2.3 - implementing a relative tsr p - home | www ... · pdf filerelative tsr design –...

Christopher Jensen – Vice President, Global Compensation, Benefits and HR Operations, Freescale Semiconductor

Claudia Yanez – Senior Manager, Executive Compensation, SunPower Corp. (formerly with Freescale)

Alexa Kierzkowski – Consultant, Frederic W. Cook & Co.

Implementing a Relative TSR Plan:It's New To Me - An Issuer's Story

October 24, 2013

• Dodd Frank / Say on Pay

• Proxy Advisors - ISS, Glass Lewis

• Shareholders

• Challenges with Long-Term Goal Setting

• Internal Motivations

• In 2013, Radford reported 831 Relative TSR plans (a 655% increase since 2007)

• Freescale’s primary drivers were:

Desire to implement a performance-based award

Influence from shareholders

On-going challenges with long-term goal setting

Influences on Implementing a Relative TSR Program

• The basic operation is as follows:

Relative TSR Design - Introduction

Relative TSR Design – Freescale as an Example

• Number of shares is earned for TSR performance versus a peer group or index.

• Typical performance period is three years.

• Awards are valued using a Monte Carlo model (similar to using Black Scholes for options).

• With Freescale’s starting price ($13.91) and 122% Monte Carlo value, each share has expense of $16.97.

• Expense is fixed at grant date (under Topic 718).

• Leverage from payout percentage and ending share price.

Three-Year % Target Value Earned ($000) TotalRelative TSR Award if Ending Share Price is: P&L Cost

vs Peer Group Earned $6.96 $13.91 $20.87 ($000)Max ≥75th Percentile 150% $615 $1,230 $1,845 $1,000

62.5th Percentile 125% $513 $1,025 $1,538 $1,000Target 50th Percentile 100% $410 $820 $1,230 $1,000

37.5th Percentile 63% $256 $513 $769 $1,000Thresh. 25th Percentile 25% $103 $205 $308 $1,000

<25th Percentile 0% $0 $0 $0 $1,000

Fundingslope

can becustomized

Relative TSR Design – Pros & Cons• Pros:

Strong shareholder optics

Avoids long-term goal-setting issues

No distortion from M&A

Earned awards are justified by relative stock price performance

More upside leverage than time-vested RSUs

IRC §162(m) deductible

• Cons:

Stock price may not reflect internal performance (but relative TSR mitigates to some extent)

Reliance on point-to-point TSR measurement

P&L expense and disclosed value are not reversible (even if no award is earned)

Reserves maximum number of stock plan shares during the performance period

Accelerated vesting of PSUs upon CIC during performance period is inefficient under IRC 280G/4999 golden parachute rules compared to time-vested awards

Overview of Design Steps

1. Plan Participants

2. Comparator Group

3. Type of Plan

4. Funding Schedule

5. Detailed Design Provisions

6. Plan Definitions

7. Communication & Tracking

1. Plan Participants (Who Gets an Award?)

• Most companies limit to top officers or named executive officers

• Freescale includes all executives, which is about 150 participants

Positive feedback that everyone is on “the same plan”

2. Comparator Group

• Big challenge for many companies

• Two main choices:

Index

Custom group of companies

• Choose enough companies to prevent distortion from M&A, etc.

• Considerations in selecting peers: industry, revenue, market cap, geography, earnings, risk profile and other relevant characteristics

• Type of group:

Fixed - Compared to the components of the index at the beginning of the performance period

Open - Compared to the components of the index at the end of the performance period

Freescale’s choice

Freescale’s choice

2. Comparator Group – Freescale’s Plan

Mix of Exec Compensation peers and international companies

Analysis of how well peers / index correlate to the company’s stock (should be > .50)

Company Revenue Net IncomeCash & Cash Equivalents

Total Gross Debt

Market CapEnterprise Value

Advanced Micro Devices $4,925.0 ‐$739.0 $1,003.0 $2,044.0 $2,593.6 $3,634.6Altera $1,809.8 $566.6 $3,124.9 $500.0 $11,240.1 $8,615.2Analog Devices $2,659.4 $644.6 $4,172.1 $757.9 $14,862.8 $11,448.5Applied Materials $7,535.0 ‐$392.0 $1,770.0 $1,946.0 $19,345.8 $19,521.8Atmel $1,403.4 ‐$37.6 $244.8 $0.0 $3,317.6 $3,072.7Avago Technologies $2,377.0 $563.0 $1,151.0 $0.0 $9,108.6 $7,957.6Broadcom $8,184.0 $822.0 $2,469.0 $1,694.0 $14,072.2 $13,297.2Infineon Technologies $3,773.0 $267.0 $437.0 $166.0 $7,950.0 $7,921.0Linear Technology $1,285.0 $408.3 $1,454.5 $0.0 $9,232.2 $7,777.7LSI $2,452.3 $139.5 $658.5 $0.0 $4,077.7 $3,419.2Marvell Technology Group $3,106.6 $265.3 $1,732.6 $0.0 $5,895.4 $4,162.7Maxim Integrated Products $2,438.2 $446.5 $1,573.1 $807.9 $7,905.5 $7,140.3Microchip Technology $1,581.6 $127.4 $1,578.6 $983.4 $7,789.4 $7,194.2Micron Technology $8,047.0 ‐$1,124.0 $2,228.0 $3,651.0 $13,614.4 $15,037.4NVIDIA $4,310.0 $580.0 $3,713.4 $0.0 $8,212.2 $4,498.8NXP Semiconductors $4,358.0 $412.0 $617.0 $3,185.0 $9,590.0 $7,022.0ON Semiconducor $2,811.5 ‐$96.2 $614.3 $949.6 $3,624.1 $3,959.4Sandisk $5,187.7 $469.2 $3,310.2 $1,720.6 $14,777.3 $13,187.8ST Microelectronics $8,302.0 ‐$1,905.0 $1,583.0 $651.0 $7,390.0 $6,458.0Texas Instruments $12,589.0 $1,856.0 $3,862.0 $5,683.0 $43,179.4 $45,000.4Xilinx $2,168.7 $487.5 $1,714.7 $922.7 $12,008.4 $11,216.3

• Component Rank Plan (most popular)

Payout percentage is based upon the Company’s TSR ranked against the TSRs of the peer companies

Example: 150% is earned if the Company’s TSR is ranked at the 75th Percentile or higher against the peer group

• Outperformance Plan

Payout percentage is based upon the level of outperformance / underperformance of the Company’s TSR as compared to a benchmark TSR

Example: 150% is earned if the Company’s TSR exceeds the performance of the chosen index by at least 20% points

3. Type of Plan

Freescale’s choice

• Freescale’s Performance Schedule

• Goal of the board was simplicity with schedule (and overall plan)

• Model many scenarios when considering funding schedule

4. Funding Schedule – Freescale’s Plan

Three-Year Relative TSR vs

Peer Group

% Target Award Earned

Monte Carlo Value

Max 75th Percentile 150%

Target 50th Percentile 100% 122%Thresh. 25th Percentile 25%

<25th Percentile 0%

1% increase in Perf. = 3% increase inAward

1% increase in Perf.= 2% increase in Award

Three-Year % Target Award EarnedRelative TSR FSL's Alternative

vs Peer Group Plan ConsideredMax 75th Percentile 150% 200%Target 50th Percentile 100% 100%Thresh. 25th Percentile 50% 50%

<25th Percentile 0% 0%

• Payout schedule has a strong impact on the fair value of the award (under Topic 718), as determined by Monte Carlo model

Fair value is often higher than stock price

• Design nuances can reduce the expense

Lower the maximum payout percentage

‒ Increasing the maximum payment from 150% to 200%, would have increased Freescale’s simulated fair value by 32%

Increase the minimum payout percentage (but, less sensitive than max.)

Adjust the target percentile (e.g., from median to 60th P)

Exclude dividend equivalents, if applicable

4. Funding Schedule – Considerations

• Design nuances can reduce the expense

Cap total payout potential (e.g., 5x target)

‒ Implementation of Cap would have resulted in 12% reduction of Freescale’s simulated fair value

Absolute TSR threshold - limit payout to target for negative TSR

‒ Implementation of negative TSR cap would have resulted in 9% reduction of Freescale’s simulated fair value

Reduce the time between performance period start and grant date

‒ Significant challenge for Freescale, as annual grants have historically been effective in April, yet performance period begins in January. This resulted in an actual performance period that ultimately impacted the fair value of the award by 23%

4. Funding Schedule – Considerations

• > 90% of companies use three years

Qualifies as “long-term” with ISS

Some companies measure performance over multiple periods (e.g., 1, 2, and 3 years)

‒ May help with transition to three-year period

Freescale uses three years (1/1/13 – 12/31/15)

‒ Some challenges transitioning from 25% time-based vesting to 100% three year cliff

5. Detailed Design Provisions – Performance Period

• How to define beginning and ending share prices?

A big concern about TSR plans that payout is influenced by market timing

Averaging periods help minimize the impact of market timing and stock price volatility

Most plans use an averaging period covering 1-month (20-trading days or 30-calendar days)

Freescale uses a 1-month period, defined as the beginning and ending calendar months of the performance period

5. Detailed Design Provisions – Averaging Period

• Dividends - Should employees receive the right to dividends issued over the performance period?

Fairly common among dividend paying companies

Important: should be based on the number of earned awards

• Termination provisions - How does the award pay out if the employee terminates?

If employee terminates voluntarily or is terminated for cause, the entire award should be forfeited

Death? Disability? Retirement? CIC?

‒ Is the award pro-rated for service?

‒ Basis for earnout (target vs. actual performance)

5. Detailed Design Provisions – Dividends & Termination

• Termination Provisions

Voluntary termination, involuntary not for cause termination or for cause termination – entire award is forfeited

Death or Disability – prior to the first anniversary, award is forfeited. After the first anniversary, award is pro-rated based on time between grant and termination, at 100% target performance

CIC – performance period ends on date of CIC (or date determined by the Compensation Committee) and the award is calculated based on actual performance

5. Detailed Design Provisions – Freescale

• The devil is in the details… define key terms up front

• Freescale Examples

“Relative Total Shareholder Return” or “Relative TSR” means the Company’s TSR compared to the Peer Companies TSR on a relative basis. The Company and the Peer Companies from highest to lowest according to their respective TSRs will determine Relative TSR. After this ranking, the percentile performance of the Company relative to the Peer Companies will be determined using the Percentrank formula in Microsoft Excel.

“Total Shareholder Return” or “TSR” means for the Company and each of the Peer Companies, the company’s Total Shareholder Return, which will be calculated by dividing (i) the Closing Average Share Value by (ii) the Opening Average Share Value, and then subtracting one (1).

“Accumulated Shares” means, for a given day, and for the Company or a given Peer Company, the sum of (i) one share of common stock of the applicable Company, plus (ii) a cumulative number of shares of common stock purchased with dividends declared on the common stock, assuming same day reinvestment of the dividends into shares of common stock at the closing price on the ex-dividend date, for ex-dividend dates during the Opening Average Period or for the period between December 31, 2012 and the last day of the Closing Averaging Period, as the case may be.

6. Plan Definitions

• Stakeholder management

Securing senior leader and Board/Committee buy-in

Financial reporting and expense modeling

• Introduction of the new plan

How it fits into the pay philosophy, etc.

• Ongoing tracking

Important for financial reporting (calculation of diluted EPS)

Communication with participants

Radford’s PeerTracker enables customized, daily tracking of awards

7. Communication & Tracking

Freescale: 2013

50%50%

2012

Stock Options RSUs

33%

33%

33%

2013

Stock Options RSUs pRSUs

Executive

FSL - $10.11

Co. A - $2.40Co. B - $33.26Co. C - $41.88Co. D - $5.86

.

.Co. L - $8.32

Co. M - $25.02..

Co. Q - $30.58Co. R - $35.41

FSL - $25.00

Co. A - $8.61Co. B - $42.06Co. C - $49.65Co. D - $19.56

.

.Co. L - $21.01Co. M - $47.54

.

.Co. Q - $43.65Co. R - $47.58

1/1/13 12/31/15

Relative Returns

Co. A: 259%Co. D: 234%Co. L: 153%FSL: 147%

.

.

.Co. M: 90%Co. Q: 43%Co. R: 34%Co. B: 26%Co. C: 19%

58th

Percentile Performance

Data and summary for illustrative purposes only

Target Value /Closing Price on 4/2/13

Target Units * 1.16 * $25.00

$20,000

$20,000

$20,000

2013

Stock Options RSUs pRSUs

Data and summary for illustrative purposes only

Value for pRSUs $20,000FSL Closing Price on 4/2/13 $13.91

Target Number of pRSUs 1,438

FSL TSR 147%FSL Relative TSR 58th Percentile

Share Delivery Factor 1.16X

Final Number of pRSUs 1,668 Fair Value of pRSUs $41,700

TSR Performance

Summary

Final Award

Grant Information

© 2013 Aon Corporation 

© 2013 Aon Corporation 

Contacts

Christopher JensenVice President, Global Compensation, Benefits and HR OperationsFreescale SemiconductorR11011@freescale.com

Claudia YanezSenior Manager, Executive CompensationSunPower Corp. (formerly with Freescale)cyanez0909@gmail.com

Alexa KierzkowskiConsultantFrederic W. Cook & Co.AHKierzkowski@fwcook.com