22 July 2006
Cable and Wireless - Long Term Cash Incentive
It seems that Cable and Wireless have secured shareholder support for their controversial long term incentive plan, despite the many problems with the scheme:
Firstly the size of rewards on offer are extremely large. It would appear that 10% of any growth in the value of the business over the four year performance period will go to the executives who manage the business. Why does this need to be such a huge amount? Are the executives really working for the best interests of shareholders, or are they primarily seeking to reward themselves at the shareholders expense? Very high executive pay, such as this, makes it hard for shareholders to believe that their best interests are really being perused. Suspicion and mistrust inevitably follow.
Secondly the scheme lacks consistency over time. There will be a big push to maximise the value of the business at 31st March 2010. There is nothing in the scheme to ensure that the value created will be sustainable or will endure over any meaningful period of time. Certainly, towards the later part of the performance period the executives will have massive incentives to cut all expenditure on research, long term development, long term marketing and customer satisfaction. Their attention will be completely tied up with short term valuation issues and all focus on the longer term will be lost. This is a very bad incentive to give, and their is no need for it. All advice on long term incentive plans says that awards should be phased over time so the incentive to grow value is consistent over time and not lumpy.
There is a particularly uncomfortable provision that allows for up to 75% of all awards to be paid out a year early in such a way that they cannot be clawed back. This provides even greater opportunity for a short term grab and run approach to the rewards.
The third area of concern is the complexity, particularly of the valuation process. The good thing is that the valuations are always tied back to real stock price values. However the separation into two business units creates complications. In particular there appear to be some circumstances in which the "Group Costs" which do not lie in either business unit might get ignored. When a process is complicated it often becomes politically necessary for those who manage it to manipulate it to their own advantage in ways that others will never realise. This has to be a concern in this case.
A four concern is that the flexibility of the corporate structure is reduced going forward. The scheme vests in full if either business unit is bought out, so this might become unduly attractive to managers. Corporate reorganisations that do not fit comfortably with the two business unit approach would become unthinkable in the business because of the reward structure. Is there any really synergy between the two units? If there is synergy, then Group level co-ordination should add value, but is strongly disincentivised by the new arrangement. If their is no real synergy, why are we not looking for an immediate demerger?
So why did shareholders approve the scheme? I think they approved it because they felt it was the best deal that they were likely to get out of the management. This is a long way short of it being the best thing that the management could do for the shareholders.
My comments on the scheme are based on the scheme set down in Appendix 1 of the Notice of AGM available through the C&W Investor Relations website.
Firstly the size of rewards on offer are extremely large. It would appear that 10% of any growth in the value of the business over the four year performance period will go to the executives who manage the business. Why does this need to be such a huge amount? Are the executives really working for the best interests of shareholders, or are they primarily seeking to reward themselves at the shareholders expense? Very high executive pay, such as this, makes it hard for shareholders to believe that their best interests are really being perused. Suspicion and mistrust inevitably follow.
Secondly the scheme lacks consistency over time. There will be a big push to maximise the value of the business at 31st March 2010. There is nothing in the scheme to ensure that the value created will be sustainable or will endure over any meaningful period of time. Certainly, towards the later part of the performance period the executives will have massive incentives to cut all expenditure on research, long term development, long term marketing and customer satisfaction. Their attention will be completely tied up with short term valuation issues and all focus on the longer term will be lost. This is a very bad incentive to give, and their is no need for it. All advice on long term incentive plans says that awards should be phased over time so the incentive to grow value is consistent over time and not lumpy.
There is a particularly uncomfortable provision that allows for up to 75% of all awards to be paid out a year early in such a way that they cannot be clawed back. This provides even greater opportunity for a short term grab and run approach to the rewards.
The third area of concern is the complexity, particularly of the valuation process. The good thing is that the valuations are always tied back to real stock price values. However the separation into two business units creates complications. In particular there appear to be some circumstances in which the "Group Costs" which do not lie in either business unit might get ignored. When a process is complicated it often becomes politically necessary for those who manage it to manipulate it to their own advantage in ways that others will never realise. This has to be a concern in this case.
A four concern is that the flexibility of the corporate structure is reduced going forward. The scheme vests in full if either business unit is bought out, so this might become unduly attractive to managers. Corporate reorganisations that do not fit comfortably with the two business unit approach would become unthinkable in the business because of the reward structure. Is there any really synergy between the two units? If there is synergy, then Group level co-ordination should add value, but is strongly disincentivised by the new arrangement. If their is no real synergy, why are we not looking for an immediate demerger?
So why did shareholders approve the scheme? I think they approved it because they felt it was the best deal that they were likely to get out of the management. This is a long way short of it being the best thing that the management could do for the shareholders.
My comments on the scheme are based on the scheme set down in Appendix 1 of the Notice of AGM available through the C&W Investor Relations website.
