It would be unfair to say Magna International is tone-deaf is tone-deaf to shareholders' concerns; indeed, slowly, steadily, the company has made a range of governance improvements in recent years, including tweaks to its executive compensation plan.
Yet, its core pay plan, which has resulted in tens of millions of dollars in pay to its leaders, remains largely intact. While Magna says it is "a unique company with an entrepreneurial compensation system," the pay plan is almost uniquely problematic among Canada's major corporations.
Here's how it works at Magna: For years, at least dating back to the company's adoption of its "Corporate Constitution," Magna has set aside 10 per cent of pretax profit for employees, with 6 per cent of overall pretax profit historically dedicated to its executives.
This, perhaps, was all well in good in 1984, when the company was small, and the amounts going to the executives were nominal. Magna had revenue of $493-million and profit of $57-million, resulting in an employee bonus pool of about $6-million.
Magna is a bit bigger now, however: $28.7-billion (U.S.) in revenue in 2011, with pretax earnings of nearly $1.4-billion. And the executive bonus pool has grown along with it, to the tune of roughly $80-million. It's an outsized amount of compensation despite Magna's size – and worse, Magna's plan still provides for millions if the company's earnings decline.
For now, the bulk of it is collected by Magna founder Frank Stronach, who the company paid $38-million, or roughly 2.75 per cent of pretax profit, in 2011 as part of four consulting and business-development agreements. (The percentage paid to Mr. Stronach declines to 2 per cent in 2013 and 2014; the agreements expire at the end of 2014.)
In addition to Mr. Stronach's payout, the top five best-paid officers at Magna got roughly $22.6-million in payments from the plan, with other executives not named in the proxy circular collecting the rest.
Magna spokeswoman Tracy Fuerst declined to comment on the plan, but Magna's offering circular offers a lengthy defence, saying the company believes the bonus plan "has been critical to the company's past success and will continue to be vital in the future."
"A profit-based compensation system," Magna says, "is a true pay for performance system," it says, because it can drive stock price, allow for dividends and/or share buybacks, and provide for reinvestment for future growth.
And Magna cites a report from its compensation consultant, Hay Group Canada Ltd., that says it has "a true pay-for-performance system."
Still, cognizant of criticism, Magna has tweaked the plan. Rather than paying all of the bonus in cash, the company is now giving top executives 40 per cent of the payment in restricted shares that pay out two years later.
And, starting in 2012, Magna will start scaling back the percentages paid to executives as profit increases. As an example, chief executive officer Donald Walker is slated to get 0.75 per cent of pretax profit until that number hits $1.5-billion. Over that, and until the number is $1.75-billion, his payment will be cut 15 per cent; if Magna exceeds $1.75-billion, it will be cut 30 per cent.
This change at least recognizes that an unrestrained slice-of-the-pie compensation system can produce too-big pay packages as a corporation keeps growing.
But the biggest problem with the system is that it fails to account for the directional changes in Magna's profitability; income can fall significantly (and quite likely the share price along with it), but even the reduced bonuses will be substantial.
This is a key reason why proxy-advisory firm Glass Lewis & Co. advises a "no" vote on Magna's compensation practices at the company's May 10 annual meeting. (ISS, a larger and older competitor to Glass Lewis, finds Magna's pay and performance aligned, and recommends a "yes" vote.)
Says Glass Lewis: Absent a minimum or threshold level of profit that must be met, "executives are eligible to receive significant bonuses during years of declining or unsatisfactory profits. We believe shareholders benefit when compensation levels are based on the extent to which performance exceeds or falls below targets and are thus demonstrably linked to the performance of the company."
And, although Magna has no plans to do so again, it made "adjustments" in 2008 and 2009, paying executives millions even though it posted losses and the formula should have yielded sharply reduced or even zero bonuses.
"In our view," Glass Lewis says, Magna "is not at a stage in its development where this type of plan is either necessary or desirable from a shareholder perspective."
Thanks for the tweaks, Magna, but your "entrepreneurial" compensations system needs to be sent to the scrapyard.