re: submission to the executive remuneration … may 2009 executive remuneration inquiry...

29 May 2009 Executive Remuneration Inquiry Productivity Commission Locked Bag 2, Collins Street East MELBOURNE 8003

Re: Submission to the Executive Remuneration Inquiry I have pleasure in attaching the accompanying contribution to the Inquiry into Executive Remuneration being conducted by the Productivity Commission. In due course I also look forward to speaking to the submission at the public hearing in Sydney as arranged with your office. Yours sincerely,

Peter Wilson AM National President

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Regulation of Director and Executive Remuneration in Australia - A Productivity Commission Inquiry Submission from the Australian Human Resources Institute 1. Introduction

The Australian Human Resources Institute (AHRI) is pleased to make a submission to the Productivity Commission Inquiry into Executive Remuneration. AHRI is the principal national professional association of human resource practitioners within Australia, and has approximately 15,000 members. The ABS reports in the order of 33,000 HR managers at work today in the Australian economy. HR practitioners bring a singular perspective to the issue of executive remuneration as they are the ones ultimately charged with advising employers on remuneration and overseeing the policies and practices of business in this field. AHRI has drawn the content for this submission from three sources:

• An April 2009 survey of AHRI members on executive remuneration who have expertise with remuneration in general, and executive remuneration in particular. The published report of the findings from the AHRI survey is provided to the Commission as Attachment 1.

• Focus group interviews and workshops that AHRI National President Peter Wilson

has conducted with senior HR directors from 20 leading ASX companies, that constitute AHRI’s National President’s Forum – Amcor, AMP, ANZ, Bluescope Steel, CBA, Coca Cola Amatil, GE, IBM, Lion Nathan, Macquarie, Metcash, NAB, Qantas, Telstra, Stockland, Woodside, Wesfarmers, Westfield, Westpac, and Woolworths.

Although it is important to note the AHRI has no formally delegated mandate to submit views directly on behalf of these 20 companies, we have taken close account of their views in formulating our position. Because there is a disparity of perspectives among the 20 forum members, no view attributed to that source in this submission can be taken as the view of any particular member of the forum.

• The professional experiences of the AHRI National President, who was the Group

HR Director at ANZ and Amcor for a period occupying eight of the last 13 years. AHRI is pleased that the Commission is the government agency that has been charged with the responsibility to inquire into and report on this matter. As an institution, the Commission has a proud record of basing its findings on fundamental economic and industry research, and tends to look at how markets can be improved in the way they function, rather than producing knee-jerk regulatory responses to anomalies and imperfections when and wherever they are encountered. AHRI believes these principles

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will be required in this Inquiry in order to produce positive and durable recommendations for both government policy and commercial practice. AHRI acknowledges this is an Inquiry into executive remuneration within the Australian workforce. From another perspective, however, AHRI sees the Commission undertaking an inquiry into how prices are determined within the global labour market for senior executives. AHRI also believes Australia is an integrated part of that global labour exchange, and that it is not operating within a trade sheltered field where extensive regulatory intervention is desirable, necessary or likely to have any lasting positive impact in the national interest. Notwithstanding that global context, AHRI believes there are a number of areas where improvements to practice and policy can be made. 2. Background and Current Context There has been much concern in the community over the last few years about senior executive pay, some of it based on some high profile and now somewhat infamous individual examples that have tested reason and shown scant regard for fundamental standards of fairness and equity. It is fair to say that the most outrageous cases have occurred overseas, and have been the cause in some instances of massive falls in shareholder value within certain foreign corporations, some of which are either no longer with us or have been the subject of nationalisation initiatives. There is no denying, however, that the knock-on effects in the developed world have touched all countries, including Australia. There have been few such examples in Australia, however, of the flagrant executive pay and casino-style shareholder value behaviour that typified the US and UK financial sectors. The origins of the current world economic recession are undoubtedly within the sub-prime mortgage market of the US, and the subsequent and widespread trading of CDOs in secondary markets, some of which were picked up in the balance sheets of certain Australian banks. The resulting lack of trust and confidence within world wholesale banking markets has affected everyone through the impairments to flows of funds within both primary and secondary debt, and equity markets, followed by the sudden and extraordinary downturn in real GDP across the world. Australia has fared far better than almost all others except India and China, for the following reasons:

• There was very little sub-prime mortgage business written here because of better prudential regulation of our financial institutions and better governance within our banks

• Federal and state governments within Australia had stronger fiscal positions than other OECD or G20 countries at the outset, and have demonstrated an immediate desire to use them responsibly through positive stimulatory measures

• We still have four of the world’s strongest AA rated banks • Our economic structure and exposure to the new giants in India and China

provided some reasonable buffer to the world recession. Nevertheless the crunch has arrived in Australia, and the regrettable flow from real GDP reduction into the higher economic and social cost of unemployment is only just beginning.

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3. AHRI’s Response to the Commission’s Terms of Reference (TOR) For ease of reference, AHRI has structured its submission in keeping with the Commission’s terms of reference. TOR1. Consider trends in director and executive remuneration in Australia and internationally, including among other things, the growth in levels of remuneration, the types of remuneration being paid, including salary, short-term, long-term and equity-based payments and termination benefits and the relationship between remuneration packages and corporate performance The design of senior executive remuneration went through major changes from the early to mid 1990s. AHRI’s National President wrote a widely quoted article on these changes published in both the Melbourne Age and the Sydney Morning Herald during April this year, by drawing on his own experiences in moving from the public to the private sector in 1990. A copy of that article is provided as Attachment 2. The kernel of the argument in the article is that private sector pay has moved beyond that of comparable public sector senior executive pay during the last 15 years, a development that has reflected the considerable growth in shareholder value of private sector employers compounded also by the pressure of excess demand for senior executives in the global marketplace. AHRI understands the Commission has put together time-series-based executive remuneration data from listed company annual reports, and we have not attempted to replicate that. However AHRI has available current cross-sectional data from a member survey conducted in April this year, and I commend the findings of that survey to the Commission (see Attachment 1). For more than 10 years the design of senior executive remuneration has comprised three components: fixed remuneration; short-term incentives (STIs) – usually comprising cash or shares, inclusive of deferral characteristics; and long-term incentives (LTIs) – usually comprising shares and options. While the composition, mix and drivers of these three remuneration components have changed moderately over time, this structure has been fairly durable. AHRI’s recent remuneration survey results from specialist practitioners reveal the following findings:.

• 96% of respondents – companies offer salary and super within fixed; 80% of them add in other expenses like cars clubs, health cover

• 73% - offer basic statutory super; another 20% offer up to 15% salary as super • 35% - have a defined benefit scheme - covers up to 10% of employees for half of

those reporting defined benefit schemes • 85% report that their company has cash-only short-term incentives, with the

remainder including a shares component • 26% report that short-term incentives in their company have increased relative to

long-term incentives in recent years • 93% of respondents report that short-term incentives are linked to internally set

KPIs and 13% to external comparators • 77% of respondents report that long-term incentives are linked to internally set

KPIs and 37% to external comparators.

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AHRI Recommendation 1 AHRI recommends the Commission deems the current three-part structure for executive remuneration operating in Australia to be appropriate, and encourages the Commission to endorse that in its findings. AHRI’s rationale is that the three-part structure enables organisations to reward its most senior professionals for their performance and behaviour that acknowledges:

• the skill and experience they bring to bear in a current role (fixed remuneration) • the effort they make to change performance and culture in the short term (STI) • the results of actions they initiate to improve longer term results and organisational

performance that boosts shareholder value (LTI), and therefore aligns executives with the interests of shareholders.

AHRI has serious concerns that some of the policy pronouncements and directions announced by the Federal Government are likely to move executive remuneration back towards a simple fixed and STI cash-only structure which is precisely the structure that dominated executive behaviour in the US during the sub-prime era and led to the economic malaise we are now experiencing. Such a policy shift would therefore be a counter intuitive response as it would encourage poor executive behaviour into the future and all in the interests of short-term tax revenue maximisation. In AHRI’s view, policy choices in this area need to be carefully crafted if there is to be a balance in the decisions executives take to build longer term value in companies compared to simply striving for short-term profits. A policy push back to a ‘cash and cash bonus’ only structure would lead to potentially higher GDP and tax volatility in the longer term. TOR2. Consider the effectiveness of the existing framework for the oversight, accountability and transparency of director and executive remuneration practices in Australia including:

• the role, structure and content of remuneration disclosure and reporting • the scope of who should be the subject of remuneration disclosure, reporting and

approval the role of boards and board committees in developing and approving remuneration packages

• the role of executives in considering and approving remuneration packages • the role of other stakeholders, including shareholders, in the remuneration process • the role of, and regulatory regime governing, remuneration consultants, including

any possible conflicts of interest.

AHRI focus groups of senior executives within listed companies have expressed considerable dissatisfaction with the current content requirements for listed ASX company Remuneration Reports (RRs). Their concerns can be summarised as follows:

• RRs have become excessively technical reports, to the extent that they defy comprehension by many shareholders who struggle to come to terms with the setting out of concepts, values and entries in multiple tables for the same executive group.

• RRs are primarily driven by the imperative to measure remuneration by the accounting cost to the organisation, rather than the value of the remuneration to the individual executive. While a number of Board Remuneration Committee chairs have in recent times addressed AGMs giving simpler expositions of the concepts

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behind the reports, the requirements relating to the RRs themselves lead to outcomes that make understanding difficult.

• Cumbersome formats that now burden the RRs with numerous vintages of different LTI schemes, many of which are these days shown with a positive accounting cost, are so far out of the money as to be questionable in terms of their meaningfulness, or are misleading in terms of remuneration value to the executive.

• The time required to prepare RRs in the absence of a sensible or agreed template has led one senior HR executive to describe writing an RR as akin to “fishing in the dark”.

The views within the HR profession as to the number and titles of executives that should be the subject of disclosure in the RR are mixed. Some favor boards publishing a fuller list of critical executives together with the criteria and market data used to reach decisions. Others have observed that this development would over-reach the mark as it would infringe privacy, and also encourage more upwards leveraging of pay levels by paving the way for executive search firms and competitors to pick off key and critical talent from within an organisation. AHRI supports the current level of disclosure, namely the appropriate details relating to the CEO and the senior group critical to an organisation. It is our view that overall remuneration trends and structure in a company are normally set by the remuneration of that group. Such an approach provides shareholders with what they need to know, and is an appropriate balance taking into account privacy considerations. In terms of decision making on executive remuneration, the AHRI survey results show the following: Responses from the full sample group of 394 reveal the following beliefs:

• 80% of respondents - HR should be the main source of advice to the CEO • 63% - HR should be the main source of advice to the board • 96% - External consultants should not be the exclusive source of advice to the

board • 78% - HR advice drawing on external expertise is the best model • 92% - Boards should take a holistic view, not rely on specialist reports alone

Responses about current practice from the specialist sample group of 150:

• 64% - HR is the main source of advice to CEO • 43% - HR is the main source of advice to board • 93% - HR is ‘a’ source of advice to CEO • 75% - HR is ‘a’ source of advice to board • 21% - External consultant is the main source to CEO • 27% - External consultant is the main source to board • 71% - Boards get external advice via HR and an accepted framework

AHRI Recommendation 2 AHRI recommends the optimal model for the determination of senior remuneration should consist of the following characteristics: 1. At least a ‘two level away’ rule should prevail for approval of remuneration, with the

recommendation coming from ‘one level away’.

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2. Specifically, the Board Remuneration Committee should recommend the CEO’s pay for approval by the full Board.

3. The Board Remuneration Committee (or Board itself) should approve the pay levels of the CEO direct reports, on the CEO’s recommendation.

4. And so on through the organisation using the ‘one – two level’ away approach 5. All share and share option schemes for anyone in the company should be approved

by the board. 6. The board should approve overall remuneration guidelines for all executives. 7. The board should approve the structures and relationships for STI and LTI schemes

for all executives. 8. In the case of very senior executives, the board should seek outside advice and data,

but have that data quality assured and integrated by the HR director into the prior approved remuneration context and philosophies of the company. Both external advisers and HR should be at the board table to clarify director’s questions.

9. In the case of share schemes, the board should receive independent legal advice on their construction and drafting, and further be prepared to publish that advice for the information of shareholders.

10. It would be possible to extend these principles into a Code of Remuneration Practice that could be prepared by a self-regulating industry body, or possibly as an Australian Standard. AHRI does not favour this happening by legislation, regulation or the deliberations of a publicly funded agency.

11. Shareholder votes on Remuneration Reports are currently non-binding. • The results from AHRI’s survey, on the one hand, and senior HR focus groups on

the other, are mixed as to whether they should be made binding or left as is. • If they are to be made binding, there should be no element of retrospective

disqualification of a legitimate and contractually committed executive remuneration outcome, such as has been mooted in the press. The inevitable legal battles would likely be both inefficient and ineffective.

• A compromise position would be as follows: o A binding vote on a company’s prospective remuneration plans and

programs for say the next five years including a transparent alignment of the former to a Remuneration Code of Practice as suggested above.

o In subsequent years a non-binding vote on the annual outcomes of the shareholder approved plan as set out each year in subsequent RRs, which could also be the subject of a quality assurance audit certificate that such plans are being pursued fairly and diligently.

o A qualified audit certificate could be the basis of a relevant remuneration matter going to a binding vote of shareholders.

o If a remuneration matter is the subject of a qualified audit, the amounts so affected should be reserved by the company from the executive until the result of the binding shareholder vote is known

TOR3. Consider, in light of the presence of large local institutional shareholders in Australia, such as superannuation funds, and the prevalence of retail shareholders, the role of such investors in the development, setting, reporting and consideration of remuneration practices. As with democracy in its broadest meaning, shareholder democracy precludes anyone presuming to make a judgement on the quality of votes cast. One share should be one vote. Yet the last ten years have seen somewhat of a divide emerge between institutional and retail shareholders, and the representatives of the latter. Institutional shareholders usually hold the majority of shares held in a company, and have considerable resources within their grasp to do the technical analysis and reach

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objective views on the value of more detailed remuneration issues – especially share based incentives. They also understand the risk and complexity of the top jobs and don’t usually display alarm at what top people are paid in a global world because picking cheap executives is perceived as a material risk to shareholder value. Hence, for that and other reasons relating to the complexity of notice papers that need to be assembled for an AGM, institutional shareholders can tend to give a lower priority to analysis of remuneration material in the papers before they cast millions of share votes, often across many companies for the different AGMs occurring in a single week. Retail shareholders are often middle Australians who have worked at or proximately above average weekly earnings for most of their lives, and so can find the salaries that top executives are paid to be well beyond their comprehension. Accordingly, advisory bodies have sprung up to represent their interests, but with mixed results. AHRI does not expect this to change, and we believe our AHRI recommendation 2 covers the point. A consistent structure, well vested with independent advice, and with powers for all shareholders to buy in to plans where remuneration intent, philosophy, and where those plans are consistent with an accepted standard, and shaped in consultation with all shareholders into a workable system. A system with these characteristics would reflect a fair balance of responsibilities. The shareholders’ role should be to elect directors to run the company. The divided public opinion on what is fair and reasonable with respect to executive remuneration provides grounds for requiring directors to display greater transparency about their actions as a way to regain public and shareholder confidence. AHRI recommendation 2 suggests an environment whereby a Code of Practice sets overall standards, with binding votes providing for the endorsement of broad plans and strategies, in addition to audited qualifications or exceptions to practice. This is a reasonable parallel to the situation that prevails with public statutory accounts. On average, however, there seems to be a bias in the power institutional shareholders exercise in securing passage of votes at company AGMs, especially on matters requiring a simple majority. It is therefore worth contemplating the range of matters in which a majority greater than a simple majority may be desirable. One such set of circumstances is included within AHRI recommendation 4 below. TOR4. Consider any mechanisms that would better align the interests of boards and executives with those of shareholders and the wider community, including but not limited to:

• the role of equity-based payments and incentive schemes • the source and approval processes for equity-based payments • the role played by the tax treatment of equity-based remuneration • the role of accelerated equity vesting arrangements • the use of hedging over incentive remuneration.

AHRI’s general position on the broad structure of remuneration, the role of equity based incentives and tax treatment, is set out in AHRI recommendations 2 and 3. As to the drivers of remuneration, it is worth reviewing the following specialist practitioner reports from the AHRI survey findings of April 2009:

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• 83% of respondents - use firms like Hay, Mercer or John Egan • 75% - benchmark to market annually; 15% every 2 years • 65% - link effective executives to market median fixed remuneration • 14% - link effective executives to Q3 fixed remuneration • 52% - link effective executives to market median total remuneration • 27% - link effective executives to Q3 total remuneration

• 85% - have ‘cash only’ STI; the rest have a shares component • 73% - STI is up to 50% of fixed; 10% up to 75% of fixed; 10% up to 100% of fixed • 26% - STI has increased relative to LTI in recent years • 42% - have excluded options from LTI in recent years • Overall remuneration is linked to:

o organisation performance - 68% o individual performance - 42% o organisation culture contribution - 52% o short-term KPIs – 84% o progress towards long-term KPIs – 78%

• STI – 93% linked to internally set KPIs; 13% to external comparators • LTI – 77% linked to internal KPIs; 37% to external comparators

• 51% - apply retention payments to critical staff • Of those:

o 60% use them for 5% of staff o 23% use them for 10% of staff

• 63% believe use of retention payments will not decrease in next 12 months • 31% have expatriate executives on salaries in currency other than AUD • 6% of executives receive recourse loans • 2% of executives receive non-recourse loans • 92% - have 12 months fixed pay or less on termination for CEO • 98% - have 12 months fixed pay or less on termination for general executives • 75% - report PM’s cap has no material effect on their capacity to compete • Nearly half found PM’s statement on executive termination pay confusing

Some particularly interesting features of these results are:

• Nearly 2 out of every 5 respondents have given up on options programs; probing the results shows reasons to be past frustration with vicariously applied Total Shareholder Return (TSR) comparator groups, and vesting criteria forced on to them by shareholder concerns at around the 75th percentile of TSR – which effectively means 3 out of 4 participating executives overall are bound to get nothing from what have become extraordinarily costly schemes to administer.

• As a corollary, 3 out of 5 respondents wish to retain options as a motivator to focus

the executive on upside share performance, combined with the presence of some part of LTI going into deferred shares to also give such schemes a good mix of positive and defensive characteristics. AHRI believes this majority view remains the appropriate approach to LTI remuneration design.

• Retention payments are still in use – in other words critical skill gaps remain an

issue for many firms, notwithstanding the general rise in unemployment.

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• A majority of drivers for both STI and LTI are moving to be ‘internal to the firm’.

Focus group discussion of this phenomenon indicates a number of companies have endeavored to gain control of the direction of remuneration outcomes, rather than be exposed to TSR style lotteries, yielded to in the past, to pacify retail shareholders and activist groups.

• The move by more than a quarter of firms to increase the share of STI relative to

LTI also reflects a move to regain some ground in the control boards exercise in overall remuneration outcomes to senior executives, for similar reasons to the previous dot point.

• Of those likely to be affected by the Prime Minister’s proposed termination-pay

cap, in indicating they would comply (“of course, if it were law”), they also make the point that it will be necessary to find some other way of spreading the present value of the foregone benefit into other remuneration elements either pre- or post-termination. Most companies have a present value income and also payment expectations when dealing with senior executives. Therefore if a regulation forbids them from operating within a certain part of the employee cost and payment curve, rational behaviour will drive them to find another delivery instrument. So the PM’s termination cap is likely only to solve the political perception of high termination payments at the point of termination.

• Many employers and boards have become sensitive to shareholder criticisms of

executives taking the gain up front and leaving the shareholders with the subsequent wreckages from bad management decisions. So focus groups have indicated that more companies are now looking at ways to defer STI and LTI outcomes over time by:

o The company banking the majority of payouts in trust against sustained

future performance and conduct by the executive, together with a requirement for value generated to be sustainable over time

o Building in tougher forfeiture conditions for such deferred bonuses o Swapping part or all of any such banked value into (deferred) shares so

there is a longer term painshare/gainshare alignment with general shareholders.

AHRI believes these findings are rational and appropriate to the current economic environment and, by and large, produce sensible outcomes with executive pay. Accordingly no recommendations for change accompany this TOR TOR5. Consider the effectiveness of the international responses to remuneration issues arising from the global financial crisis, and their potential applicability to Australian circumstances. For reasons stated above, AHRI believes the outrageous executive remuneration behaviour has mainly occurred offshore, and so the extreme regulatory proposals being considered in other places are not necessarily relevant in this country. Those that AHRI believes are relevant have been considered within our discussion and recommendations under other TOR.

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TOR6. Liaise with the Australia's Future Tax System Review and the Australian Prudential Regulation Authority in relation to, respectively, any taxation and financial sector remuneration issues arising out of this Review. In the recent Federal Budget, the Government showed its hand with respect to short and longer term taxation of share based instruments. AHRI has very significant concerns on that matter and it is worth contrasting the tax treatment for shares of senior executives with the widely distributed $1000 employee share scheme. The $1000 tax exempt share scheme Under the current regime, most large employers provide a $1000 worth of tax exempt shares to employees. The plans require a restriction period of 3 years (during which the employees cannot access the shares). Under the budget changes, the tax exemption would now not be available for employees with a taxable income of more than $60,000, and the share income would need to be included in their next tax return. For a person earning $65,000, and receiving such shares in the 2008/2009 tax year, that would mean a tax bill of $315 for the $1000 worth of shares in 2008/2009, even though they will not be able to access their shares until the 2011/2012 tax year. This does not take into consideration the impact of capital gains tax, which would potentially result in less revenue for the Government by the end of the 3 years. Over 600,000 Australian employees at most top 200 ASX listed companies would be affected, including NAB, Commonwealth Bank, Westpac, ANZ, Transfield, Computershare, Fosters, Orica, BHP, Telstra, Lendlease, Qantas, Wesfarmers and Boral. In AHRI’s experience, these schemes are widely recognised and valued by ordinary Australians working in our largest companies, whatever their role. Staff surveys consistently show they are effective in aligning all employees, giving them an active interest in the affairs and performance of the company, and as a collective reward for valued individual performances. Long serving employees who are never able or likely to reach the level of an executive and qualify for STI or LTI are particularly strong supporters of such schemes. Clearly the Federal Government has the right to take tax expenditures away. However this scheme is highly valued by the mums, dads and young people working today, and the scheme is seen as important in producing a better level of corporate performance that leads to higher corporate and income taxation. It also produces the sort of alignment that will be positive in producing a more speedy economic recovery. In short AHRI sees this budget measure as bad economics and bad politics. Taxing all executive share schemes up front The companies referred to above also increasingly provide shares to their more senior employees under programs for retention or performance-assurance purposes (i.e. guarding against excessive risk-taking behaviour by employees). The shares may have forfeiture conditions and milestone hurdles attached – for example, they may only become accessible by the employees after a key project is completed. Employees would have to pay tax on the shares in the year of allocation, even if they can’t access the shares for some time. Further, if the shares are forfeited because the project is not completed, the employee loses the shares but still has the tax liability (and cannot seek any refund of the tax paid).

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So this issue does offer the opportunity for significant reform, but also a rethink by the Federal Government of its budget position.

AHRI Recommendation 3

Given the 2009 Federal Budget changes are likely to have these unintended consequences, AHRI recommends that a better approach would be the following:

• Maintain the taxation of employee shares and rights at the time the employee is able to sell the shares (i.e. to tax equity on the same basis as the tax on cash, being when it is received).

• Remove any ability to defer tax beyond the initial restriction/forfeiture period. • Abolish the ability for employees to elect to pay tax ‘upfront’ in the year of

allocation (removing the perceived ability for high-net-worth individuals to achieve a better tax outcome than the ordinary person).

• Require the employer to report equity allocations to the ATO annually to allow them to match to individual employee tax returns and therefore to increase the rate of tax collection.

These proposals achieve what AHRI believes the Government’s objectives are – i.e. to increase tax receipts in the short term and improve tax compliance, while decreasing the costs of doing so and to eliminate any preferential tax treatment for high-income earners.

Benefits to the government of this AHRI recommendation are as follows. It will:

• maintain the taxing point at the same time as it would be if employers move to deferred cash instead of equity

• bring forward tax receipts to the end of the primary forfeiture/restriction period • increase the rate of tax collection/capture – and decrease compliance costs • avoid a decrease in company tax receipts in the current year due to the move to

cash (as cash is expensed in full in the current performance year, but equity expense is spread over the vesting period)

• remove the ability for high earners to defer or minimise their tax • maintain the ability for low/middle income earners to participate in employee share

ownership • maintain the alignment between employees and shareholders • avoid a decrease in earnings in the current year which would result from the move

to cash (as explained above) • simplify communications and understanding of equity programs, and make equity

much more user friendly (e.g. not requiring tax election on a $1000 program. The $1000 plan currently requires the making of a tax election to receive the exemption, but it would be a simple matter to remove this requirement and make the $1000 program tax exempt on the basis that it meets the prescribed requirements (e.g. 3-year restriction, broad applicability etc).

TOR7. Make recommendations as to how the existing framework governing remuneration practices in Australia could be improved AHRI’s three sets of recommendations above are held to be potentially valuable components of a new and fresh policy and practice mix for executive remuneration. However there is some risk that they may in combination be only necessary conditions for satisfactory reforms.

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We would like to raise two other issues for the Commission’s consideration: AHRI has been concerned that some remedies suggested – e.g. the PM’s termination pay cap - are akin to catching a drop down a waterfall, rather than dealing with the headwaters of the problem. In the May 2009 issue of hrmonthly, AHRI strongly advocated that directors of Australian boards need standards set, appropriate training, and some disclosure of all this to ordinary shareholders. The article is provided as attachment 3 and complemented an article by AHRI National President Peter Wilson that appeared in The Age on March 5 2009.(‘Self-examination of chaps is no standard’ (see Attachment 4) The 14 recommendations set out in the hrmonthly article are commended to the Commission. Furthermore discussion of remuneration and general corporate governance issues since that time has led to the development of additional recommendations. It is widely known that directors of ASX listed companies are usually re-elected with votes of 95%+ unless extraordinary circumstances prevail, regardless of shareholder dissenting votes on Remuneration Reports. It is also true that boards rely heavily on their experienced directors for direction and leadership – e.g. they usually constitute Company Chair and Committee Chair roles. In AHRI’s view the tendency of institutional shareholder reluctance to disturb things can lead to board inertia that leads in turn to bad calls within the board, but for which no consequence may be invoked. Dissenting retail shareholders can often comprise the majority of ‘no’ voters to director re-elections, but their numbers are too small to influence the final outcome. Nevertheless, the final accountability for executive remuneration rests with the board and AHRI contends that is how it should be. However AHRI also believes board accountability needs to be sharpened in the field of executive remuneration, and other critical board performance areas. In terms of board accountability and decision making the following AHRI results set out in Attachment 1 are a basis for some significant concerns with the status quo. HR practitioners surveyed in April 2009 believe as follows:

• 73% of survey respondents - board members have difficulty understanding technical complexity of executive remuneration

• 69% - boards have direct financial interest in executive remuneration • 27% - external consultant is the main source of advice to the board • 63% - boards should publish market data and rationale on executive remuneration

decisions • 69% - boards take the responsibility for drafting CEO contracts, with 83%

reporting their board seeks independent advice and 73% reporting their board consults with HR.

The AHRI survey found that nearly three quarters of respondents have observed board members experiencing difficulties understanding the technical complexity of remuneration advice given to them, combined with a quarter of boards relying on outside advice primarily, and a lesser number deciding on key issues alone with respect to CEO contracting. This does not necessarily represent a healthy environment for decision making. However boards do have a right to decide these issues as a matter of responsible corporate governance, but they should also be held to an appropriate level of accountability over time if the accumulation of their decisions is seen to be inappropriate or irresponsible. Accordingly AHRI recommends as follows:

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AHRI Recommendation 4 AHRI recommends that:

• The Commission considers and endorses the value of AHRI’s 14 recommendations for director reform set out in Attachment 3

• The Commission recommends to Government that ASX listed directors:

o Be elected initially to their board positions on the basis of a simple shareholder majority

o Subsequent re-elections of directors to the same board be subject to a requirement to achieve at least three quarters of all votes cast in support.

Finally, an area of reform that remains open is the possibility of rogue behaviour whereby a board of directors sanctions large rises to CEO &/or executive remuneration pay that is well above the standards acceptable among commercial peers or to the community generally. While this phenomenon may encourage an urge to regulate piecemeal each type of remuneration causing offence. Action of that order would unduly harm those who are behaving reasonably and responsibly with respect to management pay levels and where the outcomes within a company reasonably approximate a normal distribution of what is happening in the market with salaries for comparable job weights. AHRI Recommendation 5 AHRI recommends as follows:

• Provision be made for Remuneration Reports to include statistical data of executive remuneration levels, for given job weight bands and total target remuneration levels exceeding say $400,000, that inform shareholders as to whether that company’s distribution of pay reflects the broader market for comparable roles, or is positively or negatively biased with respect to that, and explanations be provided thereafter by the company, based on material differences inherent from heavily skewed distributions.

AHRI thanks the Commission for the opportunity to present to its Inquiry on Executive Remuneration. We are pleased and able to attend Commission hearings to provide any further elaboration or clarification. Australian Human Resources Institute National Office Melbourne 29 May, 2009

Attachment 1 (following)

HRpulse Sponsor

RESEARCH REPORT

‘Executive Remuneration’

ForewordFor some years now the issue of executive pay has been the cause of considerable debate and disquiet within both the business world and the public domain, as the disparity between the salaries and bonuses of some corporate executives compared with other employees has shifted dramatically, and often for reasons that are neither well explained nor understood.

Despite the complex machinations within many organisations that result in executive and CEO remuneration decisions, the human resources profession has come under fire in some quarters for its role in top level remuneration. The current environment is more complex

than any such simplistic view, and AHRI has sought the views of the profession “on what actually happens and why”, through this recently completed survey. Approximately 400 HR practitioners have participated in this survey and are all highly knowledgeable in the area, with 40 percent of that group having specialist leadership roles to play in overseeing and administering senior executive remuneration within leading ASX200 listed companies.

The findings in this study reveal that while HR is one of the principal sources of advice in decisions on executive pay, it does not have an exclusive position. Nor should it. These Australian findings reveal that, for the most part, boards of directors have relied on internal, external, and other independent advice, or indeed relied on their own views, to take decisions on CEO and executive pay.

The results from this AHRI study have provided a unique opportunity for the HR profession in this country to assist in rescuing the agenda so debate can take place on a more rational and less emotive plane, and indeed to set the record straight.

The Australian Productivity Commission has accordingly been called on to conduct an Inquiry into the issue. AHRI is basing its submission to the Commission on these and other research findings.

Peter Wilson AM National President Australian Human Resources Institute

This second AHRI HRpulse report for 2009 explores in some detail the highly specialist area of executive remuneration.

The survey on this issue was conducted during April and was in two parts. The first was a general section inviting non-specialist responses on the matter and the second invited specialists working in the area to indicate the typical practices that prevail in the course of their business.

Respondents answering questions from the second section especially would have found the exercise very demanding and time consuming, and I take this opportunity to thank them for so generously giving of their time. Not surprisingly, the sample group of respondents to this survey is smaller in number than our other HRpulse surveys. That was expected given the subject matter and the time involved in providing responses.

But we decided the issue is worth looking at and the only way to do that is to ask the people who have the knowledge and to guarantee them anonymity in providing answers.

We are very pleased with the findings, as I hope you are, and I commend the report to you. The third of our 2009 quarterly surveys will look at the transition from Work Choices to Fair Work Australia, and I trust you will find the time to let us know what you think on the matter when the questions arrive in your inbox.

Serge Sardo Chief Executive Officer Australian Human Resources Institute

AcknowledgementsProject director: Serge Sardo Research coordinator: Anne-Marie Dolan, Eve Guzowska Report authors: Serge Sardo, Paul Begley Sponsor: Bridge Consulting

Volume 3, Number 2 © Australian Human Resources Institute, May 2009

Research Report �page

SURVEY OVERVIEWBAckgROUndDuring April 2009, the Australian Human Resources Institute (AHRI) surveyed its members on the issues surrounding executive remuneration. At the time the issue had become a focal point for public acrimony, especially in the US where it had been revealed that executives from companies such as AIG and Merrill Lynch, whose failures had been spectacular, were walking away with multi-million dollar bonuses and termination payments at the same time as employees across the country displaced as a result of those failures rose into the millions. In Australia the remuneration and unemployment ramifications were more modest, but isolated cases, such as the offshoring of �500 Pacific Brands jobs following a hefty pay rise to the CEO, caused a level of public outrage.

AHRI’s questionnaire on this subject was by far the most complex of the surveys conducted to date in the HRpulse series. The covering note to prospective respondents invited responses to two sections of the survey.

The first was a general section asking for respondent views on matters such as:

• sources of advice on executive remuneration

• the quality of advice on executive remuneration

• the extent to which boards of directors understand the advice provided

• the extent to which boards of directors are conflicted in the area

• the role of shareholders in approving executive contracts and remuneration

• the role of government intervention in the setting of executive remuneration thresholds.

The second section invited expert commentary on how the process for remuneration of executives actually operates within companies, including boards of directors. Only a limited number of professional specialists would have been competent to provide answers in this section, and the questions asked were accordingly detailed and comprehensive, demanding a considerable respondent commitment of effort and time. For that reason the return rate of �50 responses from specialists in the field was regarded as strong.

Specialist information sought by the survey related to matters such as:

• actual sources of advice and accountability for CEOs and board members

• how remuneration is structured, including items such as salary, superannuation, short-term and long-term incentives, share options, bonuses and termination clauses

• the likely effect of government establishing a threshold on CEO termination clauses

• responsibility for drafting CEO contracts

• retention payments to executives.

kEY FIndIngS AT A gLAncEgEnERAL RESPOndEnT FIndIngSThe key findings from the 394 general responses to the survey are set out below.

80% of respondents believe HR should be main source of advice to the CEO, 63% to the board of directors

96% of respondents believe external consultants should not be the exclusive source of advice to the board of directors

78% of respondents believe HR advice on executive remuneration drawing on external expertise is the best model

92% of respondents believe boards should take a holistic view on executive remuneration, not simply rely on separate specialist reports

73% of respondents believe board members often have difficulty understanding the technical complexity of the advice they receive on executive remuneration

Research Report 2page

69% of respondents believe boards have a direct financial interest in decisions on executive remuneration

63% of respondents believe boards should publish market data and rationale on executive remuneration decisions.

SPEcIALIST RESPOndEnT FIndIngSKey findings from the specialist sample group of �50 respondents include the following:

Sources of advice

64% report that HR is the main source of advice to the CEO, 43% to the board of directors

27% report that an external consultant is the main source of advice to the board of directors

7�% report that boards get external advice on executive remuneration via the internal HR department and using an accepted framework of operation

83% of respondents report using Hay, Mercer or John Egan as executive remuneration consultants

Remuneration structures

96% report that their company only offers executives salary and superannuation as fixed, while 80% add in other expenses

73% report that their company offers basic statutory superannuation, while another 20% offer up to �5% salary as superannuation

85% report that their company has cash-only short-term incentives, with the remainder including a shares component

73% report that the short-term incentive is up to 50% of fixed salary, �0% up to 75% of fixed salary, and �0% up to �00% of fixed salary

26% report that short-term incentives in their company have increased relative to long-term incentives in recent years

42% report that their company has excluded options from long-term incentives in recent years

68% of respondents report that remuneration is linked to organisation performance, 42% to individual performance, and 52% to organisation culture contribution

84% of respondents report that remuneration is linked to short-term KPIs and 78% to progress towards long-term KPIs

3�% of respondents report their company has expatriate executives on salaries in a currency other than AUD

Executive incentives

93% of respondents report that short-term incentives are linked to internally set KPIs and �3% to external comparators

77% of respondents report that long-term incentives are linked to internally set KPIs and 37% to external comparators

Remuneration benchmarks

75% of respondents report their company benchmarks to the market annually and �5% every two years

65% of respondents report that their company links effective executives to market median fixed remuneration and �4% to Q3 fixed remuneration

52% of respondents report that their company links effective executives to market median total remuneration and 27% to Q3 total remuneration

Retention payments

5�% of respondents report that their company applies retention payments to critical staff, and of those, 60% use them for 5% of the staff, and 23% use them for �0% of staff

63% of respondents believe use of retention payments will not decrease in the next �2 months


Executive termination payments

92% of respondents report their company offers �2 months fixed pay or less on termination for the CEO

98% of respondents report their company offers �2 months fixed pay or less on termination for general executives

75% of respondents report the termination cap proposed by Prime Minister Rudd will have no material affect on their capacity to compete

Nearly half of the respondents found the Prime Minister’s statement on a termination cap confusing – i.e. what is the definition of pay?

Of those affected by the Prime Minister’s proposed cap, most indicated they would find some other way of spreading the benefit into other remuneration elements either before termination or after termination

CEO contracts

69% of respondents report that boards take the responsibility for drafting CEO contracts, with 83% reporting their board seeks independent advice and 73% reporting their board consults with HR.

Shareholders and executive remuneration

While only one in ten respondents (�2.3�%) believe that shareholders should not have an entitlement to further information on the board rationale for executive remuneration decisions, nearly half (4�.39%) oppose shareholders having the capacity to vote down a remuneration report rather than express dissent.

dETAILEd FIndIngSdEMOgRAPHIcSThe survey attracted a response rate of 394 individuals from the AHRI database over a two week period in April 2009. Respondents were contacted by email and completed the survey online.

Tables �-5 give some indication of the status of the respondents with respect to the issue of executive remuneration.

Table 1. Position in organisation of respondents

(394 responses)

HR Administrator

HR Advisor

HR Manager

HR Director/GM

Consultant

Supervisor/Team Leader

Manager

Director/GM/CEO/Executive

Academic

Accountant/FinanceSenior HR Manager

3.30%

10.91%

24.62%

16.50%

10.66%

11.68%

0.76%

2.28%

0.51%

0.76%

0.25%

2.28%

8.88%

Senior Manager4.57%

1.78%

0.25%

Administrator

Recruiter

Non-executiveboard member

Other


Table 2. Industry of respondents

Table 3. Sector of respondents

(384 responses)

Agriculture,Forestry and Fishing

Mining

Manufacturing

Construction

Wholesale Trade

Accommodationand food services

Transport, Postaland Warehousing

Information, mediaand telecommunications

Financial andinsurance services

Rental, Hiring andReal Estate Services

Professional, Scientificand Technical Services

Electricity, Gas, Waterand Waste Services

2.34%

3.13%

5.99%

1.56%

2.08%

2.08%

1.30%

4.69%

4.69%

1.56%

9.64%

8.07%

10.42%

1.04%

17.45%

12.24%

0.52%

11.20%

Administrative andSupport Services

Public Administrationand Safety

Education andTraining

Health Care andSocial Assistance

Arts andRecreation Services

Other Industry -please specify

0%

25%

50%

(391 responses)

ASX listed

18.93%

Privately owned

38.11%

Public

30.43%

Not-for-profit

18.93%

Global subsidiary

11.51%


Table 4. Professional interest in executive remuneration

Table 5. Respondents with a working knowledge of executive remuneration in a private company or ASX listed company

As indicated in tables �-5, around 65% of respondents work in human resources at various levels, around �0% are CEOs or managing directors, another �0% are consultants and 7.6% are non-executive directors.

Around �2% of respondents are from the financial services and insurance industries, with a spread of industries around the �0% mark in healthcare, education, scientific and technical services, and a combination of manufacturing, construction and utilities.

Nearly 70% of respondents are either from ASX listed companies (�8.93%), the private sector generally (38.��%), or with a global subsidiary (��.5�%).

Around three quarters of respondents are either responsible for the executive remuneration system in their organisation, contribute to it in some way, are actively interested in the area professionally, consult in the area, or identify with a combination of these options. A quarter or respondents (25.77%) identify as passively interested professionals in the area.

A total of 38.93% of respondents identify as working in the area of executive remuneration in a private company or an ASX listed company. That cohort of respondents went on to answer the detailed questions in section 2 of the survey.

0%

25%

50%

(392 responses)

I consult tolisted public

companies onexecutive

remuneration

I consultto non-listed

privatecompanies

on executiveremuneration

I work as anexecutive

searchconsultant

I am responsiblefor the system inmy organisation

under whichexecutive

remunerationis determined

I contributeto the systemunder which

executives areremunerated inmy organisation

I have an activeprofessionalinterest inexecutive

remuneration

I have a passiveprofessionalinterest inexecutive

remuneration

6.38% 7.65%2.55%

25.26%

43.62%45.41%

25.77%

None ofthe above

7.40%

0

200

300

100

400

(393 responses)

No - (you will be askedto answer only partone of the survey)

Yes - (you will be askedto answer part one

and two of the survey)

61.07%

38.93%


SOURcES OF AdVIcEThe total sample group of 394 respondents were asked a number of questions seeking their views in this area, while the smaller group of specialists (�50) were asked what actually happens in practice.

A majority of all respondents (80.46%) believe that HR should be main source of advice to the CEO on executive remuneration, and a smaller majority (63.96%) believe HR should be main source of advice to the board of directors.

As indicated in tables 6 and 7, a smaller majority of the specialist group of respondents (63.76%) report that HR is actually the main source of advice to the CEO, while fewer than half (42.95%) report that HR is the main source of advice to the board of directors.

Table 6. Is HR the main source of advice to the CEO?

Table 7. Is HR the main source of advice to the board of directors?

0%

50%

75%

25%

100%

(149 responses)

Yes No

63.76%

36.24%

0%

50%

75%

25%

100%

(149 responses)

Yes No

42.95%

57.05%


Of the total sample, 96% believe external consultants should not be the exclusive source of advice to the board, with 78% taking the view that the best model is one in which HR draws on external expertise. A hefty 92% believe that boards should not rely on separate external reports in this area but take a holistic view.

As shown in tables 8 and 9, the specialist respondents report that only one in five CEOs (2�.92%) rely exclusively on external advice, whereas more than one in four boards (27.52%) rely mainly on external advice.

Table 8: Are external consultants the main source of advice to the CEO?

Table 9: Are external consultants the main source of advice to the board of directors?

0%

50%

75%

25%

100%

(146 responses)

Yes No

21.92%

78.08%

0%

50%

75%

25%

100%

(149 responses)

Yes No

27.52%

72.48%


Table �0 shows that when boards make decisions on executive remuneration, 7�.33% rely primarily on external advice within a framework that has been set up in-house. Only ��.�9% of boards rely on advice from a number of separate external consultant reports that they call for themselves, while �7.48% rely on one external consultancy that recommends an approach and guides the board in its decision-making.

Table 10: On what approach does the board rely when deciding executive remuneration?

Table �� shows that the specialist group of respondents report that the CEO is excluded from board deliberations on executive remuneration in 20.95% of cases.

Table 11: Does the board exclude the CEO when determining executive remuneration?

0%

50%

100%

(143 responses)

separate specialistconsultant recommendations

for different aspects ofexecutive remuneration?

11.19%

one external consultancy thatrecommends an approach to executive remuneration and

a structure that guidesimplementation of that?

17.48%

external consultant reportsand recommendations

within the framework ofthe structure set up by an

in-house management group?

71.33%

0%

50%

75%

25%

100%

(148 responses)

Yes No

20.95%

79.05%


To a question on whether boards have a direct financial interest in the remuneration levels of executives, table �2 shows that 69.67% of the total sample believe they have such an interest.

Table 12: Do board members have a direct financial interest in the remuneration of executives?

Perhaps as a way of countering that perception, table �3 indicates that 63.4% of the specialist respondent group believe that boards should publish market data and the rationale they have used to determine CEO and other executive remuneration.

The survey did not ask why they believe that or why 36.6% believe they should not publish such data. Whether that large minority believe that matters of privacy should over-ride transparency in the matter or that the data would run the risk of being misunderstood by shareholders is not revealed in the findings.

Table 13: Should boards publish data and the rationale used to determine executive remuneration?

0%

50%

75%

25%

100%

(389 responses)

Yes No

69.67%

30.33%

0%

50%

75%

25%

100%

(153 responses)

Yes No

63.40%

36.60%

Research Report �0page

Further on the matter of transparency, the specialist group was asked whether the annual report should publish data on the imputed benefit of executive remuneration to the individual, the accounting cost to the organisation, or both.

Table �4 shows that more than half of the respondents (58.82%) believe both should be published, one in five (�9.6�%) believe that only the benefit to the individual be published, and one in ten (�0.46%) that the cost the organisation only be published. One in ten (��.��%) believe that none of that information should be published.

Table 14: Should simple tabular data on executive remuneration be published in the annual report?

The specialist group of respondents, as indicated in table �5, report that nearly seven out of ten boards of directors (69.0�%) have responsibility for drafting CEO contracts.

A similar proportion of the sample group, as shown in table �6 (72.46%), consult with HR in the drafting process.

Of those respondents whose boards have responsibility for drafting CEO contacts, more than eight out of ten (83.�8%) report that the board members seek independent advice when drafting the contracts.

Table 15: Does the board of directors have responsibility for drafting CEO contracts?

0%

50%

100%

(153 responses)

of current andimputed annual

benefit to the individual

19.61%

of accounting costto the organisation

10.46%

neither

11.11%

both

58.82%

0%

50%

75%

25%

100%

(142 responses)

Yes No

69.01%

30.99%

Research Report ��page

Table 16: Does your board consult with HR in the drafting process?

Table 17: Of boards that have responsibility for drafting CEO contracts, do those boards seek independent advice in the drafting process?

0%

50%

75%

25%

100%

(138 responses)

Yes No

72.46%

27.54%

0%

50%

75%

25%

100%

(107 responses)

Yes No

83.18%

16.82%


As shown in table �8, almost three out of four of the total group of respondents (73.0�%) believe that members of boards often have difficulty understanding the technical complexity of advice they are given on executive remuneration.

Table 18: Do board members often experience difficulty understanding advice on executive remuneration?

SAMPLE RESPOndEnT cOMMEnTSAround two out of three respondents gave written responses to a question following answers given in table �8 on views about whether board members experience difficulty understanding the complexity of the advice given them on executive remuneration.

They were asked on what evidence they based their answers. What follows is a sample of responses.

‘Most of them have worked years in executive management ranks and know very well the ins and outs of how remuneration at that level is put together’

‘The number of questions asked, the looks on faces, the attitude and then the inability to walk the talk’

‘Having consulted to boards and led internal remuneration function of major ASX listed company I have seen board members who are not au fait with the remuneration landscape and some technical and philosophical complexities. It is perhaps a generational issue, where those who were senior executives in a time of less complex practices have not immersed themselves in contemporary thinking on the issue’

‘They are usually executives themselves, so they understand the components of it, and understand market forces and trends’

‘The incidence of inappropriate executive remuneration, especially at termination indicates a lack of understanding of the consequences of particular remuneration frameworks’

‘Board members differ in their experience and knowledge of remuneration technicalities’

‘Our directors are very experienced in remuneration matters’

‘Previous experience as a remuneration specialist in a private company’

‘It has been my experience that board members are, for the most part, intelligent persons, often coming from financial backgrounds and with a high level of business acumen. They should therefore be able to understand this type of advice’

‘Many board members are retired or at senior levels of organisations that are stagnant and therefore may not be in the best position to compare competitive salaries for executive levels’

0%

50%

75%

25%

100%

(389 responses)

Yes No

73.01%

26.99%


‘At not-for-profits, they are on the boards to satisfy their egos, not apply appropriate governance or advice’

‘Often directors of a board are not required to have any knowledge of or experience in the area of remuneration - other than their own’

‘I have sat on boards (including with the MD of a major aircraft manufacturer) and my experience is that many directors obtain their appointments through nepotism, political appointment or are promoted far above their experience and skills level. I am qualified in HR / IR / accounting, health & safety, leadership, financial markets, global treasury, derivatives and other disciples, after 37 years in the workforce reaching the position of CEO Australia for one of the top 10 companies in the world’

‘Often they compare the figures to top tier positions and not necessarily in context of the organisation they work for’

‘On my own consultancy role with private sector clients and on my own experience of being a member of government boards. I know how difficult it is to get advice. Also know how difficult it is for Boards to get the real information they require to do their job from within the company’

‘It seems to be that you are only as good as your last quarter results. It doesn’t really matter about the next 3-5 year just the immediate and short term ROI’

‘Experience as an adviser to several boards where the directors had little appreciation of market pay dynamics and statistical techniques to explain these dynamics’

‘The discussions I have observed regarding the components of total remuneration packages, particularly when cars are part of the package’

‘I am currently a director on a board and as a HR professional assist the board in deciding on remuneration, structure and HR strategy’

‘Watching in meetings and seeing them struggle to understand the basics of a combined tier and matrix program’

‘I think many have a tendency to view data in a light that supports their individual remuneration outcomes and desires’

‘Seeing a CEO obtain the sixth highest remuneration in a sector of 38 whilst not performing in the top six on any indicator’

‘Not evidence-based; simply my belief’’

‘I myself have served on a board of directors as the HR expert’

‘Feedback from senior HR managers who have delivered papers to the remuneration committee and full board on various issues’

‘Generally experienced board members occupy senior roles in industry and are familiar with executive remuneration advice’

‘Boards can only make judgments and decisions based on information they are given to Review and approve from the CEO, senior management, HR advisor or external consultant. Information should be presented in clear, plain English with clear plain (formula) examples. Any members of a board that purport to not understand what they have approved, should be removed from the board for not seeking clarification. If boards approve senior executive salaries, they are deemed to know and understand what they are approving’

‘Have experienced remuneration discussions lasting 1 hour only in relation to executive remuneration, where the research etc takes well over 1 hour to properly explain. They cannot or do not spend the time needed to fully understand the research and therefore the basis for the recommendations’

‘Some board members have no relevant experience-base with regard to remuneration and rely on the views of fellow directors’

‘The numbers of times they ask HR for clarification. The advice is written in industry jargon, which the board members do not understand. The board members are not necessarily in touch with staffing and IR matters (they should be)’

‘They will often revert to a market rate when presented with the evidence’

‘Board members often are elected with little or no knowledge of technical aspects’

‘Many board members are executives in their own right and may ‘match’ against their own biases’


‘My experience shows that board members have a tendency to use their own experience as their knowledge base which is often limited to being a recipient of a remuneration package, not the architect or implementer of the framework. This can skew objectivity in either direction’

‘Remuneration is like data from any specialist area that the board considers; not just the numbers need to be fully explained. There are examples where executive remuneration has driven short term behaviours that are detrimental to the business in the long term. Often this has not been obvious until damage has already occurred’

‘The boards I have been involved with have all been quite experienced and in some cases members are sitting on a number of boards. This knowledge and experience often leads to a better understanding’

‘Board members are in the most part intelligent people and have a duty of care to the organisation. If executive remuneration advice is technically complex, it should be resubmitted so that it is not complex, or change advisers’

‘Anecdotal evidence based on the type of questions asked’

‘Just an assumption’

‘Our Remuneration Committee is experienced and intelligent - they ask questions if they do not understand’

‘My time working with boards on CEO and executive remuneration would suggest that the issue of long-term incentive valuations is poorly understood’

‘Members were voted to the board based on their industry knowledge and technical expertise, including being able to read financial reports’

STRUcTURE OF EXEcUTIVE REMUnERATIOnThis section of the survey asked �50 specialist respondents to report on the operation of executive remuneration frameworks based on their experience in the field.

The great majority of that sample group report that their companies offer fixed remuneration comprising salary (98%) and superannuation (96%) with 79.33% adding in other expenses such as parking, car and club memberships.

As indicated in table �9, 72.67% of respondents report that basic statutory superannuation is offered, with 20% of respondent companies offering up to �5% of salary as superannuation.

Table 19: What type of superannuation does your organisation provide?

0%

50%

100%

(150 responses)

Basic statutoryentitlement

72.67%

10-15% of salary

20.00%

16-20%

6.00%

21-25%

0.67%

26-50%

0.67%


A total of 36.49% report a defined benefit superannuation scheme while 88.5�% report a contributory scheme. Of those reporting a defined benefits scheme, 7�% report the scheme is closed to new entrants.

IncEnTIVE STRUcTURESA total of 85.33% of respondents report that short-term incentives (STI) are cash-only with the remainder reporting share components. As indicated in table 20, nearly three out of four (72.87%) report that the short-term incentive potential is up to 50% of fixed salary., with ��.63% reporting from 50-75% and the remainder up to �00% or more of fixed salary

Table 20: What is the short-term incentive potential for senior executives?

In recent years, as indicated in table 2�, the specialist respondents report that the STI component has not increased relative to the long-term incentive (LTI) component in three out of four cases (73.76%).

Table 21: In recent years has the short-term incentive increased relative to the long-term incentive component?

0%

50%

100%

(129 responses)

Up to 50% of fixed

72.87%

51-75% of fixed

11.63%

76-100% of fixed

9.30%

100% of fixed or more

6.20%

0%

20%

40%

60%

80%

100%

(141 responses)

No increasedby up to

10% approx

11-20% 21-30% 3140% 41-50% 51-60%

73.76%

11.35%4.26% 2.13% 1.42% 2.13% 1.42%

increasedby morethan 60%

3.55%


Table 22 indicates that nearly half (42.25%) of respondents report share options have been excluded from the LTI in recent years.

Table 22: In recent years have share options been excluded from long-term incentives?

Table 23 shows that only 23.94% of respondents report their organisation offering share options as the primary part of a LTI scheme exercisable after 5 years or more.

Table 23: Does your organisation provide share options as the primary part of long-term incentive scheme exercisable after 5 years or more?

0%

50%

75%

25%

100%

(142 responses)

Yes No

42.25%

57.75%

0%

50%

75%

25%

100%

(142 responses)

Yes No

23.94%

76.06%


determining remunerationRespondents report on how executive remuneration is determined in the following proportions:

68.24% of respondents report that remuneration is linked to organisation performance

4�.89% report that remuneration is linked to individual performance

52.03% report that remuneration is linked to organisation culture contribution

83.78% report that remuneration is linked to short-term key performance indicators (KPIs)

77.03% report that remuneration is linked to progress towards long-term KPIs

92.47% report that STIs are linked to internally set KPIs

�3.7% report that STIs are linked to external comparators

76.55% report that LTIs are linked to internally set KPIs

37.24% report that LTIs are linked to external comparators

More than four out of five respondents (83.22%) report that their organisation benchmarks executive remuneration against other company data, using firms such as Hay, Mercer, Canberra Group or John Egan to provide the data.

Table 24 indicates that around three out of four companies (74.47%) benchmark external executive remuneration annually, with �5.6% doing so every two years.

Table 24: How often is external executive remuneration benchmarked in your organisation?

0%

50%

100%

(141 responses)

Annual

74.47%

Bi-annual

15.60%

Other - please specify

9.93%


To what is fixed remuneration linked?Table 25 sets out how the fixed remuneration of executives who are deemed effective in their role is benchmarked, with a substantial majority (65.7�%) being linked to the market median and only �4.29% linked to the third quartile.

Table 25: Of executives deemed effective in their role, what is the company policy on benchmarking and linking their fixed remuneration?

To what is total remuneration linked?Table 26 sets out how the total remuneration of executives who are deemed effective in their role is benchmarked, with a little more than half (52.55%) being linked to the market median, and nearly a third (27.0�%) linked to the third quartile.

Table 26. Of executives deemed effective in their role, what is the company policy on benchmarking and linking their total remuneration?

0%

50%

100%

(140 responses)

Market first quartile

7.86%

Market median

65.71%

Market third quartile

14.29%

Something else -please specify

12.14%

0%

50%

100%

(137 responses)

Market first quartile

9.49%

Market median

52.55%

Market third quartile

27.01%

Something else -please specify

10.95%


EXEcUTIVE PAY On TERMInATIOnThe respondents were asked to report on the extent to which executives were remunerated on termination.

Table 27 sets out the spread of fixed pay on termination for CEOs, and shows that less than one in ten (8.03%) is entitled under contract to �2 months or more pay.

Table 27. On termination, what is the CEO’s entitlement with respect to fixed pay?

Table 28. On termination, what are executive entitlements with respect to fixed pay?

Table 28 demonstrates that only a very small minority of executives (2.�6%) at one level from the CEO are entitled to more than �2 months pay on termination. The proportion is less than that for executives at a greater remove from the CEO.

0%

25%

50%

CEO(137 responses)

Less than threemonths fixed pay

18.98%

Three monthsfixed pay

18.25%

Six monthsfixed pay

24.82%

12 monthsfixed pay

29.93%

More than 12months fixed pay- please specify

8.03%

0%

25%

50%

One level from CEO(139 responses)

Less than threemonths fixed pay

33.81%

Three monthsfixed pay

26.62%

Six monthsfixed pay

22.30%

12 monthsfixed pay

15.11%

More than 12months fixed pay- please specify

2.16%


Proposed government cap on termination payPrime Minister Kevin Rudd was reported calling for a cap of �2 months pay on termination for CEOs and executives, and indicated that he would legislate accordingly in due course. As shown in table 29, less than one in four respondents (23.24%) believe that such a cap would have a material effect on their organisation.

Of that small sample of 37 respondents, most (97.3%) thought the CEO or managing director would be affected, two thirds (67.57%) thought CEO direct reports would be and a quarter (27.03%) thought executives at two removes from the CEO would be.

Table 29. Do you think a cap of 12 months on executive termination pay would have a material effect on your organisation?

On the question of whether such a cap would materially affect a company’s capacity to attract appropriate executive staff, around a quarter of respondents (24.��%) believe it would as indicated in table 30.

To further questions about whether, in the event of government legislating a cap, would the company consider moving its executives or the parent company offshore, to each question the affirmative answers amounted to fewer than �0% of respondents.

Table 30. Would a government cap on termination pay affect your company’s capacity to compete for staff?

0%

50%

75%

25%

100%

(142 responses)

Yes No

23.24%

76.76%

0%

50%

75%

25%

100%

(141 responses)

Yes No

24.11%

75.89%

Research Report 2�page

cEO cOnTRAcTSIn nearly seven out of �0 respondent companies (69.0�%) , the board of directors bears responsibility for drafting contracts for the CEO, as shown in table 3�.

Table 31. Is the board of directors responsible for drafting CEO contracts in your organisation?

Of the respondents whose boards are responsible for CEO contracts, table 32 shows that eight out of �0 boards (83.�8%) seek independent advice on the matter.

Table 32. In cases where the board is responsible for CEO contracts, does the board seek independent advice?

0%

50%

75%

25%

100%

(107 responses)

Yes No

83.18%

16.82%

0%

50%

75%

25%

100%

(142 responses)

Yes No

69.01%

30.99%


Around seven out of �0 boards (72.46%) consult with HR in the drafting of CEO contracts as shown in table 33, indicating that many boards seek in-house advice as well as independent advice on the matter.

Table 33. Does your board consult with HR in the drafting of CEO contracts?

Retention payments Around half the respondents (5�.37%) report that their organisation offers retention payments as a way of keeping critical staff, as shown in table 34.

Table 34. Does your organisation offer retention payments to keep critical staff?

Of the sample whose organisations apply retention payments, table 35 shows that seven out of �0 offer the payments to less than �0% of staff, with more than half (58.67%) offering them to less than 5%.

0%

50%

75%

25%

100%

(138 responses)

Yes No

72.46%

27.54%

0%

50%

75%

25%

100%

(146 responses)

Yes No

51.37%

48.63%


Table 35. If your organisation offers retention payments, what percentage of staff receive them?

Table 36 indicates that nearly two out of three organisations (63.33%) that are offering retention payments to critical staff are likely to continue to do so over the next �2 months.

Table 36. Will your organisation be likely to reduce retention payments over the next 12 months?

Other executive remuneration componentsExecutive loans

Respondents report that great majority of companies represented in the survey do not offer recourse loans (93.48%) or non-recourse loans (96.38%) to executives. Of the few companies that do, more than half (56.25%) have no caps other than a subjective assessment of the board or CEO. The remainder are roughly evenly divided between caps ranging from 25% to �00% of fixed remuneration.

Expenditure assistance for executives

Survey respondents report that less than half of the organisations represented offer assistance for housing (40.74%) or other living expenses (40%). However, more than half the executives (57.78%) are reported as receiving assistance for other expenses.

0%

30%

60%

(75 responses)

0-5%

58.67%

6-10%

22.67%

11-15%

6.67%

16-20%

8.00%

more than 20%

4.00%

0%

50%

75%

25%

100%

(90 responses)

Yes No

36.67%

63.33%


EXEcUTIVE REMUnERATIOn And SHAREHOLdERSAs shown in table 37, the great majority of respondents (87.69%) believe shareholders should be entitled to receive explanatory information by the board on the rationale for executive remuneration decisions prior to voting on a remuneration report.

Table 37. Should shareholders be entitled to receive further information on the rationale behind executive remuneration decisions?

However, table 38 shows that only a little more than half of the respondents (58.6�%) believe shareholders should have the capacity to vote down a remuneration report rather than record a dissenting vote.

That difference is probably because a remuneration report sets out what has happened, namely that the executives have already been paid, and a retrospective vote in the negative is thus problematic for all concerned.

Table 38. Should shareholders have the capacity to vote down a remuneration report rather than simply express dissent?

0%

50%

75%

25%

100%

(390 responses)

Yes No

87.69%

12.31%

0%

50%

75%

25%

100%

(389 responses)

Yes No

58.61%

41.39%


SAMPLE RESPOndEnT cOMMEnTSOn this contentious issue of shareholder participation in the board’s decision making on remuneration, respondents were invited to comment. A sample of comments is set out below:

‘The directors are meant to represent the interests of the shareholders, therefore the shareholders’ interest when tacitly expressed through a vote, must always override any decision of directors. That is, the shareholders own the company and as the owners the final control of the company should always be with them’

‘Shareholders are an integral aspect of an organisational ethics. They are the ones who are providing the financial capital and should have a say in the remuneration entitlements of the board’

‘Too complicated’

‘No - I believe any contract should be binding and not subject to disgruntled shareholders with axes to grind, BUT common sense should prevail’

‘I answered no due to the possibility of shareholders consistently voting a remuneration report down. This leaves too much power in the hands of the shareholders, if they have the option to express dissent then they also have the option of selling out their shares if they disagree with the remuneration report’

‘The management team should be able to run the business’

‘As a shareholder I really have very little chance to question the operation of the company. If I am lucky I may be able to ask a question at the AGM. Unlike the public sector which is open to scrutiny, listed companies have very little interaction with shareholders’

‘Shareholders are not responsible for attracting and maintaining high level talent within an organisation. The process will become too drawn out and problematic’

‘Opinions have merit and should be taken into consideration; however, the final decision on remuneration should not solely be based on a shareholder vote’

‘If they are sufficiently well-informed of the nature and terms of the remuneration then I think the answer should be ‘yes’. The CEO and board are accountable to shareholders, the public and customers. Voting on directors’ remuneration is part of that accountability’

‘Shareholder majority should take precedence over executive preferences as the latter tends to suit one or several individuals rather than the many who, collectively, own the company. The shareholders own the company, not the board’

‘Shareholders have a vested interest, and I believe a right to know, in the determination of salaries of executives whom the board have placed in positions of trust for those same shareholders’

‘Running a company is not a democracy. I believe shareholders can often make decisions based on personal best interests and not necessarily the best interests of the company’

‘Ultimately shareholders own the company and should have the final say’

‘It is up to the board to make such decisions, as the board is responsible for the governance of the organisation. The board should be held accountable by the shareholders for making appropriate decisions around executive remuneration’

‘The board of directors are there to represent the interest of shareholders. That is their function and they should be allowed to get on with the job’

‘Shareholders want a long term progression of performance. Staff want stability and structure.Remuneration schemes are paid on short term gain. CEOs and executives have no one to answer to and should be accountable for their performance. Golden handshakes should go Why provide the ability to input views without a voting system’

‘What is the point of shareholders expressing an opinion if it is ignored?”

‘There have been too many examples of shareholder dissent being ignored by boards.More power to the people and keeps things in perspective’

‘Because the board is ultimately responsible for running the company and making these Decisions. They can take consideration of the views of shareholders, but have to be operating at a higher level with a bigger picture’

‘Because boards have ignored shareholders’ views in regard to executive remuneration’


‘To allow the power to veto could cause the total failure of an organisation’s remuneration structure and severely hamper its ability to attract talent’

‘This could leave an organisation exposed as shareholders may not be in the best position to judge what is a competitive salary for an executive level. There would be a danger that shareholders would vote based on comparisons to their own personal situation which is not fair and could lead to issues of being able to attract suitable candidates at the higher end of the business’

‘They (the shareholders) are the owners of the company and their opinion should impact upon the operation of the company’

‘Shareholders of publicly listed companies should have no part in the management of a company, if they do not like the management, they have the right to sell their shares’

‘They elected directors - their dissatisfaction should be directed at them and not the CEO’

‘Shareholders ultimately own the company and bear the cost of poor decisions. Shareholders are often interested in the longer term prosperity of a company rather short term gains that make a CEO eligible for incentive payments’

A ROLE FOR AHRI In EXEcUTIVE REMUnERATIOnRespondents were invited to suggest whether AHRI had a role in executive remuneration, and if so, what that role should be. The comments that follow are a sample of responses.

‘Lobby for greater shareholder input and the reduction of power of boards to make decisions of great magnitude without prior shareholder notification and approval’

‘I believe AHRI should use it extensive membership database to put forward actual market Information’

‘Provide an assistance framework for setting CEO and executive remuneration to observe rules of proportionality’

‘As a peak professional body it should set up and provide research data, as well as set the strategic direction for this issue’

‘Informative - provide quality specialist contacts’

‘AHRI should be a consultant to the Productivity Commission in this matter and provide research that helps informed decision making regarding executive remuneration packages and especially any efforts to legislate Inquiry findings’

‘Provide market data from members. Be the voice of ‘the reasonable person’

‘Provide a broad submission outlining the key elements of a desirable remuneration framework’

‘Play an active role, together with peak employer associations, in informing and influencing government to take a balanced response’

‘A very vocal one’

‘Lobby for best practice’

‘Limited involvement’

‘As a representative of HR professionals, a collective voice with practical experience and to keep members informed of progress and where they may want to contribute, either as an separate organisation or as part of a sector’

‘Advice, research results shared, examples of structures, sharing experience’

‘Highlighting the need for HR units to play a strategic organisational role within companies and particularly with setting and negotiating executive packages and contracting same’

‘Provide advice on what actually occurs in industry and what impact proposed legislation will have on attracting and retaining talent’

‘Ensuring we end up with a fairer and more equitable remuneration system - the balance has tipped way too far in favour of excessive executive remuneration’


‘Inject common sense into remuneration discussions. Expose the myth of justifying extraordinary executive salary arrangements on so-called market drivers. Australia has excellent employees at all levels. The current market crisis is in most part due to greed and exploitation in an unregulated environment that has cost and will cost current and future generations dearly.’

’As the central HR authority in Australia, AHRI should take the lead on these types of matters and provide expert advice and assistance to members’

‘Stakeholder - nothing more!’

‘AHRI should play an active specialist role in the Productivity Commission Inquiry’

‘To be an additional voice’

‘Only comment at this stage was your survey was way too long’

‘An active advisory role to ensure that the Productivity Commission understands the ramifications of wage disparity in the current workplace’

‘Provide a paper detailing HR views by industry on executive remuneration practices’

‘The focus of the discussions and survey relates to executive remuneration for ASX and global multinational companies. There are also private company executives who may be impacted by any changes to legislation or rules. AHRI has the breadth of members to address all sectors in Australian businesses and ideally position themselves as independent advisers to any committee or review board. Note: In forming the survey responses it assumes we are the internal HR manager. I am an HR consultant to the private and public sector and have little direct input into the board or CEO recommendations. My previous life was as the remuneration director for an ASX top 50 company’

‘It has a legitimate role in at least submitting a position’

‘AHRI should take a prominent role in this matter as the peak HR body’

‘It should serve as a reality check. It is difficult for government to understand the workings of private enterprise’

‘Be an advocate for fair and transparent executive remuneration practices’

Australian Human Resources Institute LimitedABn 44 120 687 149 Level 10, 601 Bourke Street Melbourne Victoria 3000 T (+613) 9918 9200 F (+613) 9918 9201www.ahri.com.au

Attachment 2 Author: PETER WILSON - Peter Wilson is president of the Australian Human Resources Institute and chairman of Yarra Valley Water. This article will appear in the May issue of hrmonthly magazine. Publisher: Fairfax Publication: The Age, Page 6 (Mon 6 Apr 2009) Edition: First Section: Business As the sharemarket slumps, it's high time to rethink executive pay Government and industry must co-operate on this, writes Peter Wilson.

WITH much political fanfare, the Prime Minister, Kevin Rudd, recently announced a pay double-whammy. First, his Government would legislate to cap chief executive termination payments to one year's pay unless a shareholder vote agreed to more. The second was a Productivity Commission inquiry into executive remuneration, with former trust buster Alan Fels in the main seat. There was not much of a business-friendly look about any of this.

We have all been waiting for something to happen, and the sense within governments is that executive remuneration will rise no more. In fact, the reverse is openly canvassed.

So what has happened over the past 20 years? My own experience is instructive. In 1990, I moved to the ANZ Bank from a permanent secretary position in charge of a government department. My government job paid me $130,000: base pay, superannuation and a Ford.

At ANZ, I reported to the group CEO on a package of salary, superannuation and a Holden, totalling $133,000. I remember feeling a little indignant. Weren't the new foreign banks supposed to have pushed up competition and pay? Apparently not. As it turned out I was paid fairly in both sectors, which weren't much different in remuneration relativities.

In 1992, after a recession that threatened the existence of both ANZ and Westpac, a new ANZ CEO was installed on a package of $400,000, along with two other executive directors at around $230,000 to $240,000. I was still sitting fairly at the next level in the pay pack, on about $150,000. At that time, there were only discretionary short-term cash bonuses and no shares or options. Fixed pay represented 90 per cent of the total, on average.

Currently the head of a federal or state government department receives about $500,000, and up to $600,000 in the case of the federal Treasury boss. In contrast, the CEO of a major bank or a Telco earns between $4 million and $6 million, depending on how you work out the increments to personal wealth from bonuses and incentives.

So public sector heads' incomes have gone up three or four times over 20 years, and for their counterparts in leading private-sector companies about 10 to 15 times. The 1990s relativity is now well and truly broken.

Reputable business commentators regularly tell us that it all makes sense, as many top companies are now world market leaders with share capitalisations valued at 10 to 20-plus times what they were worth 20 years ago. The risks of being in these top jobs are also high, with average CEO tenure being four to five years. And when the CEOs move out, so do

many at the next level. I have done this twice in my career. It's expected that next-generation executives will manage at least four or five unplanned moves.

The r eal change in private-sector pay relativities came in the early 1990s when the US and European investment banks really hit our shores. As world markets globalised and capital became more freely available, high premiums were paid to investment bankers who could pull companies apart and put them back together for major improvements in shareholder value, or at least expected ones.

Their remuneration structure had a base cash salary comparable to other industry executives, but it represented only 20 per cent of their total income, and 80 per cent sat within target incentives.

Our largest organisations lost many top people to Credit Suisse, UBS, Merrill Lynch and Goldman Sachs, among others. Malcolm Turnbull is an example, as is former Victorian treasurer Alan Stockdale, who moved to Macquarie Bank.

Local banks responded with pay structures with tougher performance objectives and much bigger payouts for short- and long-term results.

In one year during the 1990s my pay at ANZ doubled. At the beginning of that year I received a letter advising me of the pre-tax and post-tax value of my fixed remuneration and how I could flex and salary-sacrifice the components of it in interesting ways. In addition, I was given a set of demanding performance objectives, and some further out-performance targets, against which higher short-term cash bonuses could be paid. On top of all that, there were share options issued with retention and effective personal performance hurdles.

As an up-and-coming senior bank executive I decided to super-stretch myself to deliver as much as possible. It worked. My wealth doubled from more pay gains. The bank thereafter ratcheted up my targets, and attached more demanding qualifying conditions to my longer-term incentives. But the formula still worked to give me 20-50 per cent pay increases annually.

Later the effect moved across from commercial banking to retail with the arrival of smarter credit cards and other electronic banking wizardry. Retail bankers had their day in the sun, joining the corporate lenders in pay status. Other corporations had to keep up with the banks, or lose their best people.

Until 2008.

That's when share prices of finance houses dropped at least 50 per cent to 80 per cent in a few months, but executive pay did not seem to reciprocate. When US taxpayer bail-outs were used by AIG to pay retention bonuses for top executives, all sympathy and patience within government was lost. The political sabres began rattling with menace.

Our world still has the potential to be an open and astonishingly competitive marketplace, and in the end that's unlikely to change. But if poor policy choices in future eventuate in the here and now, the consequences for our economic recovery will resonate for a long time. Without doubt, a more co-operative government-industry approach can help prevent that.

Peter Wilson is president of the Australian Human Resources Institute and chairman of Yarra Valley Water. This article will appear in the May issue of hrmonthly magazine.

Attachment 3 (following)

No directionPeter Wilson says it’s time company directors had an education

At the end of a recent rowdy annual meeting of shareholders for an ASX-listed company, an elderly woman turned to me and said: “This board of directors is like a

group of badly behaved teenage boys in their mid-60s.”

She was understandably perplexed after witnessing a dismal attempt to defend a contentious remuneration report. It brought home to me two critical characteristics that have bypassed the world of company directors: compulsory training in professional standards; and a licence to operate.

When visiting a lawyer, medical practitioner, architect or accountant, the expectation is that the person sitting opposite is thoroughly trained and has satisfied the full and continuing education requirements of an esteemed professional body. Failure to achieve the required standard will result in denial of entry to the field of professional practice, and failing to maintain the standard will result in disqualification.

Company directorships are one of the few noteworthy areas of professional practice for which no formal barrier to entry exists.

A significant informal barrier to entry exists, however, and it operates to exclude all but an intimate few. A scene from a Yes Minister television episode illustrates this. The minister asks a top British bank chairman how he was appointed. “In my walk of life, chaps look after chaps,” was the reply.

While I am a strong believer in the value of personal networks and sharing experiences

with colleagues, ordinary shareholders should not have to rely on that alone to safeguard their interests.

The annual reports of large listed companies reveal that about 10 per cent of directors are women. Among the major resources company boards, there are no indigenous Australians. Male caucasians, often in their late 60s, rule the roost on top listed boards and many are on multiple boards. Executive search firms will say they have all this in hand, but they play a part in only a minority of appointments and are inherently conflicted by the link between their source of future income and board appointments.

How different it might have been had objectively structured standards of ability, independence, governance and training been applied to the appointment of global banking directors over the past 10 years.

In the immediate and medium future, much attention is likely to be directed at the issues of executive pay and accounting disclosure standards, but any efforts in those areas risk missing the main game - how to train, select and appoint the captain and officers of the corporate vessels to whom are entrusted the welfare of workers, shareholders and the general community.

At present, directors largely recommend board appointments from a self-selected number, supplemented by recently retired CEOs, CFOs and ex-auditors. From my experience in dealing with institutional shareholders, their capacity to provide checks and balances is limited by their reluctance, often as a matter of policy, to intervene in

This board of directors is like a group of badly behaved boys

COMPANY DIRECTORS

board appointments. That practice underpins a default bias for director incumbency that can drag on for many years.

A century ago, an English judge hearing a company law matter was reputed to have observed that the board of directors in the case was akin to a class of mediocre students who had marked their own exam papers. A hundred years later that observation still rings true.

Being a company director carries high levels of financial accountability, ethical responsibilities and fiduciary duties covering investors, employees, customers and the wider community. It should not be a club operating in accordance with an informal and discriminatory entry system where “chaps look after chaps”.

When the financial crisis is behind us, the community will once again look to company boards to accelerate the economic recovery into continuing prosperity.

The time has come for directors to be subject to compulsory education and regular independent assessment of their competence to serve.

In the case of directors of large listed companies, the standards required and licence to practice as directors should be comparable with other professions. At present any professional development undertaken through bodies such as the Australian Institute of Company Directors is discretionary.

Compulsory education would include coverage of relevant legislation, judicial decisions and case studies to demonstrate the complexity at times of having to act in shareholders’ interests. Assessment by an independent panel of examiners would be followed by the posting of results and rankings on the websites of the Australian Securities and Investments Commission and the Australian Stock Exchange, thus ensuring transparency.

A licence to practise should be retested every few years and strict time limits put on holding an independent directorship with any one large company. Family-owned and small businesses where directors and shareholders are the same people would be excluded.

Ultimately, any reforms should become part

of the Corporations Act, including giving ASIC the power to issue a licence for a person to operate as an independent company director and the power to revoke it when necessary.

The reforms would not change the existing responsibility of boards to recommend director appointments to shareholders, whose vote would determine the outcome. However, the recommendations would be based on transparently qualified candidates meeting the standards prescribed by law.

The outcome would be to boost the quality of board members and community confidence in them.

A reform blueprint of this order will be likely to cause dissent among many present directors who have relied on their networks alone to secure appointments. However, many directors would welcome such a reform as a way of lifting standards and purging the ranks of free riders who can imperil business decisions that have far-reaching effects on employees, customers and ordinary shareholders.

PH

OTO

LIBR

AR

Y

COMPANY DIRECTORS

22 HR MONTHLY MAY 2009

ADVERTISEMENT1/2 Horiz Type

Company director reform – A blueprint1. Acompulsorybasicprofessionaleducationqualification,which

couldbedeliveredthroughanaccreditedprivatebodyorapublicinstitution.Asaminimumthecurriculumwouldcovercompanylawandpractice,includingkeylandmarkjudicialdecisions;otherfederalandstatelawswithwhichcompaniesarerequiredtocomply;taxationlaw;employmentlawsandpeoplemanagementpractices;accountingstandardsandprinciples;andcomplexcasestudiesaroundactinginthebestinterestsofshareholders.

2. Completionofanindependentdirectors’assessmentprocesswithstandardssetandresultsoverseenbyastatutorybodyestablishedundertheCorporationsLaw.

3. Aminimumlevelofcontinuingprofessionaldevelopment.4. Regularretestingandre-licensing,sayeveryfiveyears,asa

preconditionforappointmenttoaboardofdirectorsforathirdterm.5. EvenmoreadvancedtrainingandtestingforverylargeASXlisted

corporations,wheretheskillandexperiencerequirementsmustbeofthehighestlevel.

6. Acompulsorymaximumtermof10yearsforholdingadirectorshipontheboardofanysignificantcompany,withnoprovisionforexemptions.BoardsneedtobeexposedtoturningthemselvesoverwithafrequencyakintomovementsinCEOsandtopmanagement.

7. PublicationonlineofallqualifieddirectorlistsbyASIC,andarequirementforcorporationstopublishtheirdirectors’qualifications

[There should be] a provision for

disqualification, or suspension, of a

director’s licence if the company is

convicted of a major offence ...

COMPANY DIRECTORS

MAY 2009 HR MONTHLY 23

ADVERTISEMENT1/2 Horiz Type

anddatesofassessment,licensetenuretermsandtestingresultsinannualreports–muchthesameasthescorespublishedforyear12studentssothereistransparencyonwhetherthebestprofessionallytrainedandassesseddirectorsaregettingthroughtotheboardsofthelargest,mostchallengingandcomplexorganisations.Ifnot,theordinaryshareholdercanthenbeatlibertytoask:whynot?

8. Transitionprovisionsofupto24monthsforcurrentdirectorstoeitherbecomeaccreditedinthisnewworldorstepdowninfavourofsomeonewhois.

9. Provisionfordisqualificationorsuspensionofadirector’slicenceifthecompanyisconvictedofamajoroffenceorsuffersasignificantlossofitsmarketcapitalisationvalueduringayear,withanyshareholderhavingtherighttopetitionsuchactiononcecertainthresholdshavebeenreached.

10. Asacorollary,ASICshouldbeauthorisedtoappointaninterimboardoftrusteedirectorsfromanapproveddirectorlistintheeventthatmorethanhalfofaboardislostduetodisqualification,orwheretheboardsizeminimumsareinvokedthroughsuspensionordismissal.

11. Exemptionstotheseprocedureswouldbeavailableforsmallbusinessesandfamilyownedcompanieswheretheownersconstituteallthedirectors,andpossiblycharitableinstitutionsandnot-for-profitboards,where“othershareholder’smoney”isnotinvolved.Governmentboardscouldcomplywiththisbyministerialconsent,dependingonthe

entity’snature.Beingdirectorsofsuchbusinesseswouldstillcarrytheobligationtocomplywithbasiclawsaffectingcompanies.

12. TheseprinciplesandstandardsshouldapplytoCEOswhowishtoassumetheroleofmanagingdirectoraswell.

13. Rigorousassessmentofdirectors’performancetobeundertakenannually.Bestpracticeboardswouldcommittoexternalassessmentoftheirperformance.

14. Ifaprofessionaleducationsystemlikethisisshowntoworkwell,itcouldbeusedtoenhanceefficiencyinthefunctioningofthelabourmarketfornon-executivedirectors.Specifically,directorscouldindicatetheircandidatureforforthcomingboardvacancies–onlineviasuchanewdirector’squalificationlisttotargetcompaniesontheASXorprivateonesviatheASIC.Candidatescouldthenbeselectedforshort-listinterviewingbasednotonlyontheirexperience(asatpresent),butalsobasedontheirrelativescoresfordemonstratedcontemporaryknowledgeandability;targetcompanies,andindeedshareholdersandthepublic,wouldthushaveobjectiveandrecentdataavailableonthewebinformingthemofhighpotentialmenandwomencandidatesforboardposts. l

AHRI national president, Peter Wilson has worked as a senior executive in two ASX 30 companies and has served on two ASX listed company boards as a non executive director. He has chaired and served as a director on a number of public and private boards. He presently chairs the boards of the Australian Human Resources Institute and Yarra Valley Water, and is a director of two offshore corporations. He is a Fellow of the Australian Institute of Company Directors, and a member of CPA Australia.

Attachment 4 Author: Peter Wilson - Peter Wilson is national president of the Australian Human Resources Institute. Read an extended version of this article at www.ahri.com.au/cdblueprint Publisher: Fairfax Publication: The Age, Page 10 (Thu 5 Mar 2009) Edition: First Section: Business Self-examination of chaps is no standard Let's legislate professional standards for directors, writes Peter Wilson.

AT THE end of a recent rowdy annual meeting of shareholders for an ASX-listed company, an elderly woman turned to me and said: "This board of directors is like a group of badly behaved teenage boys in their mid-60s."

She was understandably perplexed after witnessing a dismal attempt to defend a contentious remuneration report, and it brought home to me two critical characteristics that have bypassed the world of company directors: compulsory training in professional standards; and a licence to operate.

When visiting a lawyer, medical practitioner, architect or accountant, the expectation is that the person sitting opposite is thoroughly trained and has satisfied the full and continuing education requirements of an esteemed professional body. Failure to achieve the required standard will result in denial of entry to the field of professional practice, and failing to maintain the standard will result in disqualification.

Company directorships are one of the few noteworthy areas of professional practice for which no formal barrier to entry exists.

A significant informal barrier to entry exists, however, and it operates to exclude all but an intimate few. A scene from a Yes Minister television episode illustrates this. The minister asks a top British bank chairman how he was appointed. "In my walk of life, chaps look after chaps," was the reply.

While I am a strong believer in the value of personal networks and sharing experiences with colleagues, ordinary shareholders should not have to rely on that alone to safeguard their interests.

The annual reports of large listed companies reveal that about 10 per cent of directors are women. Among the major resources company boards, there are no indigenous Australians. Male Caucasians, often in their late 60s, rule the roost on top ASX boards and many are on multiple boards. Executive search firms will say they have all this in hand, but they play a part in only a minority of appointments and are inherently conflicted by the link between their source of future income and board appointments.

How different it might have been had objectively structured standards of ability, independence, governance and training been applied to the appointment of global banking directors over the past 10 years.

In the immediate and medium future, much attention is likely to be directed at the issues of executive pay and accounting disclosure standards, but any efforts in those areas risk missing the main game - how to train, select and appoint the captain and officers of the corporate vessels to whom are entrusted the welfare of workers, shareholders and the general community.

At present, directors largely recommend board appointments from their own self-selected number, supplemented by recently retired CEOs, CFOs and ex-auditors. From my experience in dealing with institutional shareholders, their capacity to provide checks and balances is limited by their reluctance, often as a matter of policy, to intervene in board appointments. That practice underpins a default bias for director incumbency that can drag on for many years.

A century ago, an English judge hearing a company law matter was reputed to have observed that the board of directors in the case was akin to a class of mediocre students who had marked their own exam papers. A hundred years later that observation still rings true.

Being a company director carries high levels of financial accountability, ethical responsibilities and fiduciary duties covering investors, employees, customers and the wider community. It should not be a club operating in accordance with an informal and discriminatory entry system where "chaps loo k after chaps".

When the financial crisis is behind us, the community will once again look to company boards to accelerate the economic recovery into continuing prosperity.

The time has come for directors to be subject to compulsory education and regular independent assessment of their competence to serve.

In the case of directors of large listed companies, the standards required and licence to practice as directors should be comparable with other professions. At present any professional development undertaken through bodies such as the Australian Institute of Company Directors is discretionary.

Compulsory education would include coverage of relevant legislation, judicial decisions and case studies to demonstrate the complexity at times of having to act in shareholders' interests. Assessment by an independent panel of examiners would be followed by the posting of results and rankings on the websites of t he Australian Securities and Investments Commission and the Australian Stock Exchange, thus ensuring transparency.

A licence to practise should be re-tested every few years and strict time limits put on holding an independent directorship with any one large company. Family-owned and small businesses where directors and shareholders are the same people would be excluded.

Ultimately, any reforms should become part of the Corporations Act, including giving ASIC the power to issue a licence for a person to operate as an independent company director and the power to revoke it when necessary.

The reforms would not change the existing responsibility of boards to recommend director appointments to shareholders, whose vote would determine the outcome. However, the recommendations would be based on transparently qualified candidates meeting the standards prescribed by law.

The outcome would be to boost the quality of board members and community confidence in them.

A reform blueprint of this order will be likely to cause dissent among many present directors who have relied on their networks alone to secure appointments. However, many directors would welcome such a reform as a way of lifting standards and purging the ranks of free riders who can imperil business decisions that have far-reaching effects on employees, customers and ordinary shareholders.

Peter Wilson is national president of the Australian Human Resources Institute.

Read an extended version of this article at www.ahri.com.au/cdblueprint

re: submission to the executive remuneration … may 2009 executive remuneration inquiry...

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