Worth their weight?

David Milstead, Rocky Mountain News

Published June 23, 2007 at midnight

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First Data's Henry 'Ric' Duques took home $98 million in 2006 -an astonishing number given his company's underwhelming year. Did the other 49 top-paid CEOs earn their millions?

The titans of Colorado industry move markets and can make millions for people who own stock in their companies.

For this, they take home supersized paychecks - in salary, stock options and perks.

Most Colorado companies saw their stock prices rise yet again in 2006. So did executive compensation. It sounds exactly like pay for performance.

Yet even those whose companies are missing the mark are highly paid.

The median compensation figure on the list of the 50 best-paid came in at just over $6 million, up 15 percent from 2005.

Most of the continued increase comes from stock options, a tool that was designed to align executives' interests with shareholders. An option allows the holder to buy a share of stock for a specific price for a set period, often for 10 years. As the share price rises, the option is worth more.

Colorado stocks continued their index-beating ways in 2006, helping propel the pay packages. And some of Colorado's best-paid executives have presided over lengthy, healthy runs in their companies' share prices.

Mark Hellerstein, who has retired as CEO of St. Mary Land & Exploration after 11 years, saw a 247 percent return in his company's stock in the five years that ended in 2006. No wonder he made $21.6 million from stock options last year.

But that princely sum may leave a sour taste in the mouths of investors who bought into the company at the beginning of 2006 - St. Mary posted an anemic 0.1 percent return for the full year, far worse than the 13.6 percent of the Standard & Poor's 500.

"Our company tries to align long-term performance with compensation," said St. Mary spokesman Brent Collins, who noted the company's compound annual stock return of 21 percent from December 1992 to December 1996. "It certainly wasn't a one-year compensation event."

Indeed, the sustained stock appreciation behind these large payouts also benefited the company's investors, if they bought in at the same time as the options were granted.

The flip side is that after years and years of large grants, many executives are holding millions of options that can be exercised at any time for significant riches - even if recent shareholders haven't seen anything that would justify the fat executive paychecks.

"The big news items come when an executive has built value after eight, nine, 10 years and then cashed out, say, in an acquisition," said Sandra Gaffin, a Watson Wyatt consultant in Denver who heads the firm's western compensation practice. "Most of the smart CEOs hold on to (options) because that's how you build the most value. It's not one year's compensation; it's the accumulation of multiple years of compensation. You have to look at the total creation of value."

The stock option, adds Peter Miterko of Denver Management Advisors, "has always been able to deliver a lot more value. It's hard for anybody to criticize the company for granting the option when the shareholders are winning, theoretically, as long as the executives are winning."

First Data CEO Ric Duques, who made $98.3 million to top the 2006 list, is a prime example of the disconnect between the timing of investment performance and when stock options add millions to an executive's bank account.

The Greenwood Village-based money processor has had a rough time in the past five years, underperforming the Standard & Poor's 500 on a one-year, three-year and five-year basis.

Most of that did not occur on Duques' watch, however; he came out of retirement in late 2005 to replace his successor, Charlie Fote. Duques' options were granted in his prior stint with the company in the late 1990s and were set to expire because of his previous retirement. First Data's board declined to extend their life, so Duques had to use 4.1 million options, for profits of $96.2 million last March. Otherwise, he'd have lost them.

So Duques' amazing gains reflect the returns that investors got by buying First Data nearly a decade ago. It's 2006 pay for 1990s performance. (His pay is not a Colorado record: When Qwest restated, it acknowledged CEO Joe Nacchio made nearly $104 million in each of 2000 and 2001.)

First Data spokesman Colin Wheeler declined to comment for this story.

While First Data stock has lagged, Colorado companies as a whole have outperformed, leading to executive rewards.

The Bloomberg Rocky Mountain News Index returned 17.3 percent in 2006, compared with the 13.6 percent return of the S&P 500. The index, which includes all Colorado-headquartered companies worth $10 million or more trading on a major exchange, returned 128.8 percent from the end of 2002 to the end of 2006, compared with 61.2 percent for the S&P 500.

That puts a lot of Colorado stock options well into the money.

In 2006, the 268 executives in the Rocky's pay study exercised 26.7 million options for profits of $320.4 million. That compares with $244 million in profits for the 262 executives in last year's survey.

Options aren't going away, but companies continue their shift away from them.

Options came under criticism during the market bust as executives who raked in millions during the boom presided over massive destructions in shareholder value. Because options weren't recorded as a cost on a profit-and-loss statement, many companies handed them out as if they were free.

A push to begin "expensing" options on the income statement ran into resistance from option proponents, particularly tech companies that had grown from the cash-poor startup phase. They saw no need to record these noncash costs and warned that companies who could lure employees with options would instead cut back because it would hurt their bottom line.

The expensers won, and companies began recording option expense in 2006. And companies continued their move to "restricted" stock awards, some of which are conditional on the company hitting performance targets. Other complex bonus plans pay out cash awards that are a multiple of salary if certain financial criteria are met.

But companies continue to have a goal of paying their executives more than average. Among Colorado's larger companies, according to their own disclosure:

• First Data wants its total compensation at the 75th percentile of its peers, with salaries at the median.

• Newmont Mining wants total compensation at the 75th percentile, with base salaries between the median and 75th percentile.

• Qwest wants cash compensation to be between the 50th and 75th percentiles.

• Western Union wants salary and benefits at the median, with annual incentives providing "above-median compensation when targeted performance objectives are exceeded."

• The notoriously thrifty EchoStar is the exception, noting its salaries are below average, and not addressing whether it uses it stock awards and bonus plans to beat its peers.

"Even putting your pay at the median puts pay in a spiral," said Paul Hodgson of the Corporate Library, a governance group that has taken aim at excessive pay. "The people who are below raise theirs, which raises the median, which overtakes those at the median, who then say, 'Hmm, we have to pay more to be at the median' - and that increases the median again. And trying to always be above the median raises it even more."

The long-term effect: In America, S&P 500 executives are paid, by some estimates, 400 to 500 times the average worker's wage. That's a tenfold expansion from an estimate of the ratio in the early 1980s.

Defenders of the system say executive-level talent - the kind of people who can lead a multibillion-dollar corporation - is in extremely short supply. And equity awards like stock options allow executives to share in the riches they create.

The critics point back to that pay ratio and ask just how valuable these executives have to be to make millions - and sometimes billions - of dollars in a managerial career.

Christian Weller of the Center For American Progress, a left-leaning think tank, believes companies could be putting more into their work force and corporate investment: "Where we are now is too high. . . . We're living off the fruits of our past labor."

With little to no government regulation of pay, and labor unions lacking the strength to stand in the way, Weller believes companies will continue to boost executive pay far faster than what an ordinary worker will see. "They can do whatever they want," he said.

David Milstead is finance editor of the Rocky Mountain News. He can be reached at milstead@RockyMountainNews.com or 303-954-2648.

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