We don’t know whether The Serious Fraud Office will elect to investigate Tesco to determine whether its executives and board perpetrated a fraud against its shareholders by failing to disclose promises that could have been made to the owners of British transplants that Tesco may have induced to open in the US. We discussed the matter in this piece: Tesco Puts Up “Tens of Millions” And Purchases British Transplants Wild Rocket And 2 Sisters Foods — Was A Secret Promise Made To Make The British Suppliers Whole? Did This Constitute Fraud Against Its Own Shareholders?
What we do know is that a lot of Tesco shareholders are irate that Fresh & Easy CEO Tim Mason gets paid so much money. The Financial Times put it this way:
Tesco has suffered a sharp shareholder rebuke as close to half of its investors refused to support its pay plans.
A third of the votes cast on the remuneration report went against the retailer, while a further 15 per cent of investors abstained in protest at what they regard as excessive bonuses for board executives.
The shareholder rebellion ranks among the five biggest in more than a decade, according to Manifest, the voting agency.
…This year, the company came under fire from a US union-affiliated investment group over executive pay, focusing on the loss-making US division Fresh & Easy and its chief executive Tim Mason.
The CtW Investment Group, which works with union-sponsored pension funds representing only a very small shareholding in Tesco, said on Friday that the vote represented a “stinging rebuke”.
These types of votes, where gadflies call for negative votes against required resolutions or place resolutions of their own before shareholders, will typically result in a tiny percentage of votes. Most share are held by large institutions — pension funds, educational endowments, mutual funds, etc. — and the trustees of these organizations are loathe to vote against management and in favor of some irritant that may have ulterior motives — like unions.
So when almost 50% of the shares either vote against or sustain on a matter that management would like to see passed, it points to serious concern with the way management is ruining the company.
A not insignificant portion of this concern resolves around the performance of Fresh & Easy. Change to Win clearly has its own priorities. It is a group that includes the union that represents many unionized supermarkets. Of course this self-interest is obvious, and if its arguments were not persuasive, it’s urging of to people to vote against this salary measure would have been disregarded.
However when its investment group issued a public letter to Patrick Cescau, the Senior Independent Director on Tesco’s board, its plea had impact:
We call on you, as incoming Senior Independent Director, personally to step forward at Tesco’s Annual General Meeting this Friday to describe the steps the board of directors is taking to exercise independent oversight of Fresh & Easy and restore the link between pay and performance for its chief executive, Tim Mason.
Poor performance and inadequate disclosure at Tesco’s US venture are at the heart of mounting investor concerns over the board’s strategic oversight and commitment to transparency and pay for performance. Last week’s report in the Financial Timesthat Tesco has acquired two key suppliers to Fresh & Easy has only exacerbated these concerns; by approving the acquisitions, Tesco’s board is effectively doubling down on a US venture whose viability is increasingly in question.
As incoming Senior Independent Director, it is incumbent upon you to address these concerns before they further erode investor confidence in the board. And as a member of the board’s Audit and Remuneration committees, you are well-positioned to do so. The specific issues we would like you to address at the AGM include:
• the steps the board has taken independently to assess the viability of Tesco’s US business strategy, including its recent decision to acquire the two suppliers;
• the performance metrics and targets that the board will disclose going forward to allow shareholders to evaluate Fresh & Easy’s future performance; and the steps the board has taken to ensure that Mr. Mason’s incentive pay, and that of other senior executives, will be tied to appropriate metrics that are both measurable and disclosed.
The Need for Greater Transparency on Fresh & Easy’s Targets and Performance
Since first announcing its Fresh & Easy venture, Tesco’s board has been unduly reluctant to disclose the unit’s performance targets or acknowledge the setbacks it has experienced, which have been serious. Fresh & Easy lost £165 million in the last fiscal year, on the heels of a £140 million loss in the previous year. As you know, Tesco previously projected that Fresh & Easy would break even by the end of 2009. Additionally, despite Tesco’s claim that Fresh & Easy is enjoying sales of $11 per square foot per week, we estimate that actual weekly sales are closer to $9 per square foot.
In the face of these disappointing results, the Remuneration Committee awarded Mr. Mason increased “performance related” pay specifically tied to the U.S. business. During the 2009/2010 fiscal year, his total remuneration grew from £3.8 million to over £4.2 million, or by nearly 13%. This £480,000 increase was entirely accounted for by increases in short-term cash and preferred share awards which, according to the Remuneration Committee, are supposed to be tied to operational performance for which Mr. Mason is responsible. Over the past fiscal year, when Fresh & Easy’s trading loss deteriorated by 18%, the short term component of Mr. Mason’s performance related pay grew from £1.8 million to £2.3 million, or by 27%.
Fresh & Easy’s continuing performance and disclosure problems have eroded the confidence of independent analysts and investors alike. Last month, MF Global downgraded Tesco from Neutral to Sell in part because Tesco’s “US strategy lacks credibility and transparency.”
A month earlier, Citigroup’s Food Retail analyst asked, “Should owners of Tesco be calling for a U.S. exit?” While noting that Fresh & Easy’s cash consumption is small compared to the company’s resources globally, Citigroup’s analyst warned that “there is no end in sight to the drag [Fresh & Easy] exerts.”
The apparent decisions to abandon the US market by 2 Sisters and Wild Rocket Foods, Tesco’s principal meat and produce suppliers, are the latest votes of no confidence in the US venture’s viability. As a consequence, Tesco was apparently compelled to buy out the suppliers’ US operations. Given that both firms are major suppliers to Tesco globally and established their US operations solely to supply Fresh & Easy, we can only conclude that they did not arrive at their exit decision lightly. We can only assume these effective insiders saw the writing on the wall and concluded that Fresh & Easy was unlikely to achieve critical mass to be viable.
Adding to our concern is the fact that the two acquisitions represent a departure from Tesco’s historic approach to retailing. Tesco has generally eschewed direct ownership of suppliers, preferring instead to forge long-term relationships with suppliers who are committed to meeting Tesco’s standards for quality and timely delivery. The commitment to long-term supplier relationships has allowed Tesco to maintain a high level of influence over the standards its suppliers adhere to, without having to undertake the costs, complications, and distractions of vertical integration.
Summary
Shareholders have long been concerned by the failure of Tesco’s management and board to provide shareholders with concrete targets by which to judge the viability of the US venture and the performance and compensation of its chief executive, Tim Mason. But there is no question that Fresh & Easy has grown much more slowly than planned and has continued losing money when it was supposed to break even.
With its two key suppliers abandoning the US market, the need to provide shareholders with full disclosure of concrete performance and compensation metrics has become acute. …
We consider ourselves capitalists at heart and begrudge Mr. Mason not at all for getting whatever deal he can from Tesco. However, we think Tesco’s board should realize that these kinds of compensation schemes bring disrepute to capitalism.
If Tesco wanted to offer Mr. Mason a base of $200,000 and then a chance to make up to, say, $50 million based on phantom equity in the Fresh & Easy division, we think most Tesco shareholders would be thrilled to see him max out his payout — after all, it would mean the shareholders had done well too. We would man the barricades to protect him against those who simply resent achievement.
But this section of the letter is telling:
Fresh & Easy lost £165 million in the last fiscal year, on the heels of a £140 million loss in the previous year. As you know, Tesco previously projected that Fresh & Easy would break even by the end of 2009. Additionally, despite Tesco’s claim that Fresh & Easy is enjoying sales of $11 per square foot per week, we estimate that actual weekly sales are closer to $9 per square foot.
In the face of these disappointing results, the Remuneration Committee awarded Mr. Mason increased “performance related” pay specifically tied to the U.S. business. During the 2009/2010 fiscal year, his total remuneration grew from £3.8 million to over £4.2 million, or by nearly 13%. This £480,000 increase was entirely accounted for by increases in short-term cash and preferred share awards which, according to the Remuneration Committee, are supposed to be tied to operational performance for which Mr. Mason is responsible. Over the past fiscal year, when Fresh & Easy’s trading loss deteriorated by 18%, the short term component of Mr. Mason’s performance related pay grew from £1.8 million to £2.3 million, or by 27%.
What it tells us is that this is an “insider’s club” and that Tim Mason, the son-in-law of a former chairman and a favorite of the current chairman at Tesco, is simply not going to be held accountable for his success or failure within the sphere of his operational responsibilities.
This makes the current Tesco board look like a bunch of lackeys, but it makes capitalism in general look like a highly suspicious activity to many people — and that is a real loss for the world.
