Compensation law strikes fear

Executive CompensationIn full disclosure, the idea for this post came from an article about compensation law in Australia. It caught my eye because one of my former employers plans to hold its initial public offering on the Australian Stock Exchange. However, similar rules exist for US companies.

Twelve ASX 300 companies have received a first “strike” under the new “two strikes” law in Australia that allows shareholders to oust directors if a company’s remuneration report receives 25 percent or more “against” votes for two consecutive years. The controversial rule is part of an amendment to the Australian Corporation Act that went into effect July 1, 2011.

Matt Orsagh at the CFA Institute lists this as one of the most significant developments in Australia in 2011. He points out that the law makes it possible to engineer board turnover, particularly when there is a relatively small number of shareholders.

The corresponding rule in the US is called a “say on pay” vote (SOP). Beginning in 2011, most public companies are required to submit executive officer compensation to a non-binding shareholder vote every one to three years, as determined by the board. In this article from Financial Executive Magazine, it was reported that shareholders returned a negative SOP vote in 1.5 percent of the companies holding a vote.

The implications for the companies receiving negative votes are huge. It happens primarily when executive pay is out of sync with shareholder returns and puts tremendous pressure on investor relations. In extreme cases, there is also litigation risk to consider.

My two cents is that companies should communicate and rationalize executive compensation year-round rather than waiting until an annual meeting or an SOP vote. This would likely resolve many of the negative votes. For the rest, the rule is doing what it was designed to do, which is force boards to make better decisions about executive compensation!

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