CEO Compensation: Has American Express Figured it Out?

Fortune has an interesting article about the new compensation package awarded to CEO Ken Chenault. It is a massive option grant, but Chenault has to jump some pretty high hurdles to hit the mark.

To receive the full grant, he must beat several goals over the next six years, an unusually distant time horizon. AmEx's earnings per share must grow at least 15% a year on average, revenues must grow at least 10% a year, return on equity must average at least 36% per year, and total return to shareholders must beat the S&P 500 average by at least 2.5% a year. Chenault can receive a fraction of the grant for lesser performance, but below certain limits, which are still quite high, he gets nothing.

Now consider a couple of scenarios. Chenault misses all the targets but the market booms, returning 10% a year, and AmEx stock matches it. After their full term of ten years, his options would be in the money by $258 million – but he wouldn't get any of that. Why? Well, AmEx's stock presumably rode a rising tide, and his shareholders could have done just as well with an index fund while exposed to less risk. Alternatively, the market returns just 6% a year, in line with what many experts predict, but under Chenault's leadership AmEx hits all the targets and the stock returns 9% a year. Chenault collects a pretax gain of $222 million after a decade – an awful lot, but his shareholders are $35 billion richer than if they had chosen an index fund, and he's a hero.

American Express figured out how to incorporate some key ideas into the compensation package.

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1. Performance is relative. If you do well because everyone is doing well, you shouldn't get a ton of money for that.

2. Performance is not one dimensional. Too many pay packages focus only on stock price, which can provide the wrong incentives. Good to see someone being measured with multiple yardsticks.

3. Pay should be kept in perspective to shareholder gains.

Based on what I've seen so far, I like it. Maybe Michelle Leder will dig into the details in the next SEC filing and if this is really as good as it sounds.