture start-ups. Therefore it is reasonably likely that some changes will be made. However, it is also reasonably likely that the changes will be applicable to riskier, potentially high growth companies, rather than established ASX-200 companies. Therefore, if as a director you are engaged in more entrepreneurial and speculative ventures, maintain a watch on the opportunities this may provide in pushing along your start-up plans and hiring those skilled people the business needs with stock options or similar.”

However, Robinson adds: “It is also clear that the two strikes rule has had mixed results. While, to the surprise of many, the resulting engagement between directors and investors on executive pay matters has had mutually beneficial outcomes for the ASX-300 companies with institutional investors, it has clearly been misapplied by some shareholders for matters other than executive and director pay, especially for smaller companies. So, while it needs review, there are no signs of this yet from the Abbott government.”