FRC611/RCF711 FINANCE RESEARCH & COMMUNICATION

CORPORATE GOVERNANCE, CEO COMPENSATION AND COMPANY

PERFORMANCE
FINAL REPORT COVER PAGE 2016

Surname

First Name

Student No.

Mazwi

Avuyile

2116358

Noland

Wade

3259770

Witbooi

Keenen

3521155

Nesi

Pelisa

3521706

Signature

By signing above we hereby certify that the answers are exclusively the work of the members of
this group and that we have not consulted with any other students registered for Finance
Research in preparing the answers submitted. By signing this sheet we also confirm that we
have carefully read the work of our team members. We further understand that if caught
collaborating with students in other groups we may individually and collectively be subjected to
the Universitys disciplinary procedures.
Introduction
(10%)

Literature
Review
(25%)

Research
and Data
(25%)

Analysis &
findings
(30%)

Conclusion
(5%)

Reference list
(5%)

Companies and Sectors Researched per student

Surname,
Initials

Student
Number

Companies

Sectors

Witbooi, K

3521155

Arcelor Mittal
Harmony Gold
PPC

Resources

Nesi, P

3521706

Pioneer Food
Group Ltd
Grindrod Limited
AVI Limited

Industrials

Mark
Awarded

Noland, W

3259770

Anglo American
Platinum
Assore
BHP Billiton
Impala Implats
Lonmin

Resources

Mazwi, A

2116358

Bidvest
The Foschini
Group
The Imperial Group

Industrials

Introduction
In business it is often assumed that an executives main aim is to maximise the wealth
of the shareholders. Therefore, one would come to the obvious executives should be

compensated based on the performance of the firm. But what is meant by firm
performance? How is it determined? Who determines it? And how are executives
compensated based on this performance? This research report studies the annual
reports of fourteen (14) companies in the Resources and Industrials sectors of the
Johannesburg stock exchange to determine how CEOs are compensated.
The hypotheses we propose are as follows: executive compensation is one of the ways
in which shareholders address the agency problem; executive compensation is directly
linked to firm performance; board structure/composition and corporate governance,
particularly the requirement of a remuneration committee, provide a guideline for
executive compensation.
Key issues in this research report revolve mainly around: Agency theory, board structure
and corporate governance. Agency theory is defined by Farmer et al (2013) where he
explains it as a relationship where the shareholders of a firm (the principals) entrust the
responsibility of managing the firm, to executives (the agents) whom must act in the
best interests of the principals; or simply put, act in a way that maximises their wealth.
Board structure is defined by Conyon & Peck (1998) as the primary internal corporate
governance mechanism responsible for setting management compensation and
monitoring senior management. These issues will be discussed more extensively in the
literature review found further in this report.
A brief introduction to companies observed in the resources sector:
Assore is a mining holding company which was incorporated in 1950. Assore, through
its various joint venture entities and subsidiary companies, is mainly involved in the
mining of manganese, iron and chrome ores together with other industrial minerals and
the manufacture of manganese and chrome alloys.
Lonmin is a mining company with a registered office in London and Operational
headquarters in Johannesburg. It is listed on both the Johannesburg Stock Exchange
(JSE) and the London Stock Exchange. Lonmin was recently thrown in the spotlight due

to the Marikana (a mine it operates) massacre which saw protesting miners being killed
by the South African police.
BHP Billiton is the largest mining company based on market values. It is a merger by
two companies namely Broken Hill Proprietary (BHP) Company Limited and Billiton plc.
Its products include iron ore, metallurgical coal, copper and uranium, and has interests
in oil and gas and energy coal reserves.
Anglo American platinum, a mining company is the worlds largest producer of platinum.
It was founded in 1995, originally under the name Amplats but was later renamed. Anglo
American is currently its majority Shareholder.
Impala implats is a mining company concerned mostly with producing platinum group
metals (PGMs). It asserts that it produces a quarter of the worlds supply of primary
platinum. Its main operating mines are in South Africa and Zimbabwe.
Pretoria Portland Cement Company or PPC as they are known, began their first
cement plant in 1892 in South Africa. PPC was first listed on the Johannesburg Stock
Exchange in 1910. They are currently the leading supplier of cement in southern Africa.
Arcelor Mittal is a metal producing company that was formed in 2006 from a takeover
and merger of Arcelor by Mittal Steel. They have the vision of being the preferred
supplier of steel solution in sub-Saharan Africa development.
Harmony Gold is the third largest gold mining company in South Africa and the 12th
largest in the world. Harmony is known for underground mining as well as surface
mining.
A brief introduction to companies observed in the industrial sector:
The Foschini Group (TFG) is regarded as one of the foremost independent chain store
groups in South Africa. Its many brands are a household name across all income
groups. It made its debut on the JSE in 1941.

Bidvest is a holding company which, through its investment endeavours, conducts

international services, trading and distribution. It operates in five (5) different continents
and employs around 141,000 people.
Imperial holdings is a logistics based company which had humble beginnings in 1948
as a car dealership. It now employs over 51 000 peoples with customers in 31 different
countries.
Pioneer Foods is a leader in the food and beverage industries in Southern Africa. The
group has operations in South Africa and four other African countries and sells its
products in more than 80 countries around the world. The Groups core business is the
production, distribution, marketing and selling of a diverse range of food, beverages and
related products. It does this with a focus on fast-moving consumer goods (FMCG)
and has been active in this industry in Southern Africa since the 1920s.

Grindrod Limited is the holding company of a dynamic organisation with more than 100
years experience in South Africas freight movement and related industries. Grindrod's
business is all about moving cargo by road, rail, sea and air, providing integrated
logistical and specialised services en route. It is a global business represented in more
than 37 countries and is uniquely positioned to service Africa trade flows.

AVI Limited is home to many of South Africas leading and best-loved brands. Centred
on the FMCG market, AVIs extensive brand portfolio includes more than 50 brands. The
Group comprises trading subsidiaries that manufacture, process, market and distribute
branded consumer products in the food, beverage and fashion categories.

Literature Review

Corporate Governance and Board structure remain the key issues surrounding the
determination of executive compensation. Conyon & Peck (1998) defines Corporate
Governance as the system of rules, practices and processes by which a company is
controlled. This involves the balancing of the interests of all the stakeholders in the
company Corporate governance uses different mechanisms to ensure the adherence
to these rules and processes. The Board of Directors, according to Conyon & Peck
(1998), is the primary internal corporate governance mechanism responsible for setting
management compensation and monitoring senior management.
An important question to ask is: how effective is the composition of the Board in
managing CEO Compensation? Conyon & Peck (1998) suggests that the compensation
of CEOs will tend to be higher if there is less involvement of non-executive directors in
the remuneration committee. This suggestion directly argues against CEO duality, a
concept where the CEO of a firm is also chairman of the board. Conyon & Peck (1998)
further suggest, should there be CEO duality in a company, this would result in CEO
getting a higher salary due to the power he/she will have in both the board and the
company.
Following the big corporate scandals in the U.S. (notably by Enron and WorldCom) in
the early 2000s, calls for improved corporate governance policies within companies. In
response to this legislation, such as the Sarbanes-Oxley Act in the U.S, and
international best practices such as the King reports, Greenbury Report, and Combined
Code on Corporate Governance all set to address corporate governance issues such as
board structure, remuneration, and sustainability to name a few (Chhaochharia V,.
Grinstein Y, 2009). The board structure, according to these best practices, ought to
consist

mostly of independent non-executive members. This view is supported by

Chhaochharia & Grinstein (2009) who refers to the board structure as an internal
structure that deals with issues of corporate governance comprised of executive and
non-executive members.
The King reports, created in South Africa, have currently three (3) versions in existence
(the fourth version, King IV, is currently being created). In South Africa King III is mostly
followed. These reports advocate the existence of a remuneration committee, amongst

others, which proposes to police executive remuneration, via the establishment and
adoption of the remuneration policies, ensuring fair executive compensation. These
policies guide and outline the composition of remuneration packages (Chhaochharia V,.
Grinstein Y, 2009). Unfortunately the King Reports are not legislation, they have no legal
binding in terms of South African law, they are best practices. However for a company
to be listed on the JSE the compliance of King III is compulsory.
According to Farmer et al. (2013), CEO compensation is composed of basic annual pay,
annual bonus, fringe benefits and discretionary accruals such as performance bonus,
golden handshakes and compensation for loss of office. This notion is supported by
Cornett et al (2007) and Chhaochharia & Grinstein (2009).
Cornett et al (2007) however finds a significant influence in earnings management by
management incentives such as discretionary accruals which in-turn cause an agency
problem for the firm. This agency problem as described previously arises when
managers may take risks to increase the value of their share options with blatant
disregard for shareholders. Farmer et al (2013) further suggests Relative Performance
Evaluations being conducted as a measure to curb CEOs from pursuing agendas not
aligned to those of shareholders.
In contrast to Farmer (2013), Cornett et al (2007), Chhaochharia & Grinstein (2009),
and Ericson (2011) proposes that performance based compensation is adopted by
companies in order to attract institutional investors because they favour companies that
pay for performance and they usually take long position in a firm without the intention of
influencing decisions but with intentions of looking for growth of their capital. Bussin &
Huysamen (2004) also theorised that there is a strong correlation between
remuneration policy and the changes in the working conditions. This argument strongly
supports the theory that, remuneration policies had to change due to the developments
in the early 2000s and the changes in the market and the economic pressures. Bussin
& Huysamen (2004) further suggested that remuneration policy had an impact on
organisational performance.

These strategies used by firms are an attempt by the shareholders to align senior
managements interests with those of the shareholders, in a bid to maximise firm
performance and increase shareholder wealth.
Remuneration policy can also be used by companies as a strategy to retain talent, to
encourage high performance and attract capital from block investors and institutional
investors.
Executive Compensation and Firm Performance
Executive remuneration has become a contentious issue with many questioning
whether the large sums of money paid to directors each year are reasonable. The
general argument is that the remuneration is reasonable if it is due; that is, the
remuneration is reasonable if the directors have indeed created and increased
shareholder wealth. This is referred to as a pay-for-performance relationship (Farmer et
al., 2013).
Some research into the correlation between executive remuneration and firm
performance has provided inconclusive findings. Farmer et al. (2013) suggest that this
might be due to the way academic researchers measure executive remuneration. A
study conducted by Scholtz & Smit (2012) measured executive remuneration
(dependent variable) as the base salary, benefits and annual bonus of executive
directors of the company. This can also be considered as cash compensation. Cash
compensation is a measure of realized pay because it only includes guaranteed pay or
pay that has met performance criteria, but crucially, its major drawback is that it does
not include payouts from share options or long-term incentive plans (LTIPs) that are
designed to vest according to absolute and/or relative firm performance (Farmer et al.,
2013). It is therefore imperative to consider executive compensation beyond what is
realized because at the end of the day their (executives) performance in any given
financial year affects the vesting of the long-term incentive plans. In the U.K. all recent
research on executive remuneration and firm performance that do allow for share
options and long-term incentive plans measure target long-term pay and not realized
pay. This is seen as a more accurate measure.

Remuneration committees usually tie executive pay to relative performance based on

three compensation elements namely: basic pay or salary, bonus pay (short-term share
options) and long-term pay (long-term share options) (Farmer et al., 2013).
Standardizing the measurement of executive remuneration will allow researchers to
make comparisons between firms operating in various industries and even on a global
scale.
The empirical studies analysed have supported the notion that executive remuneration
is indeed one of the ways in which shareholders address the agency problem. The
measurement of the remuneration, however, has the potential to provide inconclusive
findings given the different methods that may be employed. Standardizing this
measurement will yield more conclusive results.
Firm performance is the firms financial performance at a particular point in time, (Klein
1998). Bussin & Huysamen (2004), in their study of factors affecting remuneration policy
and their impact on the organization, try to develop an in-depth understanding of these
factors affecting CEO compensation and their overall impact on the company
performance. One of their main arguments was that a correlation exists between the
extent of changes in remuneration policy and the impact on the organisation.
Chhaochharia & Grinstein (2009), goes further and assigns the composition of the
remuneration and nomination committees by suggesting that the inclusion of nonexecutive directors may result in this positive correlation. In order to measure firm
performance, two most commonly used measures by researchers are EVA (Economic
Value Added) and MVA (Market Value Added). In his study, Mehran (1995) proposes two
other hypotheses that may affect firm performance. Firstly, he argues that firm
performance is positively related to the percentage of executive compensation that is
equity based. Secondly, he argues that firm performance is positively related to the
percentage of equity owned by managers. Although both these arguments can be
argued to be corporate governance mechanisms, they provide a different dimension into
other factors that may affect firm outcomes. This may be an expansion of Bussin &
Huysamens (2004) study of remuneration policies that may affect firm performance and
look further into some examples of policy strategies that firms may adopt in trying to

increase performance while offering fair and competitive remuneration packages to

CEOs and managers.
The theoretical framework has been developed from the literature consulted and
reviewed. The main concepts were identified and following from those the recurring
relationships between the concepts were scrutinized. The strong link identified between
firm performance, executive compensation and corporate governance has led to the
formation of the hypotheses as mentioned in the introduction; namely that executive
compensation is one of the ways in which shareholders address the agency problem
(1), executive compensation is directly linked to firm performance (2); board
structure/composition and corporate governance, particularly the requirement of a
remuneration committee, provide a guideline for executive compensation (3). The
analysis and findings which follow will discuss whether or not the data collected and
reviewed supports these hypotheses.
Data Collection and Methodology
A longitudinal data collection method was adopted with a five year review period, 2009
to 2013. To maintain sample validity data was collected from randomly chosen
companies listed on the Johannesburg Stock Exchange (JSE). The Integrated Annual
Reports over this period were obtained from each respective companys website. The
industries of interest were the Industrial and Resources Sector as the period under
review the South African market had been experiencing the effects of the global
recession, political imbalance and the Marikana massacre. The companies under
review for this study are: The Foschini Group, Imperial Group, Bidvest Group, Grindrod,
AVI, PPC, Pioneer Foods, Anglo American Platinum Ltd., Assore Ltd., BHP Billiton Plc,
Impala Platinum Holdings Ltd., and Lonmin Plc.
CEO remuneration was measured using the composition of remuneration as set out in
the remuneration committee reports. These included the guaranteed remuneration,
fringe benefits, and short-term incentives such as performance bonuses. The
relationship between CEO remuneration and firm performance was analysed using the
compliance indicators to the King III Report. Further analysis was concluded to test

change in CEO Remuneration in relation to Total Share Return (share price plus
dividends)
Limitations experienced during data collection are both Firm and industry related and
may have contributed to some of the data used to reflect extensive changes.
Firm specific data:
1. When CEOs leave their respective companies or are replaced the additional expenses
the company undertakes (such as golden handshakes) have the potential to skew
collected data.
2. BHP and Lonmins annual reports denote their respective CEOs compensation in US$
and GBP respectively.
3. The Foschini Group did not pay Short-Term incentives in 2009 and 2013 thus nullifying
the average calculation for this segment over the period.
Analysis and Findings
Industrial Sector
Total Guaranteed Pay (TGP)/Basic Salary

Total Guaranteed Pay (excludes benefits and short-term incentives) of companies in the
Industrial sector had an average growth rate of 20.2% year on year. This average is
significantly below the average 45% increase in Total Remuneration Package (TGP
inclusive of Fringe Benefits and Incentives).

The company with the highest percentage increase was Bidvest with a 32% average
increase. Average industry salaries rose from R4,203,333 in 2009 to R6,277,667 in
2013. Contrastingly Pioneer Foods merely increased its CEOs TGP by 2%, which is
18% below the industry average. Slightly below par was the Imperial Group and
Grindrod with 18% and 19.8% respectively.
Fringe benefits

In this economic sector fringe benefits more than doubled in over the review period, the
above shows an increase of 102%. Average benefits in 2009 were R571,566 and rose
to R1,124,383 in 2009. With Pioneer Foods the highest incentivising company at 125%
significantly higher than the industry average. Interestingly, Pioneer Foods is has the
lowest basic salary increase in the sector, its salaries only increased by 2% year on
year way below the industry average. This composition of remunerating CEO can be
further developed in future research
Another contrasting company is AVI which registered the highest salary increase in
Table now posting a significant 25% decline in Fringe Benefits, dropping to R583000 in
2010 and showing recovery in 2011 to 2013.

Short Term Incentives

The firms saw an average increase of 59.5% increase in incentive pay to CEO between
2009 and 2013. Reflected in the table below is how these increased from R3,072,500 to
R7,295,000 over a five year period. This increase however does not include figures
from the Foschini Group due to the company not reporting values for 2009 and 2013.
The biggest contributor to this average increase is AVI, with a staggering 136.8%
average increase doubling the industry average. Pioneer foods however only increased
this segment of CEO compensation by 22%, significantly lower than the industry
average.
TSR vs CEO Compensation
The industry share price over the five year review period astonishingly showed an 84%
increase with an average Total Share Return (Share price inclusive of Dividends paid)
124%.

Data from this sector indicates a positive relationship between firm performance and
CEO Compensation. The correlation between CEO compensation and Corporate
Governance is still to be tested.
Resources
Total Guaranteed Pay

CEO basic salaries in this sector increased at an average rate of 18.23% over the
period. This saw average salaries grow from R3,380,652 in 2009 to R5,033,747 in
2013. Notably the industry leaders were Arcellor Mittal with an average of 38.34%

increase over the period. At the other end of the scale Lonmin had an average of
2.57%.
Fringe Benefits

In this sector average benefits have substantially increased from 2009 by an average
rate of 20%. Significantly there has been a decline in one of the firms, Implats
substantially decreasing the incentive incentives paid to its CEO. PPC figures as
mentioned above are significantly impaired due to the payout of its CEO.
Short Term incentives

Despite huge drops in three of the companies reviewed the industry has on average
seen CEOs receive 33.40% more incentives. The decline in the incentives of firms such

as Lonmin, Arcellor Mittal and Harmony were a combination of industry and firm specific
related issues. For the purpose of this study these will not be further discussed.

Total Share Return

A number of companies in this sector have had shown negative growth over the review
period. As previously highlighted the industry and firms had undergone significant
challenges during this period. Despite this companies such as Impala Platinum (Implats)
who showed 13% decline in Total Share Return it showed a 19% increase in its CEO
salary over the same period

Inter Industry Analysis

In the resources sector, in terms of corporate governance, it is evident that the

companies vary in their compliance of the King III corporate governance guidelines
while in the industrials sector these guidelines are much more adhered to with majority
of the observed companies perfectly satisfying the test of corporate governance.
CEO compensation In the Resources Sector, in terms of the average total growth, it
can be seen that the results are very spiked (high level of dispersion) but also negative
average total growth is observed (by Lonmin). As previously highlighted in the
limitations the TSR was not defined in order to make a comparison. There is a
significantly lower positive correlation -1<p<0.475 between CEO Compensation and
Total Share Return.
Conversely in the Industrial Sector, all observed average total growth in CEO
compensation was found to be positive, but more importantly there seems to be a link
between this and TSR for example a high level of TSR results in a high level of average
total growth in CEO compensation. However this link is not proportionate.
In relation to the Remuneration Committee (REMCO) it can be noted in terms of
executive remuneration the one factor driving CEO compensation in the mining sector
(based on the sample of the 8 companies examined) is health and safety of workers
(denoted as HSEC in affixed sheets). Other than that mining companies differ in
performance measures used to determine their respective CEOs compensation.
In the industrials sector, CEO remuneration growth is certainly different to the executive
remuneration in the mining companies. Out of the sample of three no negative growth
occurred, potentially due to less volatility in this sector (INDI Top 25) compared to the
resources sector (RESI Top 10) as observed in the study by Small (2015). Also noted
was Bidvests whopping 86% growth in CEO compensation to add that it's TSR
observed was not as high as that experienced by the Foschini Group or the Imperial
group. Therefore it can be concluded that in the industrials sector TSR may be
considered by the REMCO but its effect is not a dominant factor.
Turning to the REMCO policy indicators further substantiates the argument that TSR is
not a dominant factor to industrials, with the exception of the Foschini Group. TSR

made up around 20% of the consideration toward CEO compensation, in the case of the
Foschini Group, however, TSR made up 50% of the CEOs compensation. Strangely in
the sample observed the CEO of the Foschini group received the least average growth
over the 5 years however its TSR for the 5 years was the highest observed. Other than
that mostly financial performance indicators are used to determine CEO remuneration.
Conclusion
According to Conyon & Peck (1998) compensation of CEOs will tend to be higher if
there is less involvement of non-executive in the remuneration committee. This seems
to be the case for Anglo (an increase of 176%) but surprisingly not for Assore (an
increase of 15%). Both of the companies for majority of the period had a Chairman who
was not independent. Also the argument of Bidvest growth observed, of which the
company had an independent non-executive director, who achieved a substantially
higher CEO remuneration growth in comparison to Assore. Therefore in terms of this
case the suggestion made by Conyon & Peck (1998) is invalid.
CEO compensation according to Farmer et al (2013) supported by Cornett et al (2007)
and Chhaochharia & Grinstein (2009), is composed of basic annual pay and annual
bonus. These observations were supported in the study with the addition of companies
providing fringe benefits as well as Long Term Incentive Plans (LTIPs).
Ericson (2011) proposes that performance based compensation is adopted by
companies in order to attract institutional investors because they favour companies that
pay for performance and they usually take a long position in a firm without the intention
of influencing decisions but with intentions of looking for growth of their capital. This
argument is seen in the industrials sector in terms of TSR but it is not that big at around
20% except for the Foschini Group. The mining sector does not really apply to this as
more weight is given to health and safety. Therefore in the industrial sector this
argument finds application but not so much in the mining sector.

References
Bussin, M., & Huysamen, D. (2004). Factors driving changes to remuneration policy and
outcomes. SA Journal of Human Resource Management, 2(2), p-45.
Chhaochharia, V., & Grinstein, Y. (2009). CEO compensation and board structure. The
Journal of Finance, 64(1), 231-261.
Conyon, M. J., & Peck, S. I. (1998). Board control, remuneration committees, and top
management compensation. Academy of Management Journal, 41(2), 146-157.
Cornett, M. M., Marcus, A. J., & Tehranian, H. (2008). Corporate governance and payfor-performance: The impact of earnings management. Journal of Financial Economics,
87(2), 357-373.
Ericson, R. N. (2011). Benchmarking for Executive Incentive Pay: The Importance of
Performance Standards. Compensation & Benefits Review, 43(2), 92-99.
Farmer, M., Archbold, S., & Alexandrou, G. (2013). CEO Compensation and Relative
Company Performance Evaluation UK Evidence.Compensation & Benefits Review,
45(2), 88-96.
Mehran, H. (1995). Executive compensation structure,
performance. Journal of financial economics, 38(2), 163-184.

ownership,

and

firm

Scholtz, H.E., Smit, A. 2012. Executive remuneration and company performance for
South African companies listed on the Alternative Exchange (AltX). Southern African
Business Review. 16(1):22-36.
Small, W. 2015. Application of cross-sector style analysis of South African equities in
active portfolio management.