Understanding Shareholders’ "Pay-for-Failure" Complaints
This is excerpted from IRRC’s Corporate
Governance Highlights (August 6th edition), with
permission.
Most experts agree that executive compensation
programs should reward executives for superior performance while
ensuring that the long-term interests of a company and its
shareholders are being well served. Since these extraordinary
severance arrangements assure covered executives of specified
benefits, some activists believe they reduce management
accountability to shareholders and may reduce their motivation to
maximize shareholder value.
Others assert that severance packages are
unnecessary and a waste of corporate assets that might be better
used for other corporate purposes, such as research and development
and capital expenditures. Investors have indicated concern about
large severance packages through submission of and voting on
proposals requesting that companies limit their total value
(generally, to no more than three times salary plus bonus) or submit
them to shareholder votes. Eighteen such proposals that were
considered at 2003 annual meetings and received average support of
57 percent of the votes cast. So far, IRRC has voting results for
17 similar proposals in 2004 that received average support of 48
percent of the votes cast.
Schering-Plough and Duke Energy offer two examples of what may be
motivating shareholder complaints─both granted generous departure
packages to executives who led the companies during a time when the
stock price declined.
Early
Retirement at Schering-Plough
From
1986 through 2003 Richard Jay Kogan, age 62, served at various times
in top executive posts at Schering-Plough. In November 2002, he
stepped down from the position of chairman and signed a retirement
agreement that established the terms of his exit (which the company
says was based on certain terms in the employment contract Kogan
first signed in 1989). He retired as CEO and president in April
2003, when his successor was named. Under Kogan’s watch, according
to the performance graph provided by the company in its 2004 proxy
statement, a $100 investment in Schering-Plough stock in 1998 was
worth only $35 by the end of 2003. The same amount invested over
the same period in the S&P 500 Index would have been worth $97, and
in the company’s composite peer group would have been worth $95.
Under
his arrangement, in 2003, Kogan received his base salary at the
annual rate of $1.4 million, no bonus, and $380,159 in other annual
compensation and benefits, which included value for the renovation
and furnishing of an office away from Schering-Plough property and
secretarial support at that office. Kogan’s retirement agreement
also provides for about $13 million in payments and benefits. That
includes a lump sum cash payment generally equivalent to three-times
his salary and highest bonuses, a pro-rated bonus for 2002, three
years of benefits coverage, and an amount to cover supplemental
pension benefits based on an additional three years of employment.
Kogan’s
total lump sum payment for his supplemental pension¾amounting
to $27 million¾was based on
the actuarial value of 55 percent of his final average compensation,
paid annually for life, and an annual a survivor benefit for his
wife equal to 45 percent of his final average pay. The retirement
package also includes full vesting of all his stock options¾at
the end of fiscal 2003, he held 1.6 million exercisable options,
although they were all underwater at that time. He also is entitled
to an office and various executive-level support services, including
secretarial, transportation and security services. In addition
to this lump sum, Kogan is receiving $3,856 each month from the
qualified pension plan.
Early Retirement at Duke Energy
The former chairman and CEO of Duke Energy
Richard Priory, age 57, also was handsomely compensated in his
severance agreement. He resigned from both positions in November
2003. According to the 2004 proxy statement performance graph, a
$100 investment in the company at the end of 1998 would have dropped
in value to $78 by year-end 2003. The same investment in the S&P 500
Index would have been worth $97, and in the company’s peer group,
the DJ Utilities, $104.
In 2003, Priory received a base salary of $1.2
million, a bonus of $1.1 million, and an aggregate of $397,582 in
other compensation.
Effective upon his resignation, $4.8 million
worth of severance benefits became payable to Priory, and Duke
Energy also agreed to pay up to $65,000 for legal fees he incurred
in connection with negotiation of the separation arrangement. He is
also entitled to continued use of office space and secretarial
support at corporate headquarters (similar to other retired inside
directors of Duke Energy)
Priory’s severance package is based on a
multiple of two with respect to his compensation and benefits. That
includes a lump-sum payment of two times the sum of his base salary
and target bonus (plus a pro rata target bonus payout for the
termination year), the present value of two years of continued
company contributions to pension and savings accounts, two years of
benefits continuation, and continued vesting of his outstanding
long-term incentive awards (including stock options or restricted
stock but not performance share awards) for two years following the
termination date.
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