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Despite Losses, A Big Bonus For Top Brass


Soaring executive pay at American corporations is defended as an incentive to jazz up company performance.

But what happens when the company falls flat? At Fruit of the Loom Inc., the board simply whittled down the yardstick for management performance - by a lot.

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The Chicago-based apparelmaker repriced stock options for scores of top managers last November in what has so far become, on paper, a $25 million boon for the executives. The company disclosed the move in a proxy statement released before a May 14 shareholders meeting.

Fruit of the Loom's compensation committee made the award even though executives had overexpanded production capacity, not anticipating a severe downturn in retailing. The company lost $232.5 million last year. Moreover, Fruit of the Loom provided the largess even as it was shutting down 13 plants and laying off 6,000 workers.

The practice of repricing options has been widely criticized by investors.

"If Fruit of the Loom has any institutional shareholders who are aware of the repricing, I am sure they are going to bring the roof down," says John Nash, president of the National Association of Corporate Directors (NACD) in Washington.

The move has indeed vexed major shareholders. Some of the company's biggest institutional investors said on condition of anonymity that they condemned the repricing in meetings with company management.

"We view it [the repricing] as a negative," says Greg Jackson, portfolio manager at Yacktman Asset Management Company in Chicago. "Basically, it is a way to benefit management at shareholders' expense." Since the company last fall told Yacktman it was considering a repricing, Yacktman has more than halved its holdings to 2.1 percent of Fruit of the Loom's stock, Mr. Jackson says.

Fruit of the Loom says the criticism has been isolated. "Very few shareholders voiced any major concerns with the repricing - I would say the vast majority of them understood it," says Mark Steinkrauss, the vice president for corporate relations.

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The flap underscores that among shareholders at least, the way a company offers executives compensation can be as prickly an issue as the amount it pays.

Moreover, it comes as most companies refrain from the controversial practice of options repricing. United States companies in the past four years have generally offered other kinds of incentives because of greater shareholder vigilance and tighter federal regulations. Also, rocketing US stock exchanges have made repricing of options unnecessary, financial experts say.

"Options repricing is a no-no. It's unfair to shareholders," says Mr. Nash at the NACD. "Management should share the same risk as all shareholders and shouldn't be rewarded for mistakes." The NACD represents more than 1,500 members of corporate boards of directors.

Stock-option plans typically give executives rights to buy a given number of the company's shares at a fixed price (often the market price when the option is offered) during a period starting at future date. This allows them to profit from a share-price rise.

When a company reprices options, it calls in outstanding stock options and reissues a comparable or lesser number of options at the prevailing market price. The option holders benefit from the price difference between the replaced and new options.

Fruit of the Loom repriced the options as part of an effort to haul itself out of a slump, Mr. Steinkrauss says. It sought to reverse "the loss of a lot of somewhat younger, aggressive, highly motivated marketing and sales personnel."

The departures came as the company began a restructuring to cope with several problems, including a weak retail market, overcapacity, and excessive pricing aimed at compensating for high cotton prices, he adds.

The company on Nov. 7 awarded 191 "key executives" options to buy 2.5 million shares at the going market price of $17.25 per share, according to the proxy. The new options replaced options for 3.4 million shares issued over four years with an average per share "strike price" - the price at which an option may be exercised - of $28.

Since the company made the offer, its share price has surged more than 52 percent; the value of the managers' options has ballooned by $25 million.

Shareholders frozen out of the deal, including leading investment banks and mutual-fund companies, say Fruit of the Loom should instead have used other incentives that fairly treat shareholders. These could include a simple bonus tied to executive performance. Or, the company could back a loan that management would use to buy shares on the market, using the shares as collateral.

Some shareholders criticize the company for both its timing and failure to broadly consult with shareholders about the repricing. In November, the share price was sagging near a 12-month low, mainly because the restructuring had not yet corrected for earlier management mistakes and a weak retail market. It was, in other words, an ideal time to profit from an imminent rebound.

"Fruit of the Loom should have let the dust settle after the restructuring - let the stock price find a new home - and then look at the options at that time," Jackson says.

Steinkrauss says the company did not act wrongly but sought at all times to maximize the shareholder returns.

But from the view of shareholders, options repricing can often backfire, according to a 1993 report by the NACD Blue Ribbon Commission on Executive Compensation.

"Setting a precedent for repricing options whenever stock prices fall destroys and distorts managerial incentives to increase shareholder value," the NACD commission says. It urges firms to amend their bylaws to require shareholder approval of repricing.

Options repricing has waned since the Securities and Exchange Commission in 1992 required full disclosure of the practice, opening the way for greater shareholder scrutiny. The bull market in stocks has also boosted the price of many options above their strike price, making repricing unnecessary at many companies.

Still, some firms continue to reprice options, especially start-ups that heavily rely on options. A bear market could provoke an outbreak of repricing, experts say, especially at troubled companies eager to retain executives.

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