Sucheta Dalal :Value creations should cover compensation practices - (15 August 1999)
Sucheta Dalal

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Value creations should cover compensation practices - (15 August 1999)  

There is a significant difference in the big stock rally, which was kicked off by Yeshwant Sinha’s February budget and is led by foreign financial institutions and newly rich mutual funds. For the first time in India, there is a clear distinction between companies that have created value for investors and those that have, over the year,  systematically destroyed value. Not only is the stock valuation different, but the significant difference is that, this time, by and large, even speculators and punters are unable to rig up shady scrips within an industry category which has sought after companies. (There are a few notable exceptions, but the price rigging in these cases is due to direct collusion with investment institutions.)

The message from the market is unambiguous. Either a company is creating value for shareholders  and doing it transparently, or it is out in the cold. Investor disinterest in value destroyers (and scores of these are former blue chips from large industry groups) is so dramatic, that even punters and speculators have limited interest in making a quick buck by short selling decaying companies which continue to siphon off assets.

Naturally, blue chip companies are out to underline the distinction through the disclosure in their annual reports. Corporate governance or  value creation is the  main theme  this year and most blue chips have made an admirable beginning in terms of the quality of disclosures. But, corporate  compensation practices continue to confound and remain a dead give away.

Most companies continue to be coy about disclosing the remuneration of top managers. Even top managers have dropped the disclosures required under Sec. 217 2(A) on the pretext that shareholders who ask for the information will be supplied the information.

There are probably good reasons for being coy about salaries. Over the last few years, industrialists have discovered that hefty pay packets, often running into crores of rupees is a good way of getting funds out of the company. Over the years this had developed into a good way of earning additional income, which compensates for bad performances, low dividends and declining share value.

A recent newspaper article welcomed the big increase in corporate remuneration. But clearly increasing remuneration, which is totally delinked from performance will only lead to disenchantment among investors.

Lets look at a few examples. Among the best compensation disclosures are those by Nicholas Piramal India Ltd., but are restricted to the board of directors. The company has listed members of the board, its relationship with other directors,  their business relationship with the company, if any, and the sum total of their income from the company. This includes – sitting fees, salary and perks and commission. For instance, how many investors would know that  Swati Piramal as director and chief scientific officer of the company is also entitled to a commission of Rs nine lakhs from the company.

Infosys Technologies , the darling of the stock markets is, of course,  leagues ahead in terms of  transparency and disclosure. It began the practice of extensive disclosures way before corporate governance became fashionable seminar theme for industry associations, and continues to improve on the quality of its communication every year. But its disclosures also enable interesting comparisons. For instance, take a look at what the millionaires (dollar and rupee) in the company earn as salary . Chairman, N.R.Narayan Murthy, is paid Rs 13,12,601 per annum and Nandan Nilekani, the Chief Executive Officer to whom he relinquished charge earns a little over Rs 12 lakhs.

This is less than a quarter of the pay packets earned by all the other blue chips in the corporate sector.  Interestingly, Narayan Murthy’s view on compensation is obviously dramatically different when it comes to companies on which he is a director. We understand that Mr.Narayanmurthy headed the compensation committee of  Industrial Credit and Investment Corporation of India (ICICI) which cleared a remuneration package of a hefty Rs one crore (this is the maximum that he could earn under the package including a 100 per cent bonus) to CEO K.V.Kamat and Rs 72 lakhs each for Joint Managing Director Lalita Gupte and  deputy managing director S.H.Bhojani.

            The compensation packages of the ICICI top brass had to be cleared by a vote, since several shareholders objected, but their numbers were not large enough to block the move. The ICICI share, which has been on a long  continuous decline,(except for the perplexing  spurt after announcement that it plans to issue Global Depository Receipts).

On the other hand, Narayan Murthy and his colleague Nandan Nilekani, have not only become millionaires because of the tremendous performance of their share price, but have also donated a hefty Rs five crores and six crores respectively to their alma maters, IIT Changer and IIT POW, respectively.

While Infosys had made millionaires not only of its employees but also a vast body of its investors, the ICICI pay hike has led to enormous disparities in salaries with other financial institutions, where the government had refused to divest its holding and give them the freedom to fix their own salaries.

There is another aspect to the compensation business, which needs careful scrutiny. This is the increasing trend of top management (usually to directors who come from the promoter family) paying itself huge compensations, which are totally out of proportion with that paid out others in the management cadre. This had led to the development of close clubs  of yes-men at the top of the corporate structure whose salaries and perks depend on their ability to remain confidants of the chief executive. It also wipes out any form of dissent and debate at the highest level.

Investment experts, insist that the market is rarely fooled by management tricks – it only fools government babus or lending banks and institutions. But it would go a long way towards improving corporate disclosures, if all companies were forced to follow the Nicholas Piramal system of disclosure of directors remuneration, and if Section 217 2(A) was modified to provide the salaries of the top 50 employees. The latter would provide a basis of comparison and expose managements where the salaries of the top five to 10 per sons, including family members are disproportionately higher than the wage structure of the company.

Finally, if companies are truly serious about value creation, the one ways of impressing the market is to opt for the Infosys route of linking their own wealth to the market value of their shares. Nobody is saying that all managing directors should be paid as little as Narayan Murthy is paid, but surely there is a case for compensation beyond a point being linked directly to stock performance and profits.

-- Sucheta Dalal