Reflections on the 2019 UK CEO Value Index

If you are reading this in the Spring of 2020, it is likely you are reading it at home. You have been ‘locked down’ in some form or fashion to avoid the spread of a virus which has caused a global pandemic, and you may well be wondering why last year’s UK CEO Value Index is worth reading about. You certainly have the time, but wouldn’t it be better spent learning Chinese or how to play the piano? Forget all that. Chinese is quite difficult and you are terrible at the piano (ask your children!) but the Index is worth it.

Let me explain.

Every year, the London Office calculates the UK CEO Value Index by measuring how much value a CEO adds to their company for every pound they are paid. This simple methodology can easily be applied by remuneration committees anywhere. It tells us a huge amount about the productivity of the man or woman in charge, and the impact of the incentives that remuneration committees authorised.

As a brief reminder: Total Remuneration and Total Value Added are calculated over four years and then the one divided into the other. In the case of the 2019 Index, the period was from the beginning of 2015 through to the end of 2018.

What we found was that oil & gas companies, and to some extent the mining/resource companies, delivered the most value, given their pay. Now that the price of oil is so low, it will be fascinating to see how those same companies react. Just how variable will total remuneration be, given the hit shareholders’ have had to endure over the last few months?

We have now calculated the index over six four-year cycles and we can see several very important phenomena. The level of the Index is remarkably consistent, year-in and year-out for most companies. This provides remuneration committees with a solid basis for decision-making when calibrating incentive programmes—in any year, in any industry, whether private, public, big, or small.

To be mathematical for a moment, for the past five of six four-year periods the average Index score for a company delivering an upper quartile UK CEO Value Index was 518, the median 274, and the lower quartile 169. A remuneration committee can be about 85% certain of that range as in none of the five four-year periods was the outcome more or less than around 15% of the average. This means that a remuneration committee, if it wishes to calibrate an incentive programme at median or better, simply needs to ensure the Total Value Added to shareholders during the next four years is more than 274 times the Total Remuneration their CEO is being offered. How hard was that?

We have also uncovered there is a small group of very consistent performers—four companies, in fact—that have ranked in the top 20 each year of FTSE 100 UK CEO Value Index work we have conducted since 2012 and a further six have ranked in the top 20 in all but one of the last six rolling four year periods. We can learn by studying them, based on this data, rather than following instructions from proxy advisors, the financial press, or the loudest shareholder at the table.

Short-term incentive (‘bonus’) schemes have remained remarkably consistent: the average bonus payout at upper quartile has been 89% of maximum opportunity, 72% at median, and 45% at lower quartile, since 2010. But, long-term incentive (‘LTI’) schemes are far less consistent: the range of vesting outcomes (in particular in 2017 and 2018) has changed markedly—many more programmes are paying out a lower percentage compared with maximum.

Finally: what you may always have suspected, is largely true. We divided the FTSE 100 into four tiers based on the shareholder value delivered by a CEO. Tier 1 comprises the top third of Value Index performers, tier 2 is the second third, and tier 3 is the final third. The fourth tier, ‘value losers’, is comprised of those companies that did not add value to shareholders over the period. We then looked at how the CEO is paid, in the top three tiers. Upper quartile CEO remuneration for third tier companies exceeds upper quartile pay for first tier companies despite third tier companies adding just one tenth of the value of first tier companies. Clearly, there is some work to be done!