Share market declines spell trouble for companies that require CEOs and other executives to hold a fixed dollar amount of shares: Some are falling short of ownership targets.

Share ownership is intended to align the interests of corporate insiders with investors, ensuring they feel their joy when stock prices are rising and their pain when prices fall. But with a falling share market some question the wisdom of setting ownership levels as a fixed-dollar multiple of pay, which makes the targets harder to hit and hold amid falling prices.

While ownership targets are not mandatory, they sit well with the requirements of investors, proxy advisers and corporate-governance ratings firms.

While not majority practice, a significant proportion of ASX 100 companies require executives to hold shares. This is usually expressed as a multiple or proportion of fixed pay. This ranges from one to five times fixed pay for Australian CEOs, to 0.5 to 2 times fixed pay for the CEO’s direct reports.

There is usually good reason for this policy, as prior Guerdon Associates’ research has found that there is a good correlation between executive share ownership and company performance (see HERE). But companies need to be careful when considering such a policy, as it may not suit all circumstances (see HERE).

Following this year’s issues with margin loans and share market declines, share ownership policy has come under review at several companies. In effect, such a policy acts like a margin call, requiring executives to stump up more money, but in this case to acquire more shares, rather than hold on to or sell shares as with a margin call.

In the current bear market such policies can be tough to maintain. As a result, several companies have put compliance with these policies in limbo, subject to finalisation of the policy review. But other companies are sticking by their policy. Some consider that this is a good time to buy, and that their shares are good value, so why change?

For those reconsidering their policy, one solution is to scrap the pay-multiple approach and instead target a fixed number of shares. While not common in Australia, some high technology companies may want to consider a US approach requiring ownership of a fixed percentage of shares outstanding. Under these methods share ownership targets remain constant whether markets move up or down. Provided fixed-share ownership targets are high enough, these policies will be as effective as fixed-dollar targets in aligning insiders’ interests with those of shareholders.

Share-retention plans, which can be used alone or in combination with ownership targets, are another shareholder-friendly option. The idea: have executives hold onto a fixed percentage of the shares and share options they receive under long-term incentive plans until they hit a share ownership target or leave the company. The downside some see from this approach is that executive share ownership accrual is not fast. But this, in our view, should not be a primary consideration.

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