GE Needs to Better Its Practices

Perception Matters

A separate but arguably related concern about the company's acquisition activity pertains to the executive compensation program GE adopted in September 2003 under which Mr. Immelt will receive 125,000 performance share units, or PSUs, if "operating cash flow, adjusted to exclude the effect of unusual events, increases an average of 10% or more per year during the five-year period from 2003 through 2007."

These PSUs vest at the end of 2007, and each unit is convertible into one GE share. If operating cash flow falls short of the target growth rate, these stock-equivalents expire worthless. Mr. Immelt also receives another 125,000 PSUs if total shareowner return beats the S&P 500 during this period.

"Linking 50% of Mr. Immelt's 2003 equity award directly to the company's cash generation performance, underscores GE's commitment to strong operating discipline, our triple-A rating and the GE dividend," the firm's current proxy states. Immelt's package was part of a broader effort to improve corporate governance at GE, which also included the expensing of stock options, lengthened stock ownership requirements, and a holding period for option grants.

The board deserves a salute for these efforts, but the bonus plan needs more work, as first suggested here in September 2003. Some specific concerns:

What is an "unusual" event? Another 9/11? A series of natural disasters? How about a recession?

Unsolicited advice to GE: Delete "unusual" so that Mr. Immelt is in the same boat, figuratively speaking, as GE's 670,000 other stockholders.

This plan is all-or-nothing. If operating cash flow goes up an average of 10.0% a year, then Mr. Immelt gets his bonus. But what if cash from operations rises, say, 9.99% a year? Then what? Alternately, shouldn't Mr. Immelt get more than his scheduled allotment if operating cash flow climbs faster than the target rate? (This criticism also applies to the "shareowner return" portion of the bonus plan.)

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At the time of publication, Heiserman was long GE, although positions may change at any time. Hewitt Heiserman conceived the Earnings Power Chart, Earnings Power Box and Earnings Power Staircase. A financial analyst for the past 15 years, Heiserman is a member of the Boston Security Analyst Society and the Association for Investment Management and Research. He also authored It's Earnings That Count, a book published by McGraw-Hill. For additional information, please visit www.earningspower.com. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Heiserman appreciates your feedback and invites you to send it to [e-mail].

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