DSW's Survey on Director's Pay 2008

Public and political interest in directors’ pay has tremendously increased in recent years; awareness and criticism has never been greater. It is rumoured that Porsche CEO Wendelin Wiedeking received around 100m EUR in 2007, which is approximately 0.9% of Porsche’s net profit, as a result of Porsche’s investments into VW. This has led to a public outcry for greater regulation of management remuneration.

DSW, as Germany’s largest investor association, has been dealing with the topic of directors’ pay since 2001. Our Survey on Directors’ Pay has significantly added to the public’s awareness and consequent debate regarding regulation and salary limits. DSW was the first German organisation to take a close look at executives’ remuneration and analysed it.
Structure and appropriateness of management remuneration of DAX and MDAX companies is analysed based on a number of different variables. Apart from the fixed salary, we analyse the variable components as well as share-based remuneration components. Additionally, we surveyed the remuneration French, Swiss and US large cap companies paid their executives in 2007. We conducted our survey in partnership with the Business and Controlling Department at the TU München. One of the key findings of our study is that the outcry for regulation and tighter control by the politicians as a response to so-called “excessive” or “obscene” salaries is (safe for few exceptions) in fact unwarranted and would actually be counterproductive
to the German economy.
DSW is of the opinion that decisions regarding directors’ pay should be taken by companies’ shareholders, as they are the ones paying for it and managers can be seen as their “asset managers”. One step in the right direction has already been made: In 2008 a new recommendation has been implemented in the German Corporate Governance Code recommending that the entire supervisory board should be involved in deciding on management board members’ remuneration. Although we noted improvements, the DSW Survey still revealed a lack of transparency when it comes to disclosure of directors’ pay. Almost every company has different formats and standards for reporting executive remuneration. Standardisation is required in order to increase comparability and general transparency.

A further issue we face lies in the area of severance and interim payments. Publication of these payments to board members is a legal requirement, however, companies are only required to disclose “significant” payments if they deviate significantly from those for employees. It would be a great improvement to see standardisation and an increase in transparency in this component of executive
remuneration.
Another deficiency we note is the legal possibility to opt-out from individual disclosure of management board members remuneration. This clause enables companies to opt-out from the individual disclosure of management board members’ remuneration if three quarter of the shares present at the general meeting support such a proposal. In 2008 we noted that a number of companies with a major shareholder used this possibility also in preparation of their IPO, a proceeding which we do not consider as being a sign of good corporate governance. DSW agrees that a significant improvement would be extending the lockup period for stock options as this would lead to a more long term approach of such kind of remuneration. However, we believe it is not necessary to establish a new law, an amendment to the Corporate-Governance- Kodex will suffice.

The Results
The average executive manager of a company listed in the DAX-index received 2.926m EUR in cash and share-based remuneration in 2007. Excluding CEOs, average compensation drops to 2.615m EUR. On average, management board members’ remuneration increased by 7.75% from 2006 to 2007. This is a relatively big increase, however, taking into account company performance, an increase of 7.75% remains reasonable as company profits increased by 18% during the same time period and management board members’ remuneration accounted for 0.64% of personnel cost in 2007 and 0.65% in 2006. Additionally, our survey showed that the average management board members’ remuneration accounted for 1.37% of net profit in 2007 and 1.17% in 2006. Concluding, we think it is fair to say that executive pay has not been out of line.

The average remuneration of a DAX 30 management board member in 2007 was structured as follows:
26% was made up of fixed salary, 56% came from variable bonuses, linked to short term company performance, and 18% were bonuses linked to share performance. From DSW’s point of view high amount of short-term bonuses over emphasize the short term performance of the company with regard to directors’ pay and do not place enough importance on long term performance. DSW believes that 2/3 of compensation should derive from long term variable incentives. This could be closer linked with stock options or using multi-year averages to calculate bonuses. It is important to mention that some companies have already taken a more long term stance towards remuneration.

It is also important to look at the pension provisions of managers. On average, pension benefit costs for a management board member of a DAX 30 company amounted to 0.4m EUR in 2007. However, this figure differs greatly: From cancellation of pension provisions at SAP amounting to 0.34m EUR at SAP to alloca tion to reserves at Merck amounting to 1.975m EUR.

In the DSW Survey we also looked at “golden hellos” as well as severance payments. In 2007, 10 DAX companies made such payments, in 2006, there were only 4. Here, Deutsche Börse is noteworthy: severance payments of 7.5m EUR and 9.1m EUR were made to Matthias Ganz and Mathias Hlubek respectively. Thomas Eichelmann, CFO at Deutsche Börse, received a 2.7m EUR “golden hello” to compensate for missing out on his previous employer’s bonus. Peter Löscher, CEO of Siemens, received a “golden hello” of 8.5m EUR. Dr. Klaus Kleinfeld, his predecessor, received 5.8m EUR in compensation for adhering to his confidentiality agreement and in advisory mandates after he left the company.

A spot on the MDAX
This year’s Pay Survey for the first time took a look at companies listed in the MDAX to analyse how German mid-cap managers’ remuneration is structured and how transparent the companies are towards their shareholders. The average executive received 1.486m EUR in 2007 in cash and share-based remuneration. In comparison to the previous year, remuneration increased by 8.34%. Jochen Zeitz, CEO of Puma, is the number one paid executive in the MDax with 7.2m EUR followed by HeidelbergerCement CEO Bernd Scheifele with 6.1m EUR in total remuneration. The survey showed that transparency in the MDAX is significantly lower than in its prime counterpart, the DAX: 10 out of 50 companies did not report individually on their managers’ remuneration. Moreover, one must frequently calculate remuneration based on numbers found in various sections of the annual report.

The Directors’ Pay Abroad
The question whether directors’ pay is appropriate, is primarily based on company performance. However, it is also important, to take a look at directors’ pay in other countries with well established capital markets.

This year, DSW therefore also surveyed management remuneration in France, Switzerland, and the US by examining the cash remuneration of CEOs in each countries main stock index: the Dow Jones in the US, the SMI in Switzerland, and the CAC40 in France. French companies generally do not reveal the values of the options they grant, thus we focused on the fixed salary as well as on the variable bonus. If CEOs were active only during a fraction of the year, we calculated the yearly equivalent.
From an international perspective, German managers have no reason to complain: the average cash remuneration amounted to 3.825m EUR in 2007 whereas the average French manager received 2.3m EUR. The average Swiss manager received 2.99m EUR and 3.03m EUR on average went to the US managers. However, when stock options are taken into account, the pictures drastically change: in Switzerland, an additional 50% of remuneration in the form of stock options needed to be added and with that the average Swiss executives’ remuneration rose to 6m EUR. At the very top is Brady Dougan, former CEO of Credit Suisse. During his 8 months with Credit Suisse in 2007, he received 22.3m CHF; which amounts to a 33.5m CHF, or 20.3m EUR, yearly equivalent. Only 20% Dougan’s remuneration came from his fixed salary and performance based bonus (10% each).
The remaining 80% resulted from the value of stock options allocated to him. And it has to be noted that, due to write downs on asset backed securities as a result of the subprime crisis, the value of these stock options was strongly reduced subsequently.
In the US, there is an even greater focus on share-based remuneration. Many companies do not pay a performance based bonus on top of their fixed
salary but focus on share-based compensation. United Technologies CEO George David, for instance, received a total remuneration of 38.07m USD, equivalent to 27.8m EUR (based on last year’s average exchange rate). Second came AT&T CEO Randall L. Stephenson with 37.68m USD in remuneration for 2007. The average US-CEO took home 15.68m USD in 2007 (including pension benefits), with that making a lot more than their German counterparts.

The US also lies ahead of Germany in terms of transparency which is not at least due to a greater involvement of shareholders in directors’ pay issues. The general meeting has an advisory vote on the pay structure. This vote is not binding but it is a way for shareholders to voice their opinion if they are unhappy with the structure of their directors’ pay. We believe that such an advisory vote would be a good addition to the German system. Other European countries, such as the UK and the Netherlands, have already implemented such a system, and Switzerland plans to follow.