Experts warn that despite the Troubled Assets Relief Program’s (TARP) efforts to curb excessive pay, stock options not worth much now could exponentially increase, resulting in huge payouts for executives.
The Corporate Library believes that TARP money will not be paid back to the government in full until a bank or other recipient is in good financial health. The compensation regulations from ARRA include:
- a ban on incentive compensation that encourages risk taking
- clawback provisions for the top 25 executives
- a ban on golden parachutes for the top 5 executives
- a ban on bonuses, retention awards or other cash or stock incentives of any kind, except for restricted stock that does not vest while TARP money is owed, and that comprises less than one-third of the total amount of annual compensation of the employee receiving the stock (the Act does not define what would be included in annual compensation)
- a waiver for compensation subject to written agreement on or before February 11, 2009
- the introduction of a policy regarding “luxury expenditures”
- the introduction of a “Say on Pay” vote
- a review of prior payments to the top 25 executives to ensure they were not “inconsistent with the purposes of … [ARRA]” and, if so determined, the Act gives the Secretary to the Treasury authority to reimburse the government with respect to this compensation
Paul Hodgson, a senior research associate at The Corporate Library, writes that CEOs will still be overpaid—stocks rising will indicate restoration of value, not a gain. He usesCEO James Wells of SunTrust Banks as an example of practices not consistent with the purposes of ARRA.
According to Hodgson,for2008,James Wells earned just over $1.25 million with no bonus, no vesting of stock and no option profits. At the beginning of the year he was awarded equity with a grant date value of more than $6.8 million which was worth a little over $560,000 on February 17, with the stock option component of this grant worth nothing at all.
While this is somewhat reflective of the collapse in the company’s stock price, the proxy also discloses that the compensation committee has granted–subject to stockholder approval of the plan–25,075 shares of restricted stock, 25,075 shares of performance stock based on relative Total Shareholder Return, and 852,941 stock options with an exercise price of $9.06. This is in addition to the 50,000 shares each of restricted stock and performance stock, and 250,000 stock options already awarded to Wells on February 10th, again at an exercise price of $9.06. These awards pre-date the ARRA regulations by just a single day and are of even greater concern because typical stock option grants to the CEO in the past ranged between 40,000 and 250,000.
Wells had 953,000 outstanding, underwater stock options (not so much underwater as drowning) at the end of 2008, writes Hodgson. The combined 2009 awards would appear to be a repricing in everything but name. Using the company’s own calculations, the “grant date value” of the combined awards is less than half the grant date value of the 2008 awards, but this is not the issue. The issue is that the upside potential of these awards is huge. The highest exercise price for outstanding stock options for Wells is $85.06. If the stock price were to return to that level, the options would be worth over $89 million, with the restricted stock worth $12.8 million.
While such a rebound may seem unlikely, in a period of 10 years it is not impossible. Even if the stock price were to rise to the lowest exercise price of Wells’ outstanding options–$50.50–the options would be worth over $45 million and the restricted stock $7.6 million. While shareholders would clearly benefit from such a return, for most it merely represents restoration of value rather than a gain and such compensation is clearly excessive for a CEO who oversaw the decline in value.
Once financial health is restored, Hodgson implies that we will be faced with the same over-the-top compensation packages that paved the way for risky behavior, leading us to our current economic crisis.