The Advisors' Blog

– Broc Romanek, CompensationStandards.com

The following are excerpts from a recent Governance Exchange interview with Jella Benner-Heinacher, managing director and counsel for Deutsche Schutzvereinigung fur Wertpapierbesitz (DSW), which is Germany’s largest association of retail investors. The German government has commissioned DSW to study the impact of 2009 legislation requiring an advisory vote on executive compensation. Stephan Costa of the ISS London office conducted this interview.

Costa: The Act of Appropriateness of Management for Compensation came into existence a little over a year ago, in August 2009. This initiative changes the practice of management compensation and its determination by the supervisory board. DSW was tasked by the German government to study the effectiveness of this law. Can you provide us with some background and key findings of the study?

Benner-Heinacher: Sure. First of all, I would like to underline that this new law has had a large impact on our daily work and on the corporate governance practices in Germany. DSW was asked by the German government to prepare a study on our experiences with this new “say on pay” system for the 2010 proxy season. Although the study is not yet published, let me tell you about some of the key findings.

Let’s start with some statistics. Twenty-eight out of the 30 DAX companies–the leading and the largest companies in Germany–introduced a new pay system for directors. I find this to be quite revolutionary by German standards. Twenty-one out of 30 DAX companies consulted an external expert on remuneration for advice when they prepared their new pay systems. This indicates that, before now, this was not the case. In my opinion, this is quite revealing. And obviously, there was need for external advice.

Twenty-six of the 30 DAX companies actually put this new “say on pay” possibility on their agenda this season. One company didn’t put it up as a resolution, but [presented it instead] for informational purposes only. So, I would say the majority of the DAX 30 companies really used this new law, and tried to ask their shareholders to support the new pay system. This represents quite a big step for Germany.

Costa: What did the German government seek to achieve by introducing “say on pay”?

Benner-Heinacher: Its intention was very clear. It wanted to introduce a higher degree of responsibility for the members of the supervisory board. The supervisory board is responsible in Germany for fixing the remuneration of directors [on the management board]. This requires them to look at the long-term variable part of pay and sustainability regarding the incentives of pay. This can also be partially attributed to the lingering effects of the financial crisis.

Costa: Do you see a movement toward this aim being achieved?

Benner-Heinacher: Yes. But, we have to be careful, because we had a look at the DAX 30 companies, which are the leading and the largest companies in Germany. But we should not generalize. We also had a look at the midsize and the smaller companies in the MDAX, SDAX, and TecDAX. And to tell you the truth, there is still a long way to go. Only a few of the mid- and smaller cap companies really paid close attention to the new rules. The clear majority of the MDAX companies did not.

Costa: Do you think that there was a cost consideration of implementation?

Benner-Heinacher: No. I think it’s always the DAX 30 companies that lead the way in Germany. They’re still the model companies for corporate governance change. Everyone is looking at them to see what they are doing. For the first proxy season, these changes were accepted by the DAX 30 companies. Hopefully, the medium and smaller-cap companies will follow suit in 2011 and 2012.

Costa: Were there any examples of significant shareholder votes against remuneration this past proxy season? And if so, what were the shareholders’ reasons for opposing?

Benner-Heinacher: Yes. There’s actually one very good example, and that was the general meeting of Heidelberger Cement. The majority of shareholders–54 percent–voted against [management’s “say on pay” proposal.] Now you would say it’s not binding, and it’s only an advisory vote; but nevertheless, the public criticism was very loud. And the supervisory board promised that they will reexamine the pay system going forward.

The reason why the majority of the shareholders opposed the “say on pay” [proposal] was in their view the inappropriateness of the pay. And there was also an issue of a EUR 5 million extra bonus for the directors. This did not please the shareholders. Second, besides the inappropriateness, there was also a lack of transparency of the directors’ pay. So, if shareholders do not really understand the “say on pay” system and are not convinced that this is the right one, then they will vote no.

Costa: This legislation has aligned Germany with the U.K. and Holland, where it’s common practice for the shareholders to vote on executive remuneration and where companies consult investors on a regular basis about such issues. Have you seen a noticeable increase in dialogue between investors and the board, as we have seen in the U.K. and in Holland?

Benner-Heinacher: Yes. We are seeing a real strengthening of the dialogue between the institutional investors, investor representatives such as DSW, and the issuers. Not as much at the board level, because in the German system, it’s the investor relations manager who is tasked with meeting with shareholders. But it is fair to say that there is an ongoing dialogue, especially before the general meeting season even gets started.