The cash bonus for Paresh Patel, the HCI Group's (NYSE:HCI) CEO declined to $1.25M in 2016 from $4M in 2015. At first glance, this may appear to be a small triumph for shareholders, but it is not. Examining details reveals that the $1.25M cash award was only part of the $2.8M in additional compensation awarded to Mr. Patel. Given company performance, the cash and stock awards look more like gifts than bonus compensation for excellent performance.
An 8-K on 12/30/16 announced management bonuses, including Mr. Patel's. It seemed an unremarkable event until we read an article on the topic in the Tampa Bay Business Journal. The headline reads "Tampa insurer cuts bonus for CEO". It quotes the filing in explaining the bonuses: "the compensation committee gave considerable weight to the company's expected net income in 2016 as compared to 2015". Our interpretation of this is "earnings are declining a lot, therefore, we are going to buckle down pay executives less", which would make sense given the -55.7% collapse in net income for the nine months of 2016 to $24.4M from $54.8M in the prior period.
The article made us wonder if HCI's compensation committee was, indeed, getting tough with executive pay in light of rapidly declining earnings. Alas, our analysis shows that it is not the case. The get-tough language masks what looks like a give-away, at least in the case of Mr. Patel. Examining HCI's 8-Ks associated with bonuses illuminates why.
Mr. Patel's 2015 cash award of $4M was made "pursuant to a performance-based cash bonus plan", according to the 12/14/15 8-K. The plan was outlined in an 8-K earlier in the year on 1/28/15, and stated that Mr. Patel would be entitled to a cash bonus of 3.25% of EBITDA provided that HCI met the performance goal of $75M in EBITDA for the year ending November 2015.
There was a noted shift in language between the 2015 and 2016 bonus announcements. The 12/30/16 8-K states that Mr. Patel was awarded a "discretionary bonus" of $1.25M as opposed to the "performance-based bonus" in 2015. The bonus plan for 2016 was outlined in an 8-K on 2/4/16. It stated that Mr. Patel was entitled to a performance-based bonus of 3% of EBITDA if the performance goal of $75M in EBITDA for the period was met.
In all likelihood, Mr. Patel did not meet the performance goal, thus was not entitled to a performance-based bonus, which would explain the shift to the discretionary bonus. The dramatic downward trajectory of performance over the last year indicates as much. It is shown below.
Source: Company filings and estimates
2015 roughly corresponds with the period and EBITDA used to calculate Mr. Patel's bonus for that year. The number indicates that Mr. Patel would have qualified for a performance bonus even if EBITDA for the 2016 period declined -38% to $75M from approximately $122M. It's an interesting world where a 38% decline in EBITDA is considered an achievement to be rewarded. Even then, the nine-month figures for 2015 and 2016 show that EBITDA collapsed -47.2% thus far in 2016, suggesting that even that low bar was not met.
We don't view the $1.25M discretionary bonus as a cut, but rather something of a gift, given that Mr. Patel probably did not qualify for a performance-based bonus. It appears as if the compensation committee created a 'discretionary' bonus ex post facto to give Mr. Patel something after he failed to meet his performance goal for the year.
But that's not all.
On 1/7/16, HCI announced that the compensation committee awarded Mr. Patel 40,000 shares of stock and options to purchase 110,000 shares at $40. The options could expire worthless, but the stock is currently valued at $1.56M. It looks like another gift from the compensation committee to Mr. Patel.
The stock award was made pursuant to the 2012 omnibus incentive plan, which gives the compensation committee "the authority to determine the compensation" of executives and make equity awards. The discretionary bonus plus the stock award take Mr. Patel's non-salary compensation to over $2.81M. 2016 turned out to be a terrific year for Mr. Patel, if not for his shareholders.
The article from the Tampa Bay Business Journal was technically correct in that Mr. Patel's cash bonus declined from $4M to $1.25M. However, citing the compensation committee's faux tough language and calling it a cut is a misunderstanding or mischaracterization of the events. In our view, getting a $1.25M bonus after missing targets while presiding over a -55% decline in earnings is a very generous gift. Add to that the $1.56M stock award and Mr. Patel has a pretty sweet deal, particularly in light of the poor financial results.
Last June, the Tampa Bay Business Journal wrote an article titled Tampa attorney wins another stint on HCI board, despite shareholders vote, pay practice concerns. The article notes that the board member was installed despite that "most shareholders did not vote for his reelection". It also noted that Institutional Shareholder Services recommended that HCI shareholders withhold votes for all board nominees due to pay practices and shareholder rights issues. We wrote about the topic here: HCI Group: Is Management Disregarding Shareholder Votes?
As it happens, that Tampa Attorney referenced in the article is Martin Traber, who is, according to HCI's 2015 10-K, the Chairman of the Compensation Committee. We suspect the company's wrangling with corporate governance watchdogs may not be over.
Mr. Patel must be quite happy with the generosity displayed by the Compensation Committee this year. The same may not be true for shareholders, though, at least those paying attention.
Disclosure: I am/we are short HCI.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.