Performance anxiety at Cosi’s
Companies have personalities, and Cosi Inc. (COSI) strikes me as a social climber: it takes its name from an opera, claims its customers are “elites,” and brags in its 10-K about serving food for “three major dayparts – breakfast, lunch and dinner.” Let’s hope newly hired CEO/President James Hyatt, a former Burger King franchisee, explains to the Cosi troops that (flatbread notwithstanding) they work for a fast food chain and it’s OK to say the word “meals.”
Hyatt will no doubt do his best to do something about Cosi’s earnings, not to mention its stock price. But I’m irked by something in his employment contract (filed with an 8-K Tuesday evening).
In addition to his $600K salary, bonus (TBD), and 475,000 shares of restricted stock that will vest if he just hangs around for a few years, he’s eligible to earn “Additional Restricted Stock” tied to annual “specified performance goals.” The contract is coy about what the goals will be, but indicates that their achievement, or lack thereof, will be measured using fancy techniques involving lots of math.
So far, so good. But then the contract, in a confusing 3-sentence paragraph you wouldn’t know about if you just read the summary in the 8-K, takes a slight twist. I’ll paraphrase it for you:
Sentence 1: In a year when 100% of the performance goals are met, Mr. Hyatt will get 100,000 shares of Additional Restricted Stock (vesting over 5 years).
Sentence 2: In a year when 100% of the performance goals aren’t met, he’s not eligible for any restricted stock.
Sentence 3: Actually, despite Sentence 2, if it feels like it the Compensation Committee can grant him up to 100,000 shares anyway “based upon overall performance.”
When a board ties an award to detailed performance measures while reserving the right to ignore them, the whole exercise becomes pretty meaningless. Why even bother creating the metrics? I guess some companies enjoy bragging about pay-for-performance but don’t want to sandwich themselves into practicing it.
P.S. See this Proxyland post for a similar gripe about The Gymboree Corporation (GYMB).
P. P.S. Thanks, Michelle, for inviting me to post here on Footnoted.
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September 22nd, 2007 at 12:01 am
I don’t mean to defend their plan, but I can tell you probably why they do it: the old way was something like 80/120, meaning if you hit between 80% and 100% of target performance (conversely 120% of budget and you max out on the upside), you could still get a bonus; e.g., 50% for 90% achievement-to-target. So, the old way had a so-called soft landing for the near miss.
But this plan has an abrupt hurdle, so if he comes up 95% on the metrics (which don’t appear to me to be mathish, rather financially specific which is good, link to adjusted CFO looks good), technically he gets a goose egg. So the discretion is supposed to give the Board a little leeway, so they can dole out something. Investors/board, they do like tight metrics, but only to a point, because they know going into the year that uncontrollables will impact even the most carefully calibrated targets.
September 22nd, 2007 at 12:32 pm
Thanks for your thoughtful comment. I don’t mean to suggest there’s anything wrong with plans that allow for a soft landing. But a plan like Cosi’s old one (as I understand it from your description) anticipates the distinct possibility of a “near miss” and gives investors a pretty good feel in advance for what will happen in that situation. The Hyatt deal, on the other hand, is structured as all-or-nothing with an open-ended loophole, and since the goose egg scenario is pretty unlikely (a board won’t want to stiff a CEO who does a half-decent job), it seems to me that the setup is more discretionary and less metrics-based than it appears.
September 24th, 2007 at 2:42 pm
You make sense, Wendy, though I am fascinated by the natural tensions that emerge in this new environment. In my (humble) opinion, discretion needs to accompany the enhanced disclosure of concrete incentive metrics.
Before all of this enhanced disclosure, companies with “metrics-based approaches” *typically* had built-in, undisclosed safety values; e.g., if the plan was 50% payout for $X EPS and 100% payout for 2X, but the Board could still retroactively adjust the target (e.g., to exclude Division XYZ that met with unforseen, uncontrollable disaster). And, it must be understood, this is not in all cases investor unfriendly. Especially when referring to 3-5 year LTIs, for most companies, calibrating precise targets is difficult/impossible.
And, on the other hand, i wouldn’t dismiss out of hand the incentivizing nature of the above plan. When the Board says to the CEO, your plan is hit this bogey for your stock payout, miss it and the plan calls for nothing, 80% of the “incentive” happened in that discussion. Unless the Board is constituted with insiders, they know they will have to defend discretionary overrides. I just think as an investor, you might prefer this discretionary override (importantly, assuming governance is otherwise healthy) to a concrete plan that handcuffs them without any ability to adjust for new information along the way. (I spent eight years as a Consultant installing metrics- based plans – the reality is that few investors want 100% metrics without discretion– the academics who push this tend to underestimate executive motivations and overestimate the feasibility of calibrating targets. Not to mention that argument against quant goals in the first place; halfway thru the year the Board may decide some new strategic initiative is critical but it will require investment that kills the target). Sorry for length, i hope that is interesting…David
September 27th, 2007 at 3:23 pm
Hi David – Your points are well taken and obviously you’ve got great experience in this area. I share your view that some academics live in a fantasy world. I also don’t believe that bare-all disclosure of every detail of every formula should be mandated, nor that discretion is necessarily bad. What will incentivize any particular executive depends on many things specific to the company, the industry, and the individual’s personal financial situation and personality. So I don’t think I see any of that much differently from you.
But I’m from Planet Lawyer, so I always ask whether, when people put something in writing, they mean what they say and say what they mean. I felt the Cosi setup I posted about didn’t meet either test, because (and here’s where we differ) I think it’s quite easy for the board to justify an override here – in fact, if the year has gone reasonably well but they stick to their guns and give him zero shares, that might seem like an imprudent, perhaps disincentivizing gesture. The structure they’ve set up is like a New Year’s resolution you’re highly unlikely to keep, e.g, swearing you won’t eat a single crumb of sugar for the entire year, instead of setting a more modest and achievable goal like limiting your intake of hot fudge sundaes to one per quarter. If you sincerely want to avoid all sugar, you’d better have someone lock you up for the year and throw away the key. I think this metaphor is getting away from me, but I hope you see what I mean.
September 27th, 2007 at 9:10 pm
You had me at fudge sundae! Yum. (The new site looks great too, you folks hit all the senses). Yes, I see what you mean. I do agree the “resolutions” (incentive targets) should be more flexible. My concern is that precise targets are not realistic (and more broadly, an overreaction in current environment that tries to solve the old incentive problems with deceptively precise formula disclosures), the further out you go, the less so. It seems, if true, that can be dealt with either thru discretion or, as you imply, with smoother payout functions (i.e., instead of an all or nothing hurdle, a lower hurdle but feather in the upside). Food metaphors are winning…
September 28th, 2007 at 9:17 am
Now that I’ve seen the comment about lawyers in your bio, I’m happy you’re even speaking to me.
Credit for the redesign goes to Michelle, 100%. I just showed up at the last minute.