HYDRO ONE S PROPOSED NEW COMPENSATION FRAMEWORK

Transcription

1 HYDRO ONE S PROPOSED NEW COMPENSATION FRAMEWORK Prepared by: Hydro One Limited for public consultation Submitted for consideration and approval to the Province of Ontario Management Board of Cabinet in accordance with the Hydro One Accountability Act, 2018 February 14, 2019

2 LETTER FROM THE CHAIR On behalf of the Board of Directors of Hydro One Limited, I am pleased to share our proposed new compensation framework with our customers, employees and shareholders. This requires Ontario government approval. We have been listening carefully to our largest shareholder, the Province of Ontario, as well as other large shareholders and have made a considerable effort to balance concerns around cost management with the need to attract, retain and motivate highly-qualified leadership at the CEO, broader executive and Board levels. As part of our fiduciary duty to act in the best interests of the company and in accordance with the Hydro One Accountability Act, the Board has undertaken a thorough process to develop a new compensation framework. In addition to our comprehensive consultations, we have engaged in extensive benchmarking work with an independent advisory firm and discussions with other business leaders. As part of that work, we reviewed compensation at peer organizations to confirm what comparable companies are paying to attract skilled leaders who have proven they are able to lead a large, investor-owned utility. Our new framework proposes significantly lower compensation for the CEO, top executives and the Board of Directors. It will provide our shareholders as well as current and future employees clarity, stability and a competitive compensation framework for the foreseeable future. Costs associated with CEO and Board compensation will be reduced by approximately $5 million per year compared with the previous CEO and Board compensation structure. The associated impact on other executive compensation will result in further savings of approximately $5 million per year. Importantly, no costs associated with top executive compensation will be covered by customer rates; they will be paid directly from company profits. Hydro One plays a critical role in powering homes, businesses and communities across Ontario. A strong, stable and well-run electricity grid will help to support a thriving economy. With this compensation framework, we will be in a position to select a highly-qualified CEO with deep experience in the utility sector. The new CEO will continue Hydro One s focus on delivering exceptional customer service, driving efficiencies and improving the reliability of the electricity system. I want to take this opportunity to thank our shareholders for their input and support on this important work. With best regards, Tom Woods Board Chair Hydro One Limited HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

3 TABLE OF CONTENTS EXECUTIVE SUMMARY 4 DELIVERING VALUE TO ONTARIO 5 A RENEWED COMPENSATION APPROACH 5 PAY FOR PERFORMANCE CORPORATE TARGETS 6 BENCHMARKED AGAINST OUR PEERS 7 EXECUTIVE COMPENSATION FRAMEWORK 7 CEO COMPENSATION 8 OTHER EXECUTIVES 9 OUR APPROACH TO BOARD COMPENSATION 9 SEVERANCE 10 APPENDIX A: BENCHMARKING ANALYSIS 11 APPENDIX B: SHORT AND LONG-TERM INCENTIVES 16 APPENDIX C: 2019 HYDRO ONE STI TEAM SCORECARD 18 APPENDIX D: CEO COMPENSATION 19 APPENDIX E: BOARD OF DIRECTORS COMPENSATION 21 HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

4 EXECUTIVE SUMMARY We re changing our compensation framework. We want to be transparent with our customers, employees and shareholders about these changes and how we measure the success of our leadership team. Hydro One has developed a new compensation framework designed to attract and retain an experienced leadership team. This will help ensure stability and the company s continued progress in driving efficiencies, improving customer service and strong financial performance for the benefit of its customers, employees, shareholders and all Ontarians. Key features of our new framework: Hydro One customer rates will not include any of the compensation for our CEO and top executives CEO compensation will be reduced by 62% 70% of CEO compensation will be risk-based/dependent on meeting challenging and measureable performance targets Compensation for the CEO and top executives will be reduced by 40% to 50% and tied to challenging and measurable performance targets Board of Directors compensation will be reduced by approximately 47% Pay will be tied to delivering excellent customer service, reducing costs, improving safety and reliability and strong financial performance. Peer benchmarking by an independent compensation firm puts Hydro One s compensation for CEO, top executives and Board close to, but not above, the median of the peer group of Canadian publicly-traded and government-owned utilities and energy companies (See Appendix A for a detailed benchmarking analysis) CEO COMPENSATION * Salary of $750K with a possible performance pay of $1,725K We developed this framework after a thorough process: Comprehensive consultations with our largest shareholder, the Province of Ontario, and other large shareholders Engagement with Mercer (Canada) Limited, an independent compensation firm to develop a comparison peer group of companies A comprehensive review of compensation for CEO, top executives and Board with peer organizations to confirm what comparable companies are paying to attract and retain their leadership teams HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

5 DELIVERING VALUE TO ONTARIO We proudly serve the needs of customers, shareholders and communities across Ontario. As the Province s largest electricity transmitter and distributor, we are responsible for managing and maintaining $25 billion in assets that deliver the critical electricity we depend on every day. We operate 98% of Ontario s high-voltage transmission system and serve 1.3 million residential customers and 88 First Nations communities. Our mandate continues to focus on the safe and reliable delivery of power and putting customers first by improving service and reducing cost. Following the introduction of the Hydro Accountability Act, we are changing our executive compensation. To develop the framework, Hydro One s Board of Directors undertook comprehensive consultations with the Province and other shareholders and engaged a well-respected independent compensation firm to conduct industry benchmarking. We want to be transparent with our customers, employees and shareholders about these changes and how we measure the success of our leadership team. A RENEWED COMPENSATION APPROACH We have made significant changes and taken a balanced approach to compensation. Hydro One must attract and retain an experienced leadership team to ensure stability and the company s continued progress in driving efficiencies, improving customer service and strong financial performance for the benefit of its customers, employees, shareholders and all Ontarians. Our approach to executive compensation Hydro One customers will not pay any of the compensation for our CEO and top executives. Compensation for Hydro One s executives will be paid directly from our company profits. Hydro One s new executive compensation is competitive and designed to attract and retain leaders who will continue to deliver excellent customer service, reduce costs and drive shareholder value. Executive compensation has been benchmarked against Canadian publicly-traded and governmentowned utilities and energy companies. Peer benchmarking was conducted by Mercer (Canada) Limited, an independent compensation firm. With a focus on paying for performance, 70% of CEO compensation will be risk-based/dependent on delivering against challenging and measurable performance targets set annually by the Board of Directors. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

6 PAY FOR PERFORMANCE Under this framework, a significant portion of compensation is dependent on meeting performance goals. These targets are designed to challenge the organization to achieve increasingly higher levels of performance on behalf of customers, employees and shareholders. Key performance objectives are tied to delivering excellent customer service, reducing costs, improving safety and reliability and strong financial performance. See Appendix B for additional details on short and long-term incentives. Targets are: Set and evaluated annually Clearly defined and measurable Progressively more challenging to achieve Approved by the Board of Directors Pay for Performance Short and long-term incentives ensure executives achieve yearly targets as well as long-term value for shareholders and other stakeholders. Short-Term Incentives: Potential to earn an annual bonus tied to challenging performance goals. This incentive is approved by the Board and awarded once a year following an internal review of year-end results Long-Term Incentives: Share-based compensation tied to the creation of long-term shareholder value awarded after a threeyear performance period. This compensation is tied to performance metrics, such as share price, earnings per share, total shareholder return and the company s operating costs CORPORATE TARGETS Short-term compensation is tied to meeting minimum, target and maximum performance metrics. Minimum: Company must achieve similar or greater than historical results. Target: Company must achieve a marked improvement over historical results. Maximum: Company must achieve a substantial improvement over historical results. Corporate Goal Definition 2019 Performance Goals Minimum Target Maximum Safety Recordable employee incidents per 200,000 hours Reliability Average transmission customer outage time in minutes Average distribution customer outage time in hours Productivity Savings in $M since 2015 $173.7 $193.0 $231.6 Customer Satisfaction Residential and small business customers 71% 78% 81% Large and industrial transmission customers 85% 90% 92% See Appendix C for the detailed 2019 Hydro One Team Scorecard. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

7 BENCHMARKED AGAINST OUR PEERS To develop our new approach to executive compensation, we worked with Mercer (Canada) Limited, a wellrespected, independent compensation firm, to develop a comparison peer group of companies consisting of 13 Canadian organizations, including publicly-traded and government-owned utilities and energy companies. This group reflects Hydro One s core business of delivering standard utility services, while recognizing the added complexity of being a publicly-traded company. In keeping with best practice, only organizations with comparable revenue, assets and market capitalization were considered. The compensation for Hydro One s CEO will be close to, but not above, the median of the peer group of Canadian publicly-traded and government-owned utilities and energy companies. CEO COMPENSATION BENCHMARKING *Subject to performance objectives being met. EXECUTIVE COMPENSATION FRAMEWORK The new executive compensation structure for the CEO and top executives represents a 40% to 50% reduction in cost, with a focus on paying for performance. What follows is a breakdown of compensation for Hydro One s CEO, top executives, Vice Presidents and the Board of Directors. The new framework will apply to executives appointed after February 15, In accordance with employment law, current contracts will not change. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

8 CEO COMPENSATION The new executive compensation structure for the CEO represents a 62% reduction in cost, with a focus on paying for performance. This framework will allow us to attract and retain a CEO with the proven skills and experience to drive cost reductions, improve service and refocus Hydro One on our critical role in the economy. The company s new CEO will drive the achievement of key performance objectives aligned with our strategy: Achieve a world-class safety record Improve reliability for our transmission and distribution customers Continue our record of driving increased productivity savings Improve satisfaction for residential customers and maintain record high transmission customer satisfaction CEO COMPENSATION PAY FOR PERFORMANCE * Salary of $750K with a possible performance pay of $1,725K CEO COMPENSATION BREAKDOWN Salary Target Short-Term Incentive Target Long-Term Incentive Total Minimum Target* Maximum Previous CEO Compensation $ 1,200,000 $ 1,320,000 $ 3,960,000 $5,160,000 $6,480,000 $7,800,000 New CEO Compensation $750,000 $600,000 $1,125,000 $1,875,000 $2,475,000 $2,775,000 *Target reflects expected total compensation if executive achieves challenging performance outcomes. The intent is that this would apply for the next four years (in accordance with the Hydro One Accountability Act) and be adjusted for inflation each year. The CEO will also participate in Hydro One s defined contribution retirement plans and benefit plans; the total value will not exceed 5% of target compensation. Minimum and maximum as reportable in the Management Information Circular the following year. See Appendix D for details on the target CEO compensation. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

9 OTHER EXECUTIVES Target compensation for top executives, such as the Chief Financial Officer and Chief Operating Officer, will be set between 35%-75% of the CEO s compensation. Compensation for Vice Presidents will be set between 12%-35% of the CEO s compensation. The framework for these executives will also have a strong emphasis on pay for performance. TOP EXECUTIVE AND VP COMPENSATION BREAKDOWN Target Compensation* Executive Vice Presidents $875,000 - $1,856,000 Vice Presidents $305,000 - $875,000 *Includes short term and long term incentives; range reflects a number of positions with varying levels of expertise and responsibility. These compensation ranges will be adjusted for inflation each year, during the four-year period covered by the Hydro One Accountability Act. Executives also participate in Hydro One s defined contribution retirement plans and benefit plans. OUR APPROACH TO BOARD COMPENSATION The new Board of Directors compensation represents a 47% reduction in total cost, with a focus on paying for performance. The compensation framework for Hydro One s Board of Directors is designed to attract and retain highly-qualified directors. Hydro One s new Director compensation is close to, but not above, the median of the peer group of Canadian publicly-traded and government-owned utilities and energy companies. The number of Directors on Hydro One s Board has been reduced by nearly 30% and individual Director compensation has been reduced by between 24-48%. The annual retainer for Directors will be split 50/50 between cash and sharebased compensation. To be consistent with our pay for performance philosophy, we will have lower guaranteed retainers and put more emphasis on execution of Board duties. Directors must hold three times their retainer in share-based compensation, which must be held for 12 months following their departure from the Board. See Appendix E for additional details on Board benchmarking and compensation. BOARD COMPENSATION BREAKDOWN Prior Board Compensation New Estimated Compensation* Board Chair $330,000 $169,500 Committee Chair $210,000 $155,000 Committee Member $185,000 $140,000 * Estimate reflects Director retainer and meeting fees. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

10 SEVERANCE Hydro One s approach to termination has been validated against broader market practices and is consistent with Ontario common law. No severance will be paid to executives terminated for cause. CEO Top Executives Severance Benefits Long-Term Incentive Plan 2 x salary Lower of 3-year average bonus or target bonus Coverage for 24 months or until new employment is secured Resignation unvested awards are forfeited Retirement awards vest on schedule 1.5 x salary Termination without cause accelerated vesting on a pro rata basis Termination with cause unvested awards are forfeited Lower of 3-year average bonus or target bonus Coverage for 18 months or until new employment is secured Change of control continued or accelerated vesting depending on change of control circumstances HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

11 APPENDIX A: BENCHMARKING ANALYSIS Compensation Benchmarking Study To attract and retain talent with the skills, experience and capabilities to lead an organization with the size and complexity of Hydro One, our compensation framework must be competitive with other Canadian publicly-traded and government-owned utilities and energy companies from which we source our talent. The proposed peer group reflects both our core business as well as the complexity of a publicly-traded company. Mercer (Canada) Limited, an independent compensation firm, was retained to develop a compensation peer group consisting of 13 Canadian organizations, including publicly-traded and government-owned utilities and energy companies (see below). In keeping with peer group development best practice, selected organizations have comparable financial metrics, such as revenue, assets and market capitalization. Due to the nature of the Canadian marketplace, certain organizations having 1/3 3x Hydro One s key metrics were selected to ensure a robust and statistically-sound peer group. This peer group was used to establish compensation levels for the CEO, top executives and Board of Directors. For Vice Presidents, similarly-focused survey data was used and particular care was taken to match the role on a functional basis for market-appropriate compensation. HYDRO ONE S PEER GROUP HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

12 DETAILED PEER GROUP: CEO COMPENSATION DATA Please note: The individual CEO peer data is actual 2017 compensation as disclosed in publicly available proxies. Analysis summary data is based on 2017 compensation data aged by 2.5% to estimate 2018 compensation. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

13 DETAILED PEER GROUP: BOARD CHAIR COMPENSATION DATA *To be comparable with Mercer assumption for companies shown above. **Assumes 13 board meetings. ATCO is excluded from the peer group (here) for the Board Chair, as the ATCO Chair is also President & CEO. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

14 DETAILED PEER GROUP: COMMITTEE CHAIR COMPENSATION DATA *To be comparable with Mercer assumption for companies shown above. **Assumes 13 board meetings and 8-9 committee meetings for each of 2 committees. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

15 DETAILED PEER GROUP: COMMITTEE MEMBER COMPENSATION DATA *To be comparable with Mercer assumption for companies shown above. **Assumes 13 board meetings and 8-9 committee meetings for each of 2 committees. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

16 APPENDIX B: SHORT AND LONG-TERM INCENTIVES SHORT-TERM INCENTIVES Short-term incentives are comprised of team and individual performance metrics. Performance targets are designed to challenge the organization to achieve increasingly higher levels of performance on behalf of stakeholders, including customers, employees and shareholders. Target performance levels are stringently defined, challenging in nature, progressively harder to achieve and approved by the Board of Directors. The short-term incentive (STI) each year, for each executive, is calculated as follows: Actual STI, for an executive = (Target STI, for that executive) x (STI performance multiplier, for that executive) Target STI each year equals base salary multiplied by a predetermined STI target multiplier (every executive has a predetermined STI target multiplier set at the start of the year). For example, under the new framework, with CEO base salary of $750,000 and CEO STI target multiplier of 80%, the target STI is $600,000. This would be the cash payment received by the CEO at the end of the year for STI, if performance for the year on each STI metric was exactly at target. The actual STI received could be higher or lower than the target STI, based on the calculation (at the end of the year) of the STI performance multiplier. The STI performance multiplier for the CEO ranges from 0 to 150%. STI could range from no payment at all (if performance on every individual metric was below minimum/threshold ) and 150% (e.g. if performance on every individual metric was above maximum ). Every STI metric (see Appendix C) has a minimum, a target, and a maximum measures predetermined at the start of the year. The STI Performance Multiplier has two parts: I. Team Performance Multiplier (80% weighting) II. Individual Performance Multiplier (20% weighting) Team Performance (80% weighting) There are ten STI metrics for the team performance scorecard, each with a weighting, the sum of which is 100%. The STI team performance multiplier equals the weighted average interpolated result based on actual results relative to the threshold, target and maximum measures for each of the ten metrics which may range between 0% to 200%. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

17 Individual Performance (20% weighting) The CEO s individual STI metrics will be set by the Board of Directors at the beginning of each year based on Hydro One s strategic plan and corporate priorities, each with a weighting, the sum of which is 100%. In the past, there were four individual STI metrics. Going forward, there will be a fifth metric related to the Board of Directors assessment of the CEO s contribution and collaboration with the Province, industry peers and oversight bodies in working towards the Province s goal of achieving a reduction in electricity bills. As with the STI team performance multiplier, the STIP individual performance multiplier equals the weighted average interpolated result based on actual results relative to the threshold, target and maximum measures for each metric which may range between 0% to 200%. For the CEO, the overall STIP performance multiplier will be capped at 150%. LONG-TERM INCENTIVES The long-term incentive (LTI) each year, for each executive, is calculated as follows: Actual LTI, for an executive = (target LTI, for that executive) x (LTI performance multiplier, for that executive) The LTI is paid in shares three years after being granted. The number of shares granted at the end of the three years will depend on performance over the three years. A simplified description of the LTI is as follows: Target LTI for a year equals base salary multiplied by a predetermined LTI target multiplier (every executive has a predetermined LTI target multiplier set at the start of the year). The share units will vest at the end of three years as follows: I. 25% Restricted Share Units vest directly into tradeable common shares on a 1-for-1 basis; and II. 75% Performance Share Units vest into a number of common shares, based on performance relative to three performance multipliers (for the CEO): i. Performance Share Units (PSUs) tied to EPS growth over the three years ii. iii. PSUs tied to total shareholder return relative to industry peers over the three years PSUs tied to achieving Hydro One s operating cost budgets over the three years As with STI, the aggregate LTI performance multiplier for the CEO will also range from 0% to a cap of 150%. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

18 APPENDIX C: 2019 HYDRO ONE STI TEAM SCORECARD * If the company has a fatality, the attained Safety measure will be reduced to 0% based on the findings of the System Investigation. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

19 APPENDIX D: CEO COMPENSATION Hydro One must have an experienced leadership team to ensure stability and the company s continued progress in driving efficiencies, improving customer service and strong financial performance for the benefit of its shareholders and all Ontarians. We are confident our renewed approach will ensure all these needs are met. Specifically, Hydro One s renewed compensation approach will achieve the following key objectives: 1. Attract and retain highly qualified executives with the proven experience and ability to successfully engage with a range of complex stakeholders, regulatory bodies and securities agencies. Hydro One is committed to an executive compensation approach that is competitive and balances the interests of all stakeholders. Such approach includes paying close to, but not above, the median of a comparator group of Canadian publicly-traded and governmentowned utilities and energy companies. 2. Provide a direct link between pay and performance to drive accountability and a performance-oriented culture that is aligned with Hydro One s business strategy. Hydro One s executive compensation plans have challenging and measurable performance targets: better customer service, reduced costs, improved system reliability and infrastructure, and strong financial performance. 3. Ensure that the interests of Hydro One s executive and its stakeholders are aligned to create value for all, including the people of Ontario. Hydro One is taking a balanced approach to compensation, focused on measures that are tied to safety, reliability and growth, and that consider the broader context in which our business is evolving. Hydro One s renewed executive compensation program respects the interests of customers and shareholders: 1. Base salaries will be close to, but not above, the median of a peer group of Canadian publicly-traded and government-owned utilities and energy companies of comparable size and complexity. 2. Performance-based pay will make up a significant portion of executives total pay packages; this means payment is at risk and only made if/when results are delivered. The long term incentive payout will be deferred for three years, and is subject to the risk of share price volatility. 3. Pension and benefits include a defined contribution pension program (in place since 2004) with shared employer and employee contributions. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

20 4. Target Compensation is a dollar number established at the start of each year; it represents an approximation of the amount of money that the CEO could reasonably expect to earn for work performed that year. Not all compensation would be received that year - almost half would be expected to be deferred (paid in shares after three years). Target Compensation is an estimate, but it is a convenient benchmark going into each year. Actual compensation for a particular year would depend on actual performance and the share price after three years. *Paid annually after year-end financials are approved. **Paid at the end of the 3-year performance period. ***LTI performance multiplier is based on performance metrics, such as share price, earnings per share, total shareholder return and achieving operating cost budgets over the 3-year performance period. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

21 APPENDIX E: BOARD OF DIRECTORS COMPENSATION As with the executive team, Hydro One s Board of Directors must also have the skills and capabilities required to effectively lead the company, and provide oversight including the company s dealings with a variety of stakeholders, investors, regulatory bodies and securities agencies. The Board of Directors has developed a compensation framework for its members to align with the objectives of Hydro One s executive compensation framework. HYDRO ONE S RENEWED BOARD OF DIRECTORS COMPENSATION APPROACH WILL ACHIEVE THE FOLLOWING KEY OBJECTIVES 1. Attract and retain highly qualified directors to ensure that the Board is equipped to carry out its duties and be highly regarded by investors, governance organizations, and regulators Hydro One is committed to a Board compensation approach that is competitive, balances the interests of all stakeholders and does not increase the risk of retention and attraction of directors. Such approach includes paying close to, but not above, the median of the same comparator group of Canadian publicly-traded and governmentowned utilities and energy companies used for the executive compensation framework. 2. Provide a direct link between Director pay and performance Director compensation will have a lower weighting on guaranteed retainers and more emphasis on execution of of Board duties. 3. Ensure that the interests of Hydro One s Directors and all stakeholders are aligned Directors must be shareholders holding Hydro One shares further aligns the Board with shareholders. At least half of the Directors retainers will be paid in Deferred Share Units (DSUs) which are directly tied to Hydro One s share price performance. Directors are required to hold at least 3x their annual retainer in shares or DSUs until 12 months after retiring from the Board. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

22 BOARD COMPENSATION FRAMEWORK The board compensation structure (below) was developed using market data from the peer group (see Appendix A). The total compensation is comprised of cash and share-based compensation (i.e. Deferred Share Units) retainers, as well as meeting fees. Total Compensation is positioned between the 25th percentile and median of the market. With the reduction in board size from 14 to 10 Directors and adoption of this new lower compensation structure, board compensation costs will be nearly 50% lower than that of the prior board. HYDRO ONE S COMPENSATION FRAMEWORK FEBRUARY

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