Higher hurdles for millionaire grocers

Directors will now have to do more for their money as Tesco looks to appease investors on pay

Tesco appeared to bow to shareholder pressure yesterday by overhauling its executive pay structure. Among myriad changes, arguably the most eye-catching was the grocery giant's decision to no longer link the pay of Tim Mason, the chief executive of its loss-making Fresh & Easy chain in the US, to that of the performance of the business.

Furthermore, in its annual report yesterday, the scale of Tesco's multi-millionaire boardroom of seven current executive directors was also laid bare. Lucy Neville-Rolfe, the executive director of corporate and legal affairs, was actually lowest paid after receiving total pay of £1.76m. Sir Terry Leahy, the former chief executive of Tesco, pocketed £12m when he left the group in March, although this was largely due to him cashing in lucrative long-term share options.

However, at a time when executive pay is under intense scrutiny, Tesco was keen to stress that its new remuneration structure will result in roughly the same level of pay for its top brass. According to a survey by Manifest, the chief executives of FTSE 100 companies saw their median pay rocket by 32 per cent to £3.5m last year – more than 150 times the average wage in Britain.

Tesco, which has operations in 14 countries, said it had made the wider changes to its remuneration strategy after speaking to major shareholders. But the fact remains that it suffered a bloody nose from investors at its annual meeting last year when 47 per cent of shareholders either abstained or voted against its remuneration report.

David Reid, the chairman of Tesco, said: "We have designed a new structure which is simpler and more collegiate, with clear strategic financial targets, delivering broadly the same levels of remuneration as before but in a better way and more aligned with the interests of our shareholders." Tesco will apply the same performance measures to its top 500 managers.

The grocer has moved from having four long-term incentive plans, with five separate performance metrics, to a single scheme that has just two measures: earnings per share and return on capital employed (Roce). The world's third largest retailer – which is the only FTSE 100 company to grow its dividend for 27 consecutive years – said the "best way of enhancing shareholder value is to grow earnings while maintaining a sustainable level of return on capital employed". At its results in April, Tesco was bullish about growing Roce – which jumped by 12.9 per cent in the year to 26 February – towards its target of 14.6 per cent in 2014/15.

The move by Tesco got a thumbs-up from analysts. Clive Black, an analyst at Shore Capital, said: "A number of shareholders have expressed concerns about the control mechanism on Tesco's capital investment and by linking senior directors' reward to return on capital performance it is a significant development. It should help fulfil the rhetoric of management who have talked about an increase in return on capital for the group."

The grocer, which delivered profits of £3.54bn last year, is also removing share options for executive directors, replacing them with a performance share award of "comparable expected value". A Tesco spokesman said share options are most useful at start-up companies or those which have a volatile share price, neither of which apply to the grocer.

Given that he took the tiller in March, Mr Clarke's remuneration was under the microscope yesterday. Last year, the Tesco lifer's total pay came in at £2.26m, including performance-related bonuses and shares of £1.4m, although this was down on the £2.7m he received in 2009/10 due to fewer share awards.

As chief executive, Mr Clarke's base salary will be £1.1m, which is lower than the £1.4m received by Sir Terry.

But Mr Clarke could earn up to £6.8m this financial year, if he nails all his performance targets, through a short-term bonus of up to 250 per cent of salary and a further long-term bonus of as much as 275 per cent. The latter will not pay out for three years.

A sizeable chunk of the anger at last year's AGM was directed at the pay of Tim Mason, the head of Tesco's US operations, who pocketed a total package of £4.27m in 2010/11. Losses at the US chain widened to £186m last year, and Tesco has now scrapped a separate incentive scheme for Mr Mason – who received £3.09m in the year just ended – linked to the performance of Fresh & Easy.

It said the change reflected its "collegiate approach to remuneration" and Mr Mason's promotion to deputy chief executive and chief marketing officer last year. It denied it was in any way linked to its commitment to the US business that launched in late 2007.

Nick Bubb, a retail analyst at Arden Partners said: "It seems to me to be an inevitable consequence of Tim Mason being promoted to be deputy CEO of the group that he could no longer have a separate incentive deal from the other directors." Tesco has vowed that Fresh & Easy will "break even" before the end of February 2013, but Mr Clarke recently refused to be drawn on the possibility of exiting the US.

Mr Black said: "Philip Clarke has got investors into a better position [regarding Fresh & Easy] which is that if this business is not on a demonstrably clear trajectory to break even or profitability in two years' time he will make the required changes." Asked what these might be, Mr Black said: "It could be closure or a sale, or joint venture, but either way it is not going to be the drag on Tesco's capital that it has been over the last four years."

Mr Bubb suggested that the changes to Tesco's overall remuneration strategy appeared to reflect Mr Clarke's desire for the grocer to be more open and honest in its communication. But in an era of growing shareholder rebellions, investors will have their say at the grocery behemoth's annual meeting on 1 July.

Tesco directors' pay 2010

Sir Terry Leahy: £4.22m

Former group chief executive

Tim Mason: £3.09m

Deputy group chief executive; Fresh & Easy chief

David Potts: £2.31m

Chief executive of Asia

Andrew Higginson: £2.29m

Chief executive of retail services

Philip Clarke: £2.26m

Group chief executive

Richard Brasher: £2.26m

UK & Republic of Ireland chief executive

Laurie McIlwee: £2.21m

Finance director

Lucy Neville-Rolfe: £1.76m

Executive director of corporate & legal affairs