What Are the Laws of Directors' Remuneration in Australia - Essay Example

Whаt arе thе Laws of Dirесtоrs’ Rеmunеrаtiоn in Аustrаliа? Аrе Thеy Аdеquаtе, Еffесtivе and Еffiсiеnt tо Рrоtесt thе Intеrеsts of thе Shаrеhоldеrs? Name of the Student: Name of the Instructor: Name of the course: Code of the course: Submission date: What Are Thе Laws Оf Dirесtоrs’ Rеmunеrаtiоn In Аustrаliа? Аrе Thеy Аdеquаtе, Еffесtivе Аnd Еffiсiеnt Tо Рrоtесt Thе Intеrеsts Оf Thе Shаrеhоldеrs? Introduction The remuneration of directors is a debate which has raced the corporate world for a long time. The main bond of contention is the evaluation of the size a director’s remuneration package with respect to the achievement of the interests of the shareholders. The huge compensation which the executive management receives is perceived to be too high hence viewed as a shortchanging of the shareholders owing to the fact their interests are not taken into consideration. For this reason, there have been various legislations established by various national authorities around the world for instance in the USA, UK and in Australia. Over the recent past, the Australian government has been actively involved in the establishment of laws which aim at regulating the remuneration of directors with an aim of ensuring that the interests of the shareholders are protected. As per the recommendations of the productivity commission, the Australian government initiated into law the Corporations amendment Bill 2011 which was aimed at improving accountability on director and executive remuneration. This essay will identify several laws of directors remuneration in Australia identify whether they are adequate, effective and efficient to protect the interests of the shareholders. The stand of the essay is that the laws are adequate, effective and efficient in protecting the interests of the shareholders. Overview of Remuneration of Directors in Australia The remuneration of the directors in Australian has for a long time elicited a lot of debate. The shareholders had a right to vote on the remuneration package to give to their board of directors since the year 2005. However, this did not ensure that all their interests were taken into consideration while remunerating directors and other executives in the company’s. The metric desired for the evaluation of the salaries of the directors was pay for performance whereby the remuneration of directors was based on their performance. If a company did well, their remuneration went up and the vice versa also holds. However, the enforcement of such a metric is not efficient as desired since the performance of a company is based on many factors hence singling out the performance of a director is not appropriate. This led to the controversy in the corporate world whereby the directors and the executive management were bagging large sums of monies while the interest of the shareholders was not being taken into account. The Corporations amendment Bill 2011 established some regulations which have by far ensured that the interests of the shareholders are protected. The essay will discuss those legislations in detail. Elements of the Directors Remuneration Package The remuneration of directors consists of several elements. These are the elements which are scrutinized by the shareholders while they are evaluating the salaries of the directors. The first element is the base salary. The base salary is given to a director regardless of his or her performance. The base salary is protected by the contract law / agreement which is binds the employer and the director1. According to the legislation, the basic salary of a director is set according to the size of the company which he is to direct upon, the industry in which the company practices in and the work experience and qualifications of the prospective director. The basic salary given by similar companies is also considered while setting the basic salary of a director. The other element constituting the salary of a director is bonus. The specifics about the bonuses received must be indicated in the contract agreements. Another element constituting the salary of directors stock options whereby directors are give privileges by the company to buy shares of the company at a special price over a given period of time. Another element which constitutes the salaries of directors is the restricted share plans whereby shares which have restrictions to their transferability are given to directors after the meeting of specific conditions. These restricted shares are also known as stock grants. Other elements of the salaries of directors includes pension and benefits such car and health allowances. The size of the remuneration package should not be too high as to shortchange the shareholders in a scenario whereby the remuneration is not equivalent to the performance of the company; hence the return on the shares held by shareholders being low. In order to control the above elements of director’s remuneration, the Australian law has constituted the following laws to govern the remuneration of directors. Remuneration Laws in Australia Protecting the Interests Of Shareholders The ‘Two Strikes’ Law One of the laws which gave the shareholders power to dictate the remuneration of directors is the two strikes rule. The two strikes rule gives the shareholders of a company the right to scrap off a board of directors when the remuneration report receives a vote of at least 25% against it for two consecutive times2. It can be noted that the two strikes rule gave the shareholders more power as opposed to the former rule which only allowed shareholders to vote for or against the remuneration of directors. The corporations Act 2011 provided for a non – binding vote which gave shareholders more say over the remuneration of the directors. The provisions of the two strike rule are that if a report gets at least 25 % ‘no’ votes in two consecutive annual general meetings, then the spill resolution must be reached at by the shareholders in the second annual general meeting in which the second strike ‘no vote’ is casted. The spill resolution must then be voted for by a simple majority after which the board of directors is spilled ‘disbanded’. After this, the company must convene a meeting before a period of 90 days after which a new board of directors is elected. The two strikes rule is by far the most effective legislation which gives powers to the shareholders to ensure that their interests are taken into account. It had been a major problem in many companies whereby directors would ‘take all for themselves’ forgetting the interests of the people who put them there (shareholders). One of the common malpractices was the awarding of huge salaries to directors yet they had little results to show for it; hence they were not delivering on the goals and objectives of the shareholders. The pay for performance merit was in existence but its enforcement was not as desired owing to the fact that it was prone to many factors which the shareholders could not be able to monitor. The rule had a substantial impact on ensuring that the interests of shareholders are protected3. This can be explained by the 60 companies which experienced the ‘1st strike’ at least 25% no vote in their annual general meetings shortly after the establishment of the corporations amendment bill 2011. One of the companies which experience the first strike was Qantas Airlines whereby Allan Joyce, (CEO’s) remuneration package was put under scrutiny. Ideally, the striking of a remuneration report under the ‘two strikes’ rule is arrived at after the shareholders realize that the interests are not being taken into account by the directors. It is then that it is perceived that the director’s salary is not going towards the realization of the goals of the shareholders, which is means that the directors are not performing. There are several measures of performance which the shareholders take into consideration; hence dictating their yes of no vote on a remuneration report. One of the factors is the shareholder’s return. Generally, the main objective of any shareholder is to make profits out of his or her investments in the share of a particular company. If the shareholder is not able to make money, its means that there is something going wrong. One of the major factors which may be causing this is bad corporate governance4. In order to ensure that the corporate governance is up to the required standards, thus enabling a shareholder to have a return on capital invested, the shareholder will use the powers bestowed to him or her by the two strike rule to spill a board of directors. Other measures of performance of a company and consequently of a board of directors is the share price, earnings on shares and the profitability of the company. Therefore, the two strikes rule give the shareholders a right to dictate over the remuneration of the directors, thus ending an era of non performing directors bagging home lucrative salaries. The Use of Consultants and Their Remuneration Law Another Australian legislation which aims at the interests of the shareholders are protected is the regulation regarding the use of remuneration consultants and the subsequent remuneration of the consultants5. It was acknowledged by the law that most of consultants do not propagate the interests of the shareholders. In such events, the consultants would even coalesce with the directors in order to get their remunerations hiked. In return, the directors would offer lucrative remuneration for the consulting services offered by the consultants. In order to curb these selfish acts by the consultants and the directors, corporations act provided that the remuneration consultant must be approved by the remuneration committee. As identified earlier in this essay, the remuneration committee is responsible for the remuneration issues in a company. The remuneration committee is established as per the requirements in the corporate governance law hence ensuring that both the governance and shareholders interest are cared for in the remuneration committee. As a result of this, it is expected that the committee does a thorough analysis on the consultant chosen to evaluate the remuneration concerns of a specific company. In so doing, it is expected that consultant chosen will engage the remuneration committee in a professional way which ensure a status quo between the shareholders and the corporate governance interests. Moreover, this law specifies that the engagement of the remuneration committee and the consultant must be disclosed in details in the remuneration committee6. This ensures that the shareholders are given adequate information as to the consultant who was chosen, what he and the remuneration committee did, hence understanding the recommendations of the remuneration committee and the consultants better. Before this law, it was common for companies to come up with remuneration recommendations which rarely protected the interests of a shareholder, then masquerading the recommendations as appropriate recommendations which had passed the scrutiny of a professional consultant. In effect of this, the shareholders had no powers to question the recommendations since they did not have the legal authority to demand for the engagements between the remuneration committee and consultants. However, the legal obligation for companies to include this engagement provides the shareholders with more knowledge of the remuneration. Lastly, this law provides that the consultant makes a declaration that any recommendations that he or she makes are made without any influence from the executive. As indicated earlier, it was a common scenario before this law for the directors of companies to influence decisions made on their remuneration by influencing the recommendations made by the remuneration consultants and committees. As a result of this, they awarded themselves lucrative salaries which were undeserved, hence failing to protect the interest of the shareholders7. The enactment of this law ensured that the undue influence by directors on remuneration recommendations was countered. Voting of Key Management Personnel Law Another rule as per the Corporate Governance Act 2011is the rule on the voting of remuneration. With respect to this rule, parties which are directly affected by the voting on remuneration matters should not participate in the voting8. Such parties include the key management personnel (KMP). This is because of the fact that the remuneration being voted for or against is their salaries, hence many would vote in a manner that ensures that they get the maximum salaries possible. This law ensures that the voting process is not biased. Owing to the fact that the directors may be having shares in the company, or may have preferential shares or any other special shares awarded to them by the company. Therefore, their votes would not be inclined to the interest of the shareholders but rather in their own interests; that is increasing their salaries. The move by the legislation is a good one towards ensuring that the interests of shareholders are protected. Hedging Law The law governing the hedging of incentive remuneration is another law in the Australian law which ensures that the interests of the shareholders are protected9. Under this law, key management personnel and other parties which are directly related to the remuneration law are restricted from hedging any aspect of their compensation which is either vested or unvested. No Vacancy and Other Laws The no vacancy rule is another law which ensures that the interest of the shareholder is protected. Under this law, it is mandatory for companies to seek the approval of the shareholders before declaring any position in the board of directors vacant10. Before the enactment of the law, it was common for companies to declare board position vacant. The vacancy would have been as a result of the firing of a board member by the company or any other negative influences from the executive management. As a result of this, the electing body who are the shareholders did not have any say over the people they elected. This is contrary to basic democracy whereby the appointing/ electorate should reserve the powers to declare a position vacant; hence the then practice did not uphold the interests of the shareholders. Therefore, this law enabled the shareholders to have a say on the executive management of their company. Other laws under the Australian corporate governance law which seek to uphold the interests of the shareholders are the cherry picking and the simplified remuneration reporting laws. The cherry picking law prohibits non chair proxies from cherry picking the proxies which they hold. The simplified remuneration law holds that the compensation of the key management personnel should be disclosed in order for it to be included in the consolidated entity in the future remuneration plans. Conclusion In conclusion, this essay has shown that the Australian law is adequate, effective and efficient in protecting the rights of the shareholders. It must be acknowledge that Australia is one of the countries in the world which has a strict law governing the remuneration of executive management in companies. The paper has identified that the self awarding of undeserved lucrative salaries by executive management is the reason behind the establishment of such laws. The essay has discussed several Australian legislations which ensure that the interest of the shareholders in Australian companies is protected. The two strike rule which gives the shareholders the power to disband a board of directors is one of the highly exercised laws in the country. It is noted that this rule enables the shareholders to strike off underperforming directors with respect to the annual remuneration report. The regulation on consulting law enables the shareholders to know the engagement between the consulting firm and the company. This ensures that nay remuneration recommendations made to the company are not influenced by the executive. The voting on remuneration law ensures that the voting process is free and fair and is not biased by the partisan states of the key management personnel. The hedging on incentive remuneration law, the no vacancy rule, the cherry picking law and the simplified remuneration law are other law which have been discussed in this essay which ensures that the shareholders interest are protected. From the essay, it can be concluded that the shareholders interests in Australia are protected adequately, effectively and efficiently by the corporate governance law. Bibliography Blake Dawson, Corporations Amendment (Improving Accountability On Director And Executive Remuneration) Act 2011, (2011), 1-12 James Mcconwill. Positive Corporate Governance From Executive Compensation, German Law Journal, Vol 6, No. 12, 2005) 190-210 KPMG , Reporting Update, KPMG, (2011) 1-14 Michael Hansel,And Lea Fua , Australia: Proposed Corporations Act Changes: 'Two Strikes' For Executive Remuneration And Abolition Of 'No Vacancy' Rule, (1st Jan 2013 ) Price Water House Coopers, Corporate Governance, Best Practice Reporting (2010), 1-148 Smith J. Ch 8. Remuneration and Disclosure, John Wiley and Sons 2011 (1st Jan 2013 )http://www.pc.gov.au/__data/assets/pdf_file/0019/93601/11-chapter8.pdf Sheh Hann Lim, Do, C , Litigation Funders Add Value To Corporate Governance In Australia?, Company And Securities Law Journal, Vol.29, No. 3, 2011) 135-42 Tim Woodforde, Australia: Reforms to Director and Executive Remuneration, Norton Rose, 2011 (1st Jan 2013 ) Thompsons Lawyers, Corporate Governance - Executive Remuneration Reforms, (2011) 1-2 Emma Nisbet, , The ‘No-Vacancy’ Rule – Improving Accountability Or Increasing Complexity For Boards? (Association Of Corporate Counsel 2011 Http://Www.Lexology.Com/Library/Detail.Aspx?G=Bb198754-3e97-4784-9d81-763331d0838c 2011) Read More