Pay packages to upper echelons are complex and lack transparency. Is this set to change?

CHIEF EXECUTIVE in pay cut shock! As a new survey showed boardroom pay soared last year, one of Britain’s leading companies revealed it had reduced the salary paid to its chief executive and is overhauling its entire system for rewarding top executives.

Before we get too excited that the tide on executive pay may finally have turned, the company in question is Tesco, which has come under increasing fire in recent years for its large boardroom rewards and none-too-stretching performance targets. Last year, in one of the City’s biggest protest votes, Tesco suffered the humiliation of seeing investors speaking for 47 per cent of its shares fail to approve its remuneration report, either by voting against it or abstaining.

The Tesco annual report, published yesterday, reveals that new chief executive Phil Clarke is paid a base salary of £1.1 million, down from the £1.4 million paid to his predecessor, Sir Terry Leahy, but an increase on the £825,000 he was previously paid. The reduced rate should not, perhaps, come as a surprise; after all, Leahy had headed the company for 14 years and is widely regarded as one of Britain’s most successful businessmen.

But of course base pay is only one part – and often a relatively small one – of an executive’s total package. Thus Leahy, who retired as chief executive in March, enjoyed a pay-and-bonus package of £4.3 million pushed up to no less than £12 million once share options are included.

Pay policies at Britain’s leading companies have become horrendously complex in recent years, spawning an entire industry of pay consultants to dream up ever more inventive ways of rewarding the top brass. A multitude of different schemes exist and companies frequently operate several plans at once, making it hard to establish just how demanding the underlying performance targets are.

So the news that Tesco is simplifying its executive pay policies is to be welcomed, no matter whether the motivation was to head off another shareholder revolt at the agm this summer or a sudden outbreak of restraint and desire to communicate clearly on the part of the remuneration committee.

Tesco is doing away with share options, a payment tool it says it believes to be more appropriate for start-up businesses or companies with volatile share prices rather than an established operator like itself. Instead, rewards will be based on performance and the streamlined approach will see the group’s four long-term incentive plans merged into a single scheme.

The number of performance measures will be reduced from five to two: return on capital employed and earnings per share.

The number of performance measures for the annual bonus will also be hacked back from more than 20 to seven, including underlying profit growth, new space expansion, internet sales, CO2 reduction and employee engagement, as well as UK like-for-like sales growth. The changes will apply in the boardroom and also to the group’s 500 top managers.

Tim Mason, who heads up the flagging US operation, Fresh Easy, is to be brought into the same scheme as his UK counterparts, rather than have his pay linked to the American operation. This will go down well with institutional shareholders, who were particularly angered last year at Mason’s £4 million-plus package for running a subsidiary that has yet to make a profit. Mason’s inclusion in the UK scheme has also heightened speculation that, under its new chief executive, Tesco is preparing to admit defeat in the US but that it does not plan to make Mason, a veteran Tesco man, pay the price.

All but one of Tesco’s eight executive directors earned over £2 million last year, some considerably so, despite taking pay cuts. The company admitted yesterday the new pay policies would give executives “broadly the same levels of remuneration as before” but “in a better way and more aligned with the interests of our shareholders”. The new chief executive, for example, could earn up to £7 million this year (largely in shares) if he meets his targets.

Nonetheless, it is encouraging to see a company of Tesco’s stature address the issue of clarity and over-complexity on pay, particularly in the light of a survey at the weekend, by pay consultancy MMK and the corporate governance group Manifest, which found that median earnings of FTSE 100 chief executives rocketed by 32 per cent in 2010, taking them to an average £3.5 million. Over the same period, average earnings in the UK crept ahead by just 2 per cent; an effective pay cut given the rate of inflation.

Fiona Walsh writes for the Guardianin London