Alcoa Linking Exec Comp to Performance

January 23, 2004 ( - Alcoa Inc has unveiled a new executive compensation strategy for its top 58 executives more closely linking rewards to Alcoa's return on capital.

Gone by the wayside is an executive compensation strategy at the Pittsburgh-based company that relies entirely on stock options. Now Alcoa is planning a 60-40 break between restricted stock and stock options awards, Chief Executive Alain Belda outlined in a news release.

Compensation for an even bigger group of top management was already tied to measures like earnings performance. But Alcoa now will tie it to return on capital, placing senior executives with more of their compensation at risk , and directly linked to the attainment of financial goals relative to the performance of “other top-tier companies”, the Alcoa statement said. This will be achieved through a new performance share design, which is at risk depending on Alcoa’s relative return on capital performance each year.

In pursuit of the return on capital target, Alcoa would seek to provide, at a minimum, returns in excess of the cost of capital, regardless of general economic and aluminum cycles. The cost of capital is currently approximately 9%. Alcoa’s fourth quarter return on capital was 7.6%, up from 4.2% in all of 2002. The first quintile hurdle currently is approximately 16%.

The 16% target was set to place Alcoa among the “ first quintile of Standard & Poor’s Industrials in return on capital performance,” the release said. More details about the pay-for-performance plan for executives were not divulged.

Alcoa’s “performance share design” is similar to “performance share units” conglomerate General Electric Co. (GE) last year said it would start granting its chief executive (See GE Brings Executive Comp Changes To Life). In GE’s case, each September stock option grants are made to several hundred senior GE executives to provide incentives for retention and superior performance. However this 2003’s grant, which took place on September 12, awarded a combination of stock options (60%) and restricted stock units (40%).

In CEO Jeff Immelt’s case, his performance share units, 250,000 shares, vest at the end of five years, and half of the units will convert to GE shares. Yet, for the conversion to take place, GE’s cash flow from operating activities must have grown an average of 10% or more per year over the period and GE’s total shareholder return must meet or exceed the Standard & Poor’s 500 Index over the period.

If one or both of the criteria are not met, the associated performance units will be canceled. Additionally, during the performance period, Immelt will receive regular cash payments on each unit equal to GE’s quarterly share dividend.

Comparatively, in 2002, Immelt’s annual equity grant was 1 million stock options, vesting in equal parts over five years, with a present value of $8.4 million.