Harvey Nash Comments on IDS Executive Pay Report

London - 1 November 2011

Income Data Services released their report on executive pay last week creating headline news across the UK media with Steve Tatton, who edited the report quoted as saying "Britain's economy may be struggling to return to pre-recession levels of output, but the same cannot be said of FTSE 100 directors' remuneration."

However, according to research carried out by the Harvey Nash Board Practice, and the London Business School MBA Consulting Team, FTSE 100 CEOs who served continuously in the lead up to, and through, the downturn, were more likely to be penalised for poor share performance, and rewarded when it improved, a conclusion which is at odds with the tone of the IDS report. The research reveals that correlations do exist, but in very specific circumstances. Factors such as the size and scale of a company, its sector alignment and even the length of service of its CEO are all important in attempting to draw firm conclusions.

During the period Jan 2, 2006 and Dec 31, 2010 changes in share price explained about 30% of the variation in direct pay of the CEOs, suggesting that it takes longer to judge the contribution CEOs make to the performance of the company, a critical factor to be considered by Non Executive Directors when setting the compensation of the CEO.

Sir Terry Leahy and Sir Martin Sorrell, two British CEOs out of the top five earners highlighted in the report, are responsible for two of the largest and most successful companies in the world, Tesco and WPP, global market leaders in their respective sectors. Both CEOs have been in post for a significant period of time and have been recognised by investors and analysts as critical to their companies' success. The Harvey Nash/London Business School MBA consulting team research also revealed that Consumer and Retail organisations such as Tesco had a much higher correlation between CEO pay and share performance than other sectors. About 20% of the change in direct FTSE 100 CEO pay can be explained by share price performance.

When looking at the data on a short-term, year by year basis, the correlation was significantly less, with less than one per cent of changes in CEO pay being explained by share price performance. Two of the top five companies singled out by the IDS report are in the Resources sector, and therefore commodity price changes over the period were the likely driver of share prices in the short term and not the performance of the CEO.

Albert Ellis, CEO of Harvey Nash comments,

"Unfortunately this debate was another awful example of the UK shooting itself in the foot in the same week as European leaders publicly rebuffed the UK Prime Minister's comments on the Eurozone financial crisis. Of the top ten earners referred to in the report more than half were either not resident or born in Britain and were CEOs of companies which derive the majority most of their revenues and profits from territories outside the UK.

The top 100 companies listed on the London Stock Exchange are not representative of British business in general. Increasingly London has become one of the most successful capital markets for large global companies, many of whom employ CEOs, Executives and Non Executive Directors from all over the world. It stands to reason that in seeking to attract the very best talent available to run some of the world's largest and strategically most important companies in the global economy, Boards must offer compensation packages with international purchasing power in either US Dollars or Euros. In addition they must compete with the US, Europe and increasingly now Asia on attractive long term incentive packages.

The top earning Director according to the report was Mick Davis, CEO of Xstrata plc. Xstrata has a dual listing in both London and Zurich with only 5% of its total revenues generated from Europe and 95% from across the world, mainly in the Asia Pacific region. The compensation drivers of a company such as Xstrata do not reflect any local UK conditions such as the economy any more than a CEO of a Chinese or American company would. In fact, the benefit to the UK is substantial as the financial and professional services work is largely commissioned in London even though the company has very little direct interest in the UK market. The company is listed in London because of the pre-eminence London enjoys in the capital markets and in particular its attraction to global companies from emerging markets.

As the UK's largest publicly quoted head hunter we have worked with our clients throughout the downturn, advising them on Board and Executive appointments, their remuneration and long term incentives. Our experience is that Non Executive Directors are very sensitive to the issues around executive pay and the vast majority particularly in the SME sector have exercised restraint during the financial crisis.

However, let's not lose sight of the greatest challenge facing FTSE 100 Boards which is to attract and retain talented CEOs who have the experience to successfully grow and global companies and provide an important solution to the increasing unemployment problem.

It's perhaps time for organisations which analyse and report on executive pay to be challenged more effectively as to the context and interpretation of the data they seek to anaylse. At a time when UK Plc is being encouraged to market our goods and services in Asia and emerging markets, it is disappointing that both the Prime Minister and the Leader of the Opposition did not take the opportunity to make the case for attracting and retaining the interests of large global companies such as those listed in the report, to the UK's capital markets to the benefit of the country as a whole."

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