What were they thinking?
Share incentive schemes don’t stand up to scrutiny, writes Ann Crotty
o describe them, as some analysts do, as a form of indentured labour for executives may be going a bit far considering the devastating effects of that 19th-century near-slavery system and the comparatively cosseted life of today’s average executive.
But the various share-based executive incentive schemes embedded in every company controlled or established by Christo Wiese do share one critical similarity in that they would have had devastating effects on every one of the “incentivised” executives if allowed to run their contracted course. Fortunately for the 21st-century executives they have hapless shareholders to bail them out.
In the past 12 months these schemes have exploded across the Wiese empire like landmines triggered by a retreating enemy. In this instance the enemy is surely hubris. The excessive confidence in individuals and markets that underpinned these ultimately destructive schemes has wreaked havoc and revealed the control-obsessed cynicism with which they were implemented.
Sadly for Wiese they are likely to be considered a key part of his complex legacy; more so than his role in the establishment of a number of impressive businesses.
It is not merely the benefit of hindsight that makes it
Tdifficult to imagine how Wiese was able to persuade his executives to accept the conditions attached to these highly leveraged schemes. Perhaps he was such a powerful and persuasive individual he blinded his executives to the possibility that share prices might not always move upwards.
The essence of the schemes involved lending hefty sums of money to executives, often with Wiese’s assistance, so that they could purchase shares in their company. The shares were held in a trust or specialpurpose vehicle on behalf of the executives and used as collateral for the loan.
As one financier told IM, for the executive just to break even, the share price had to grow by at least the interest rate charged on the loans, which was often quite high.
The critical underlying presumption was that the share price would, over the medium and long term, move steadily upwards. If this does not happen and the share price drops below the level at which the original purchase was struck — for a sustained period — the executives fail to derive any benefit from being a shareholder and face potentially ruinous claims for repayment of the initial loan plus interest.
That is the sort of chilling prospect that focuses the mind and secures deep loyalty — until things start to fall apart.
Brait is the latest such executive landmine to explode. The R1.1bn bill that has been dumped on shareholders relates to a scheme set up in 2011. In terms of that scheme the “investment team” at Brait paid R1.5bn for 18% of Brait at R16.50 a share, which was housed in a company called Fleet. The scheme was initially funded through a R1.2bn loan from Brait but subsequently refinanced by RMB, with Brait providing a guarantee. The executives chipped in the remaining R300m. The R1.2bn Brait-guaranteed loan was to be repaid in December 2020.
In May 2011, when Brait’s high-flying status must have seemed unassailable, 99.4% of shareholders approved the scheme. For the first few years it did look like an easy winner; the share price shot up to a record high of R165 in 2016.
On the way, some of the original investment team cashed out and pocketed enormous gains, and new executives joined the scheme at the prevailing share price. Since reaching the R165 high the share has slumped to a low of R22 and with the 2020 repayment date looming, the board decided action had to be taken.
It said it would bring forward the repayment date by 18 months, write off what the executives owed and buy back the Brait shares held in Fleet. The cost of this bailout is R2bn. Because they had essentially agreed to the debt — and the assumed repayment — back in 2011, this time around the Brait shareholders had no say.
In an ironic display of the asymmetry of executive incentive schemes, the board justified the bailout on the grounds that otherwise the executives who remained would have worked for nothing. Essentially the message being sent was, executives must be generously rewarded regardless of what happens in the market.
As the financier points out, the symmetry argument is totally flawed. “Shareholders generally don’t buy their shares with debt and are therefore less vulnerable to price fluctuations in the short and medium term. However, these incentive schemes are highly leveraged, which means the payoff and risk profile is very different from ordinary shareholders.”
Making matters just a little worse for Brait shareholders was chair Chris Seabrooke’s comment that a new incentive scheme would be needed to replace the failed one.
Wiese’s involvement in the Brait incentive scheme was not quite as hands-on as the one involving former NBS executive Paul Leaf-wright, who was able to borrow R30m from Origin, a
The underlying presumption was that the share price would, over the medium and long term, move steadily upwards