Join our community of smart investors

Pay in the time of plague

By mid May, AJ Bell had worked out that 41 FTSE 100 and 248 other companies had cut or deferred their dividends, reducing shareholder incomes by £28.3bn. The High Pay Centre estimated that, at about the same time, over a third of FTSE 350 companies had cut executive pay in one form or another.


On the edge

One company in the firing line is Compass Group (CPG). When it issued its annual report at the end of last year, it claimed that it had “continued to create value and delivered strong organic growth”. As the industry leader in catering and food service, it operated in 55,000 client locations spread over 45 countries, and said that its 600,000 “colleagues” served 5.5bn meals each year.

Globally, government measures to cope with Covid-19 have changed all that. Most of Compass’s operating profit (about 80 per cent) was made in North America, while Europe accounts for only 10 per cent. It had to adapt fast. It issued a profit warning in mid-March and closed most of its activities in the sports and leisure, education, business and industry sectors. Only about 45 per cent of its activities (now concentrated in the healthcare, defence, and what it calls its “offshore and remote” sectors) have been kept open.

To preserve cash, the group reduced capital expenditure and paused all merger and acquisition activity. It redeployed or furloughed many of its employees, and cut the salaries and hours of others. It has drawn down £600m from the Bank of England’s Covid Corporate Financing Facility and increased its borrowing facilities with its banks by £800m (to £2.8bn). Towards the end of April, it said it was negotiating with “US Private Placement investors” to waive its covenants and said that it was delaying publication of its interim results (due on the 13 May) by a week. By 15 May, Bloomberg was reporting that Compass was considering a $2bn share sale.  

Has the dividend been cut? You bet it has. Nothing will be paid to shareholders this year, and dividends will start again only “when it is appropriate to do so”. What about the pay of its chief executive, Dominic Blakemore? Yes to that too. He’s taken a salary cut of 30 per cent. Other directors and executives have reduced their fees and salaries by a quarter.

Just six months ago, its focus was on seizing opportunities to build on its 10 per cent market share of a global food services market worth an estimated £200bn. The strategy now is all about survival.


Single Figure flaws

On 1 January 2020, Mr Blakemore’s salary increased to £1,000,000. The April cut of 30 per cent has reduced it to £700,000. This is temporary, presumably for as long as the crisis continues. But it’s a small proportion of the £4.659m that Compass’s annual report says he received in 2019. That was the snapshot at 30 September 2019, the end of Compass’s financial year.

And it’s here that the concept of pay, as defined by the statutory Single Figure of Total Remuneration begins to unravel. This figure defines pay as the amount actually received during the year in question. For Mr Blakemore, that includes last year’s salary plus benefits (including a pension allowance), an annual bonus paid completely in cash, and a release of shares determined by his performance over the previous three years.

The annual report says that the value of those released shares was £1.3m when they were awarded in 2016-17. A rise in share price had added £0.65m to their value by 30 September 2019.

Since the investment gain for these shares is included in the Single Figure, you’d be forgiven for thinking that consistency requires all investment gains that arise from pay to be included. Compass requires its chief executive to own Compass shares worth three times his salary. Since this is mandatory, logic suggests that any gains or losses on these shares should be counted as well. During its 2018-19 financial year, Compass’s share price went up by about 18 per cent. That would have increased Mr Blakemore’s Single Figure to about £5m.

But look what’s happened since. The share price has almost halved. The shares he was required to own at the beginning of the year have fallen in value by £1.3m. Whatever the number of shares that he’ll receive from awards made over the past three years depends on the company’s performance, but at the current share price they’d be worth substantially less (by about a third) than when they were awarded.

That £300,000 salary cut, spread over 12 months, might seem significant, but it’s dwarfed by the losses from these investments that his role requires him to have. At the 30 September 2019, he owned almost 200,000 Compass shares. The dividend income from those would have been about £150,000 a year. He’s lost that. The shares themselves have gone down in value by about £1.5m. And the face value of his outstanding share awards is down by about £2m.

For Compass, the decision to cut its dividend can’t have been difficult. It was a condition for receiving state support. The 2019 dividend was covered both by earnings and the cash generated, but the company had been carrying high levels of debt. It was arguably time for Compass to reassess its strategy anyway. If social distancing restrictions persist, then for Mr Blakemore the hard decisions might yet be to come.


Finely balanced

For Legal & General (LGEN), the decision about whether or not to cut its dividend and executive pay has not been so straightforward.

It is under pressure to do so. On 31 March (just a week after the UK lockdown had started), Sam Woods, the head of the Prudential Regulation Authority, wrote to L&G, saying: “When UK insurers’ boards are considering any distributions to shareholders or making decisions on variable remuneration, we expect them to pay close attention to the need to protect policyholders and maintain safety and soundness, and in so doing to ensure that their firm can play its full part in supporting the real economy throughout the economic disruption arising from Covid-19.” That’s a heavy hint. But it’s not as extreme as his letter to banks that threatened to take “supervisory powers” against them if they failed to comply. Both sets of letters assume that sectors are homogeneous: Mr Woods lumped companies together as if they all have similar patterns of business and strategies (his letter to each of the major banks extended the restrictions beyond just those that needed a bailout to save the economy 10 years earlier, and beyond those whose whole business is in the UK).

The problem that L&G faces is that in 2019 it was firing on all cylinders. So no, it would not be cutting its dividend. To do so would signal a lack of confidence in its businesses and let down its loyal shareholders. What about showing that it shares its customers’ pains? “Legal & General continues to support all of our stakeholders,” it said at the end of April, “and we have done everything we can in recent weeks to help our customers through this difficult period. At this time, our commitment to Inclusive Capitalism and to investing in the real economy is more important than ever”. In other words, its strategy was designed to manage risk, and it believes that it’s resilient enough to see them through. The market differs: it fears that there’s worse to come. L&G’s share price has fallen from over £3 to less than £2 and its high yield (at about 10 per cent) is above the level that many perceive as a red flag.

So will its chief executive, Nigel Wilson, be taking a pay cut? Apparently not. The directors keep kicking the tyres. Apart from a relatively small outflow of assets under management and a suspension of operations in its build-to-rent arm, they said (on 24 April) that its businesses were holding up well.

As with most chief executives, whether or not Mr Wilson takes a pay cut is symbolic. The hit from falling share prices is already baked into their pay structures. Mr Wilson, like Mr Blakemore, is required to own his company’s shares worth three times his salary. Since 1 March, when his salary increased to £979,500, that mandatory holding has fallen in value by about £850,000 (at a share price at time of writing of £1.85).

The amount he received last year according to his Single Figure was £4.6m (before tax). His annual bonus was £1.3m, but half of that was paid in shares that can’t be sold for three years. Together with other shares released to him for past performance (that he’s not yet been allowed to sell) and the fall in value equates to almost £1m. He’ll already have paid tax on these. It’s not beyond the bounds of possibility that, should there be further falls in share prices, the whole of his after-tax income in 2020 could be offset by the loss in value of his retained shares.


It’s only when the tide goes out…

The irony is that coping with consequences of government actions has made the role of chief executives far more testing. In the past, that might have prompted pay rises. Now executives are expected to cut their pay to show solidarity with employees.

There’s another challenge. Those annual and long-term performance conditions that have been based on absolute (rather than relative) measures such as profitability, free cash flows and returns on capital are unlikely to trigger much of a payout this year. Unless these are reviewed, chief executives could be in for a much leaner financial time. But there again, markets seem to be predicting that the crisis will be all over by Christmas.