Relative TSR canned by proxy adviser
30/10/2015
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A wasted expense

It has been a long time coming, but at last one proxy adviser has acknowledged that relative TSR measures are, for the most part in the Australian context, useless. To quote from the article prepared by CGI Glass Lewis on the back of Macquarie research:

“The point of an incentive is to drive behaviour that leads to company outcomes aligned with shareholders’ long-term interests. If an ‘incentive’ is not driving behaviour, it is not an incentive – it’s an outcome.”

Last month, Macquarie Group and CGI Glass Lewis published their joint research on the relationship between incentives and executive behavior in Australia. Little is provided in terms of underlying research methodology. However, while critical of relative TSR, it appears that the research utilises share price as a proxy for TSR.

Overall, they find that remuneration models are suffering from ‘group think’. Their research further indicates that there is a strong relationship between accounting performance metrics and performance outcomes, but little to no correlation when total shareholder return (TSR) is used as a metric.

Research Findings

Macquarie Group’s research incorporated data from 2006 to 2015. There were three different three-year periods studied, 2006-2009, 2009-2012 and 2012-2015. Each sample consisted of 179 companies.

Their findings include the following:

  • Relative TSR (RTSR) was the most commonly used metric overall and within each individual three-year period, with 69% of the sample using it as at least one of their performance metrics
  • Using share price as a metric did not produce “superior returns” in any of the three-year periods
  • EPS was the second most commonly used metric, with 37% of the sample using it as at least one performance hurdle
  • Return on Equity (ROE) and Return on Capital Employed (ROCE), which are also accounting hurdles, were utilised the third most often
  • When accounting hurdles (EPS, ROE) are used in LTI design, there is usually “superior EPS growth or ROE improvements compared to the broader sample set.” There was superior EPS growth for every three-year period, and superior ROE for two of the three-year periods.
  • 31% of companies used one performance metric in their LTI plan, 51% used two performance metrics, and 6% used three performance metrics. 13% of companies in the sample had no metric at all; executives only had to continue their employment with company to receive LTI’s
  • 61% of rewards were tested on a three-year time frame
  • Companies that use EPS are more likely to undertake acquisitions; companies that use ROE are more likely to undertake buybacks

Plan design and CGI Glass Lewis perspective

According to these results, the proxy advisor CGI Glass Lewis believes using RTSR as a performance metric has little to no credibility. “Relative TSR is the wrong external metric as it can produce lottery-like outcomes that reward executives from a high-risk, high-return company in a rising market and from a low-risk, low return company in a falling market – which can occur irrespective of actual company performance.” (see HERE re a TSR method that recognises risk). On the other hand, EPS and ROE are performance metrics “successful in driving financial results and behaviour.” Though they will not be appropriate for every single company, they should be utilised in incentive plans more often.

Consistent with ACSI (see HERE) CGI Glass Lewis prefer a bespoke approach suited to the company’s strategy.

To obtain the report see HERE.

© Guerdon Associates 2021
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