PracticeConsultingHeadstart: Management – Of monkeys, fat cats and top dogs.

Headstart: Management - Of monkeys, fat cats and top dogs.

The frequent outcries about excessive directors’ remuneration reflect justified outrage at people being highly paid to do a bad job. Yet the market for senior talent is a real one and if you pay peanuts you get monkeys. Fat cats are also top dogs – by selecting strategy they personally either create or destroy a lot of value.

While disclosure and governance have probably improved the position in the last decade (there is not more crime just more reported crime) it remains a difficult problem. Whose problem is it? The investment community’s.

Through their investor protection committees (IPCs) they, and only they, have the power to deal with this. But they need to get their act together.

There is a market and salary surveys can ensure that basic remuneration is reasonable. Generally the performance-related element is acceptable so long as it is transparent. Performance-related pay has to relate to performance in the share price. Share options do this but suffer from some flaws that caused a general disenchantment in the mid-1990s. But the response was wrong. Instead of addressing the flaws, the remuneration industry went for incredible complexity with long-term investment plans (that even the finance directors using them don’t understand) and other schemes with a bewildering variety of performance measures. The IPCs lost control and the consensus approach, based on share options, was lost.

Pay scheme design ranks only with company cars as a subject where there is the greatest diversity of opinions. And in no other field will you get as much inventiveness in complexity, opacity and circumvention of rules. The IPCs need to get tough but to keep it simple and stupid – avoid complexity, insist on transparency, standardise packages, make it all comparable, restore a consensus.

As a sanity check, one useful measure might be to require a link between the highest and lowest paid in the company – say the top remuneration package cannot be more than 25 times that of the lowest.

The accounting profession can help with better disclosure. Accounting for share options is to be changed to show the costs as they accrue. A new FRS will ensure that the cost of a change in pension benefits is clearly reported. The criteria applied in the payment of bonuses can be disclosed.

Fair value accounting and disclosure of strategy will allow better reporting on value created and being created. We could report the ratio of remuneration at the top to that at the bottom.

And then it is in the hands of the IPCs. They can set simple rules for acceptable remuneration practice and they will have the ability to police it. They have the power to remove those who step over the mark.

– Neil Chisman is a member of the Financial Reporting Council and a former finance director of Stakis and Thorn. neil.chisman@cwcom.net.

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