58 | P a g e chairman and CEO being stipulated by the CSRC, it will not make a significant difference. The separation of the roles of Chairman and CEO therefore receives a lowest grade over the period.
Figure 4.1 Board Composition, Structure, and Mechanisms: changes for the three years prior to 2007
Source: CFA Institution Centre survey (2007)
59 | P a g e In China, the compensation package for top executives is usually a fixed-salary plus a bonus linked to the company’s performance during the year (Liu, 2005). Most executives (including directors and senior managers) are paid on average less than RMB 50,000 (US$ 6,250) per annum, with the top three executives in a listed company receive about RMB 97,000 (US$
12,000) per annum on average (Kato and Long, 2006). Independent directors usually receive less than RMB 50,000 (US$ 6,250) per annum. Executive directors usually receive benefits including a company car and housing subsidy, with independent directors also receiving some allowances.
Non-executive directors however, do not receive benefits from the listed company.
The lack of strong performance linked incentive mechanisms means that the behaviour of SOE executives may be different from private company executives. The government evaluates SOE’s based on their social responsibilities, welfare functions, total profits and taxes paid. SOE executives may be more sensitive to the performance evaluations by their politically appointed superiors, and may be inclined to overstate profits in order to fulfil political expectations.
The 2002 code requires that executives publicly report details of their remuneration at the annual shareholder meeting. Full disclosure is required on the decision-making surrounding compensation packages for directors, supervisors and senior managers; total annual remuneration payment for executives, including bonuses, allowances and expenses; and the total compensation of the three highest paid directors and managers. The CSRC disclosure requirements however, are somewhat inadequate. Detailed information on the composition of executive remuneration packages should also be disclosed. In 2007, the CSRC released “Regulations of Information Disclosure of Listed Companies”, designed to shore up the 2002 code, however the new regulation did not even touch on the subject of remuneration disclosure.
The CFA survey shows there has been no significant change over the three years prior to 2007 regarding the adequate disclosure of directors and executive compensation (Figure 4.2). Tenev et al. (2002) show that in Chinese listed companies, non-executive directors tend to hold the most shares, while independent directors hold the least on average. Senior managers tend mainly to hold employee shares issued to them when the company was listed.
A recent amendment to the original 1998 Securities Law has focused on encouraging the use of stock option plan among listed companies. The use of stock options has thus begun to play a
60 | P a g e more important role in aligning the interests of shareholders and managers, and thereby improving firms’ performance. The trend of executives’ shareholding has tended to increase in recent years, and the survey shows some improvement in the alignment of executive compensation and company performance throughout the period.
Figure 4.2 Executive Compensation: changes for the three years prior to 2007
Source: CFA Institution Centre survey (2007)
With the exception of some foreign-invested companies, stock option programs are still relatively new to Chinese companies, with only around 15% of total listed companies implementing them in some form41. The State-owned Asset Supervision and Administration Commission (SASAC) first allowed overseas (Hong Kong) listed SOE’s to adopt stock option plans in early 2006 on a trial basis, on the premise that if it was successful mainland national and regional SOE’s would be allowed to follow suit.42
The use of stock option plans, as a particular form of executive compensation however, is not a perfect governance mechanism; especially in developing markets Core et al. (2003) argue that if markets do not reflect managerial actions in equity prices, then the effectiveness of equity compensation must be in question. In these cases it would cause deeper agency problems rather than properly aligning incentives. In China, the immature legal system may allow the use of stock options to be abused. In order to ensure a positive relationship between executive compensation and firm’s performance, the Chinese legal system must be improved, with heavy penalties introduced for insider trading and the manipulation of share prices.
41 S&P transparency survey 2008:
42 Information from:
61 | P a g e Even though the use of stock options is becoming greater, not all Chinese employees will necessarily be familiar with them. Furthermore, even if they are familiar with them, they still may not necessarily be interested as the compensation is delayed. The year-end bonus has traditionally been the way of rewarding employees (Chiu et al., 2002), and thus Chinese employees may prefer shorter vesting periods.
The use of stock options however is continuing to gain ground overall. Depending on the employee, stock options can be a useful method – among others – to encourage employee performance and improve retention (Gross and Minot, 2008). Evidence suggests that stock options are now being received more favourably amongst Chinese employees. (Xiu and Ming, 2008) have found that especially amongst overseas listed SOE’s, barriers to exercising stock options have been overcome and some senior managers have received substantial rewards and have been cashing in on them. One major mainland Chinese company that has implemented options is CITIC Securities43
It is clear that the Chinese authorities recognise the importance of executive compensation as an incentive mechanism and consider it an important element of enterprise reform. Conyon and He (2008) have found CEO equity incentives in China to be positively correlated with firm size and risk profile. These findings imply that China’s corporate governance regulations have succeeded to some extent in aligning managerial interests with those of shareholders.
(Gross and Minot, 2008). The Chinese government has also initiated a new plan which allows (with prior approval of the government) for foreign exchange purchases for the purpose of stock options in foreign companies. Procter & Gamble China was the first to participate in this new program in February 2008 (Gross and Minot, 2008).