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How Much is Too Much?

Shareholders of Mills Corp. may finally have a chance to recoup some of the $2.4 billion they lost as the REIT's stock price plunged 65 percent between July 20, 2005, and Jan. 19, 2006.

After over a year spent shopping itself, selling off assets and scrounging together financing to keep it solvent, Mills finally found a buyer: On Jan. 18, Brookfield Asset Management Co., a Toronto-based real estate firm that owns mostly office space, agreed to pay about $7.5 billion including assumed debt and preferred stock.

The Chevy Chase, Md.-based developer, which is under investigation by the Securities and Exchange Commission, has restated earnings from 2001 to 2004 and for the first three quarters of 2005. Mills' equity holders will receive $21 per share in cash, a 19 percent premium to the stock's closing price on Jan. 17, two-thirds below its peak value just 18 months ago.

Mills' former chief executive, Larry Siegel, however, will make out much better.

In an exit package he negotiated last October as he “retired,” when it was clear that the company would have to be sold to get the funds it needed to avoid bankruptcy, Siegel secured a commitment by the Mills board to pay him a $10.5 million “change of management” fee. That was in addition to his 2006 salary, a $2.5 million severance payment and a temporary $5,000-a-day consulting agreement. (Siegel did have to fork over $362,156 to pay for personal travel he accrued on the company jet.)

“The award seems somewhat excessive given the company's fall from grace,” RBC Capital Markets analyst Richard Moore wrote in a research note when the package was announced.

Golden parachutes

Siegel was also quickly hired by Colony Capital to continue overseeing construction of the proposed $2 billion Meadowlands Xanadu project. Mills sunk $800 million in Xanadu before selling it to Colony and Kan Am for $2 billion last year.

Probably no shareholder is angrier than Equity One CEO Chaim Katzman, whose Israel-based firm Gazit-Globe Ltd. owns 9 percent of Mills and was a failed bidder for Mills. Katzman sued in December demanding that Mills hold its annual meeting and appoint Gazit-Globe nominees to its board. (The two companies eventually agreed on a joint slate.) After Mills lost out, Katzman spokesman Bruce Rubin issued the following statement: “We are disappointed that the Mills Corp. has chosen to accept what we believe is an inferior proposal. We are reviewing our options, and will make a determination of our course of action at the appropriate time.”

In the greater scheme of CEO pay, Siegel's golden kiss-off may seem like small potatoes. After all, Home Depot CEO Robert Nardelli, engineered a $210 million payday when he agreed to step down under pressure, after a six-year stretch during which the home improvement emporium saw its shares falls 6 percent — and during which Nardelli's annual compensation averaged $37.5 million.

After years of watching helplessly as CEO compensation ballooned faster than corporate earnings and share-price increases, shareholders are on the warpath. In 2005 the ratio of CEO-to-worker pay stood at 262, up from 143 in 2002, according to the Economic Policy Institute and the second highest ratio on record only to 2001 when the ratio was an even 300.

“This season it's all about CEO pay, CEO pay, CEO pay. It's issue one to five,” says Amy Borrus, deputy director of Washington-based Council of Institutional Investors.

According to Institutional Shareholder Services (ISS) in Rockville, Md., at least 60 proxy initiatives are in the works by shareholders at major public corporations who seek to end what they see as executive compensation abuses. In 39 proposals, shareholders will ask boards to more clearly link pay to performance. Another 18 deal specifically with performance-based stock options and seven are aimed at recouping unearned bonuses.

New guidelines kicking in

As 2006 annual reports begin to circulate, the protests may grow louder. Under pressure from outraged shareholders, the SEC now requires public companies to produce a scorecard that spells out in black and white just how much top executives earn — and how they earn it — rather than burying the details in footnotes that even analysts find confusing. A single number will reflect the sum of salary, bonuses and perks. Benefits such as retirement pay, severance and change-in-control pay (what the CEO stands to gain if the company is sold) will be spelled out. The result, says Borrus: “There will be dozens of ‘Holy cow!’ moments” as shareholders see more clearly what they are paying for.

The outcome will be to focus shareholders' eyes on some CEOs' enormous compensation packages. Then the task will fall on boards of directors to determine if those packages can be justified. In some cases, compensation experts predict pay packages will be lowered. Experts say real estate pay packages are reasonable and it would take a precipitous drop to lower them.

Compensation committees at REITs will be keeping a keen eye on results. “In many respects, compensation committees are what audit committees were three or four years ago,” says Mark Borges, principal for Mercer Human Resource Consulting in the firm's Washington Resource Group in Washington, D.C. “The spotlight has clearly been on pay practices for the last year-and-a-half and I don't see that changing.”

That puts compensation committees in “the hot seat,” he said, as investors react to some of the more unseemly executive compensation packages that will be clarified in the latest round of proxies.

Not all shareholders are complaining.

Indeed, at least some of the huge pay packages in retail real estate are going to executives whose management has benefited all shareholders. Stephen Roth, chairman and chief executive of fast-growing Vornado Realty Trust, has exercised option grants that netted him $88 million over the past two years. President Michael Fascitelli, meanwhile, cashed in on $158 million worth of options in November.

But Vornado shareholders have done nicely, too. Vornado shares have climbed 74.5 percent (with dividends reinvested) and 60 percent not counting dividends from Dec. 31, 2004, when its stock was at $76.13 per share to Jan. 22, 2007, when its stock reached $121.83 per share.

And, in general, real estate rates highly when it comes to keeping compensation in line with performance. “Real estate and utilities have the best practices when it comes to everything from the independence of the board to audit practices to compensation,” says Paul Wanner, ratings manager of Institutional Shareholder Services.

A Corporate Governance Rating Factor (CGR) table prepared for Retail Traffic provides some examples. (See p. 27) It shows that that the last time shareholders voted on a pay plan, ISS deemed the cost excessive in just 10.4 percent of the cases, compared with 21.6 percent for all other companies.

One negative: Real estate companies display excessive grant burn rates compared to other companies, says ISS. At 82.9 percent of real estate companies, the average annual burn rate over the past three fiscal years is 2 percent or less, or is within one standard deviation of the industry mean, compared with 85 percent with other companies tracked by ISS. The burn rate is the level at which companies grant options and restricted stock divided by shares outstanding.

Retail real estate CEOs have fared well in salaries. They received on average salaries of $454,195 in 2005 — the last year for which full data is available — an 8.5 percent increase from 2004, according to a study by SNL Financial LLC and CEL Compensation Advisors. Even when you broaden the picture beyond the public companies, executive compensation has spiked impressively. In three years, CEO compensation has jumped more than 30 percent while for top development officers the increase has been even more than 45 percent (See charts on p.28).

Of course, retail real estate has performed well during this stretch, which helps explain the raises. The real question is what happens if more Mills-type blowups occur. For now, expect more raises.

The picture is hazier with long-term compensation. The average annual bonus rose 12.4 percent to $423,755, with total cash compensation averaging $1,033,642, a 19.1 percent rise, according to SNL and CEL.

This used to be the area dominated by options, on which payouts were hard to predict when they'd occur and distribution of which now requires companies to take expense charges to earnings. Now REITs are increasingly using company stock, restricted shares and performance units. These have the added advantage of being spread out over perhaps three to five years to encourage loyalty. And performance shares require corporate goals to be met.

In 2005, these kinds of long-term compensation for retail real estate CEOs jumped 34.6 percent to $1,934,346. That was actually much lower than those for average REIT and REOC CEOs who saw long-term compensation jump 62.5 percent to $3,663,271, according to the SNL/CEL study, and incentives are expected to continue to increase relative to base salaries.

The fair pay for performance aspects of real estate executive pay is borne out in a compensation study published by SNL Financial in a December newsletter. The study, contributed by James Wright, managing partner at CEL Compensation Advisors, a Los Angeles-based real estate industry advisory firm, shows that total compensation has been in line with financial indicators.

While the study focused on real estate in general, Wright says, the results are true across the board, including the retail sector. It shows that the average funds from operations (FFO) per share growth in 2004 and 2005 was 12.1 percent, with the average total cash compensation increase per company at 11.1 percent. The average growth in net income was also 12.1 percent. The correlation of total cash compensation and EBITDA is 0.77. A figure of 1.00 represents perfect correlation. Wright says these are good numbers on an overall basis.

It's difficult to isolate any one measure on which to hang pay performance, says Wright, who compared compensation to a variety of factors, including the average company market cap growth (17.3 percent in 2005), average company net income growth (12.1 percent) and average EPS growth (17.9 percent). The average company total compensation growth was 26.1 percent. The correlation of total compensation and growth in market capitalization is 0.83. Wright says these numbers represent relatively strong alignment of pay and performance.

“The mix of compensation is weighted heavier to the longer-term well-being of the company,” says Wright.

Underscoring the interest in cutting back on stock options, some 63 percent of companies surveyed by Mercer Human Resources Consulting reduced the number of employee stock options. Fifty-seven percent of those surveyed introduced new or rarely used stock incentive programs. And of that 57 percent, 63 percent offered restricted stock.

Average compensation from restricted share value for the top five REIT and REOC executives (CEO plus the four categories of executives whose pay the SEC requires to be published in proxy materials) rose 64.4 percent in 2005, while the value of option awards rose only 8.4 percent year over year, says Wright in his report on REITs in general. That refers to the highest-paid REIT executives from all categories of real estate.

Even Mills seems to have learned from its foibles. The company attached payouts to new CEO Mark Ordan based on achieving specific results, something compensation experts say is increasing. Upon taking the job in October 2006, Ordan, who had been chief operating officer, said he would be eligible for $1.7 million in performance bonuses.

According to SEC filings, Ordan received $125,00 for closing the sale of three overseas malls and $250,000 for helping Mills extricate itself from the Meadowlands Xanadu fiasco. By contract, in 2003, Siegel was paid a $4.2 million bonus — no strings attached.

Expect to see more incentives tied to specific acts in coming years.

“REIT board action related to compensation requires a careful and complex balancing act,” says Wright in his SNL briefing. “The new SEC requirements … will likely bring a clearer presentation, thinking and logic of the linkage between compensation performance, and reinforce a strategic foundation for corporate governance.”

Developers in Demand

The question of executive compensation extends beyond public real estate companies. In the retail sector specifically, salaries and incentives are being driven up by a shortage of proven talent, according to retail real estate headhunters.

They say there aren't enough qualified job candidates to fill all the spots, especially for development pros. “Demand exceeds supply and it will continue as long as real estate continues to be a favorite asset class among institutional investors,” says John Cigna, a partner at Crown Advisors, a Pittsburgh-based executive search firm.

Retail real estate executives are in short supply for two reasons, he says. “There were two bubbles in the industry,” he notes. One was the recession of the early 1990s, which resulted in a five-year period when few people entered the industry. Then, there was the Internet bubble of the late 1990s, which diverted ambitious young executives in retailing to online ventures and away from the mall business. “That has translated to fewer people in the industry with 10 to 15 years experience,” Cigna says.

So the hunt is on, with experienced development execs getting paid accordingly. SCI's just-released 2005 compensation report indicates that incentives for development vice presidents in the top 25 percentile jumped to $296,500 — more than CEO incentives of $284,000 in the same group. (For more results, see charts on pages 28 and 29).

“There are 9 million people looking for vice presidents of development and you can't replicate the best,” says Paul Lewis, managing director of Pittsburgh-based Specialty Consultants Inc., an executive search firm. While exaggerating, the bottom line is that it takes a sack of money to keep a good development executive and even more sacks to lure them away from a competitor.

Corporate Governance Rating Factor % of Real Estate companies meeting this criteria % of all U.S. CGQ-rated companies meeting this criteria Difference
The full board fulfills the functions of a compensation committee 0.5% 0.4% 0.1%
The compensation committee includes affiliated outsiders 7.7% 10.3% -2.7%
The compensation committee is comprised solely of independent outsiders 86.0% 80.4% 5.7%
There is no compensation committee 4.5% 3.8% 0.7%
The compensation committee includes insiders 1.4% 5.1% -3.8%
All directors with more than one year of service own stock 89.2% 89.3% -0.1%
The last time shareholders voted on a pay plan, ISS deemed the cost excessive 10.4% 21.6% -11.3%
The last time shareholders voted on a pay plan, ISS deemed the cost reasonable 61.7% 61.8% -0.1%
All stock-based incentive plans have been subject to shareholder approval 94.6% 89.0% 5.6%
Executives are not subject to stock ownership guidelines 84.2% 84.0% 0.2%
Directors are subject to stock ownership requirements 23.4% 19.2% 4.3%
Directors receive all or a portion of their fees in stock 85.1% 85.3% -0.2%
Officers + directors ownership as % of shares outstanding is < 1% or > 30% 18.9% 26.4% -7.5%
Officers + directors ownership as % of shares outstanding is >= 1% and <= 5% 32.0% 21.6% 10.4%
Officers + directors ownership as % of shares outstanding is > 5% and <= 30% 48.6% 51.8% -3.1%
The average annual burn rate over the past three fiscal years is greater than 2% and exceeds one standard deviation of the industry mean 17.1% 15.0% 2.1%
The average annual burn rate over the past three fiscal years is 2% or less, or is within one standard deviation of the industry mean 82.9% 85.0% -2.1%
The company utilizes performance-based equity awards with specific performance criteria and hurdle rates disclosed 9.9% 5.4% 4.5%
There are mandatory holding periods for stock acquired upon exercise of stock options 3.2% 4.2% -1.1%
There are mandatory holding periods for restricted stock after vesting 3.6% 3.4% 0.3%
Source: Institutional Shareholder Services
Base Salary
Annual Bonus
Total Cash Compensation
Long-Term Compensation
CEO Total Compensation
2005 ($) % Change 2005 ($) % Change 2005 ($) % Change 2005 ($) % Change 2005 ($) % Change
Average 454,195 8.5 423,755 12.4 1,033,642 19.1 1,934,346 34.6 2,967,988 45.1
50th Percentile 475,314 4 475,000 5.4 802,056 5.4 1,123,783 8 2,036,830 2.3
75th Percentile 604,039 6.2 612,188 22.1 1,163,135 18 2,150,495 68.2 3,265,077 69
Source: SNL Financial and CEL Compensation Advisors
President/CEO $215,000 $290,000 $447,000 $67,000 $157,500 $284,000
Vice President of Development 185,500 243,500 300,000 73,000 152,000 206,000
Director of Development 145,000 181,000 198,000 52,500 72,000 105,000
Vice President of Leasing 171,000 234,000 321,000 68,000 165,500 296,500
Senior Leasing Executive 99,000 135,000 162,500 30,000 52,500 92,500
Vice President of Construction 161,500 191,000 242,500 38,500 82,000 136,000
Senior Construction Manager 113,000 131,500 160,500 18,000 30,000 57,000
Vice President of Property Management 153,000 178,000 247,000 22,500 47,000 86,500
Regional Property/Asset Manager 108,500 140,000 187,500 19,500 28,000 67,000
Director of Site Acquisitions/Approvals 130,000 150,000 186,500 52,500 74,500 103,500

SCI's Practice Leaders for each industry segment included in the survey worked in conjunction with our research department to identify the top 50 percent of firms in each category.- A cross-section was then taken to create a representative sample for each sector (to include both public and privately held firms) and the senior operations and human resource executives were then identified as potential participants.

Questionnaires were delivered via postal mail and e-mail to potential participants. Additionally, a significant number of individuals were interviewed either in person or via telephone.- Figures for each position included are based on a minimum of fifty responses.

To supplement employer-reported data, candidates recruited by SCI on searches for positions included in the survey were invited to confidentially participate by providing W-2 & 1099 verification of their compensation. Approximately 6% of all survey data was collected in this manner. The data from questionnaire and interview responses was checked against this verified data set to ensure consistency.

The survey results are not delineated by geographic area; rather, survey responses were adjusted to the ACCRA Cost of Living Index average of 100. For more information on the ACCRA Index and how to calculate the figures for your area, please go to

The ranges presented in the survey results reflect actual cash compensation packages (base salary and annual incentives), with all figures are rounded to the nearest thousand. The 50th percentile represents the median of all salaries reported for a given position. The ranges listed represent the half of salaries closest to the median figures, roughly equating to the typical market range for each position. The minimum of the range is the 25th percentile (25 percent of salaries reported for a particular position fall below this level); the maximum of the range is the 75th percentile (25 percent of all salaries reported for that position are above this amount).

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