City: Fat pay-offs feed on investor inertia

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The Independent Online
AT LAST there is the welcome sound of a bandwagon beginning to roll in protest at exorbitant executive pay. Last month, Sir Owen Green of BTR published a scathing criticism of high pay. Coming from such a senior industrialist, it forced other businessmen to sit up and take notice.

Now Alastair Ross Goobey, chief executive of Postel, has pitched in. As the head of the stock market's second-largest investor, his views are also important, but he is coming at the problem from a different angle. Unlike Sir Owen, he does not mind executives being very highly paid as long as they are doing a good job. What upsets him is the pay-off executives can get when they are kicked out of their company for doing a lousy job.

In the general scheme of things, the pay-offs received by a few executives may seem like small beer. But when you look at our table on page 4, it is clear they are more important than that. It has cost industry pounds 43m to pay off only 90 departing executives in the past 18 months. That is a significant sum - enough, say, to start up a decent-sized manufacturing concern. And that does not take into account the pension enhancements, share options and other extras that usually get included in executive redundancy packages. Add those bits in and you can conservatively estimate the cost of getting rid of these executives at well over pounds 100m.

That is a lot of money for shareholders to fork out to executives who are, in general, leaving because they have not served their company well. It also, of course, sends all the wrong signals to workforces being asked to accept heavy job and cost-cutting.

The cause of these huge redundancy cheques is, more often than not, the rolling contract - a simple device by which an agreement constantly renews itself. A three-year rolling contract, for instance, is always and forever three years away from expiry. It is common practice to pay departing executives at least half what they would have earned on their outstanding employment contract. So under a three-year roller, an executive would expect to get the equivalent of about one-and-a-half years' worth of his already generous salary. Which is why Mr Ross Goobey has singled out rolling contracts for attack; he would prefer to see one- year fixed contracts as the rule.

The received City wisdom is that rolling contracts, usually for three or five years, are an infection that spread here from the US in the 1980s. But rooting it out is likely to be difficult.

For one thing, it has received the official blessing of that bible of good corporate practice, the Cadbury report - or so many companies claim. Actually, Cadbury is unclear. I quote: 'Future service contracts should not exceed three years without shareholders' approval . . . This would strengthen shareholder control over levels of compensation for loss of office.'

Inevitably, company executives have taken 'three years' to mean three years rolling. Give 'em an inch and they'll take a mile. The result has been to rob shareholders of any real control over pay-offs. This is something that Sir Adrian Cadbury's successors will surely have to consider and correct in two years' time when they start reviewing his recommendations.

Until then, it is up to shareholders to change things. But if past experience is anything to go by, you can be pretty sure the institutions' efforts to eradicate rolling contracts will be a slow, chaotic and badly orchestrated process. Remember Sir Ralph Halpern's spectacular pay-off from Burton Group a few years ago? Institutional investors huffed and puffed about it for a while - and then did nothing.

This time, admittedly, the omens are a lot better. Mr Ross Goobey intends to use Postel's formidable power (it owns about 2 per cent of the All Share index) to vote against rolling contracts at shareholders' meetings. He has already written to the FT-SE 100 companies warning them of this. Both these actions are virtually unprecedented in the genteel - some might say lethargic - world of institutional investment. But Postel has had to take a unilateral stance on this because it could not get any of the committees that are supposed to represent the institutions to agree on what to do about executive contracts. Moreover, to have much practical effect, Postel needs other institutions to follow its lead and vote alongside it. Unfortunately, they probably won't.

This is not because they disagree with Mr Ross Goobey. About half of the bigger institutions appear to sympathise, but they do not share his methods. Fund managers are a shy breed and the idea of causing a fuss in a public meeting is anathema. As usual, they prefer to apply pressure - or persuasion - behind closed doors.

And a fair number will not even do that. There are quite a few senior executives among the institutions on rolling contracts themselves. Some have a direct influence on investment decisions, so there is a direct conflict of interest. For them to complain about rolling employment contracts in other businesses would be no better than the pot calling the kettle black.

So they won't say a thing. With that lack of help, Mr Ross Goobey will need all his energy to get his bandwagon rolling smoothly.