Text · Zhejiang Provincial Communications Investment Group
State-owned Assets Report Magazine Issue 4, 2024
Medium and long-term incentives, as an important tool for enterprises to improve corporate governance and improve incentive means, are an important means for modern enterprises to avoid the pursuit of short-term profits by the management layer under the authorization of improving the governance of the board of directors, leading the enterprise to continue to grow bigger and stronger, and stabilizing the core team of the enterprise. From a practical point of view, the history of the implementation of medium- and long-term incentives by mainland state-owned enterprises is relatively short, and the relevant policy mechanisms are still in the process of improvement, facing many problems and challenges. On this basis, Zhejiang Communications Investment Group (hereinafter referred to as "Zhejiang Communications Group") combined with its own practical experience to put forward a "good prescription" for strengthening the construction of medium and long-term incentives.
The effectiveness and enlightenment of the implementation of medium and long-term incentives in state-owned enterprises
Since 2018, Zhejiang Jiaotong Group has thoroughly implemented the three-year action plan for the reform of state-owned enterprises, and actively explored medium and long-term incentive mechanisms around the overall goal of "striving to be a world-class enterprise" to achieve rapid development of the enterprise. By the end of 2022, the group held 370 enterprises at all levels, 5 listed companies, more than 40,000 employees, total assets of 840.5 billion yuan, and net assets of 278.5 billion yuan. The Group was rated as a leading enterprise in high-quality development in Zhejiang Province and ranked 310th in the Fortune Global 500 in 2023. Zhejiang Jiaotong Group has actively practiced and explored in the aspects of equity incentives, employee stock ownership, fund co-investment, and excess profit sharing of listed companies, and has achieved good results. Equity incentives of listed companies. Zheshang Zhongtuo (a subsidiary of Zhejiang Communications Group) implemented a restricted stock incentive plan in 2017 and actively launched a stock option incentive plan in May 2020. Zheshang Zhongtuo's equity incentive plan has played an active role in binding the interests of core backbones, maintaining the stability of the core team, promoting substantial growth in operating performance, and rapidly improving the benchmark of the industry. Employee stock ownership. In April 2021, Jinwen Railway Company (a subsidiary of Zhejiang Communications Group) implemented the reform of "asset simulation separation + employee simulated shareholding" and the medium and long-term incentive mechanism, and innovatively designed and implemented a new incentive mechanism of "employee simulated shareholding", so that employees have the rights and obligations of both "virtual shareholders" and operators. Since the implementation of the incentive mechanism, it has achieved "one stability and one expansion" of passenger transportation and freight business, "two doubles" of operating mileage and number of driving logarithms, reversed the downward trend of operation, and completed the goal of reducing operating losses for two consecutive years. Fund co-investment. The asset management platform under Zheshang Financial Holding (a subsidiary of Zhejiang Communications Group) is a private equity fund investment management platform, and in 2023, the employee co-investment mechanism of "mandatory co-investment + voluntary co-investment" will be piloted. An employee co-investment platform is set up in the form of a limited partnership as the parallel co-investment entity of the fund. By designing a co-investment model of risk sharing and benefit sharing, the incentive and restraint mechanism of the investment team is strengthened, and the interests between the team and the company are effectively bound, so as to promote the team to better fulfill its fiduciary obligations and realize the preservation and appreciation of state-owned assets. Excess profit sharing. Zhejiang Traffic Control (a subsidiary of Zhejiang Communications Group) has implemented practical exploration of the excess profit sharing mechanism for its affiliated operating companies such as Guoda Group and Zheshang Property. The reward conditions are based on the assessment profit target determined by the tenure system and the contractual target responsibility letter, and the part of the actual completed profit exceeding the assessment profit shall be rewarded. From the perspective of implementation results, the incentive mechanism is conducive to the expansion of commercial asset management business, stable operation and performance improvement.
Problems and challenges in medium- and long-term incentives for state-owned enterprises
At present, the construction of the medium and long-term incentive system for state-owned enterprises is still in the exploratory period, and in the process of practice, there are still many practical and institutional problems to be solved in terms of policy basis, constraint and incentive, assessment and evaluation.
Policy level
"Pain point 1": the medium and long-term incentive policy system needs to be further improved. First, in the current medium and long-term incentive policies, in addition to the equity incentives of listed companies and the equity and dividend incentives of state-owned science and technology enterprises, there are clear institutional regulations and operating norms, some incentive model policies have not yet been introduced, so state-owned enterprises lack systematic policy guidance in the incentive process. Second, from the perspective of formulating policies, the medium and long-term incentive policies are mainly formulated from the level of the State-owned Assets Supervision and Administration Commission of the State Council, and in the actual implementation, the medium and long-term incentive policies have many overlapping contents with human resources and social security, taxation, auditing, etc., and it is necessary to coordinate with relevant departments to formulate a more perfect medium and long-term incentive policy system. Third, the current medium and long-term incentive policies are still in the trial stage, especially the lack of normative constraints and indicators in the incentive process of state-owned enterprises, which is difficult to really implement in actual operation, and the operational compliance and incentive effectiveness are insufficient. "Pain point 2": The approval time period for equity incentives of listed companies is long. The implementation of the equity (option) incentive plan of listed companies generally needs to go through a large number of program design, demonstration, communication, calculation, approval and other links, and the overall implementation cycle is long, while the market environment of listed companies changes rapidly, and the opportunity and time window of the capital market have become important variables affecting the incentive plan. In recent years, there have been many failed cases of listed companies implementing stock incentives. In particular, the stock option incentive adopts the market price lock pricing, and under the condition of meeting the rigid requirements of the policy, the success probability of launching the incentive plan at the relatively low level of the capital market and the relatively low stock price of listed companies is higher, otherwise the high price lock is superimposed on the downward trend of the capital market, and once the stock price is inverted for a long time, the positive significance of the incentive plan will be dampened.
Enterprise level
"Pain point 3": The method of determining the performance target of medium and long-term incentives needs to be more scientific and reasonable. In the determination of performance targets, both restraint and incentive should be attached. Judging from the current operation situation, enterprises sometimes lack a unified and consistent setting principle and reference basis for determining the performance targets of medium and long-term incentives. Sometimes there are too many constraints, unfast processes, and low efficiency. In addition, due to the different industry attributes, the purpose and tendency of various enterprises to carry out medium and long-term incentives are also different, and the setting of performance targets should also be different. "Pain point 4": how to implement medium and long-term incentives for asset-heavy enterprises needs to be explored. Asset-heavy enterprises have a large capital scale and limited ability to contribute capital when employees subscribe for equity, so the proportion of equity held by employees in the company or project is very small, and it is difficult for employees to effectively participate in corporate governance, which inhibits the enthusiasm of employees to hold shares. Some asset-heavy enterprises have a long construction cycle and a long payback period for their projects, which makes it difficult to ensure the effectiveness of employee stock ownership because their current efforts cannot be reflected in the current or recent business performance. At the same time, some asset-heavy enterprises are in long-term fluctuating industries, and the operating performance of enterprises is strongly correlated with industry fluctuations and product price fluctuations, and the degree of correlation with employees' efforts is weak, which will also affect the effectiveness of employee stock ownership. "Pain point five": the exit mechanism of medium and long-term incentives is not perfect enough. In terms of employee stock ownership, the first is that the exit mechanism is not perfect when the employee stock ownership company setup plan is implemented, and when employees change positions, retire, or leave their jobs, employee shares cannot be circulated and cannot be continuously motivated due to many restrictions such as the transfer price not agreed in advance or the ability to bear funds. Second, there is a certain difficulty in the equity withdrawal of non-listed companies. For example, if Furuncheng Company is currently a non-listed subsidiary of Zhejiang Jiaogong (a subsidiary of Zhejiang Communications Group), if it is unable to realize the spin-off and listing of A-shares through operation in the future, it will be difficult for the shares held by the management team to be transferred and withdrawn through market-oriented channels.
At the personal level
"Pain point six": medium and long-term incentives for personal funds are under great pressure. On the basis of ensuring that the source of funds is in compliance with the law, the employee's capital contribution is paid in the form of self-raised monetary funds, and the company is not allowed to provide loans or guarantees. At present, most of them solve the problem of insufficient funds through personal financing and borrowing, and the pressure on employees to contribute capital is relatively large. In addition, the market downturn and the uncertainty of performance in recent years will increase the uncertainty of expected earnings and share-based payment expenses, and individuals will also have greater financial pressure. "Pain point seven": the tax burden of equity incentives of listed companies is high. For the company's incentive recipients, when the equity incentive is not applicable to the deferred tax policy, the incentive recipient shall pay individual income tax at a maximum rate of 45% due to the progressive tax rate applicable to the income from the equity incentive. And because this part of the tax is earlier than the time when the cash income is obtained, it not only has cash pressure on employees, but also brings the risk of "paying taxes before earning money", which directly affects the release of the effect of equity incentives of enterprises. At the time of final realization, a capital gains tax of 20% will be paid on the difference between the exercise price and the realisation price. Considering that the restriction period of incentive stocks is generally long, and there is a capital cost itself, a higher level of tax burden directly affects the enthusiasm of employees to participate in equity incentives. "Pain point 8": Shareholders' willingness to pay dividends will have a certain impact on the operation of the enterprise. Generally speaking, in equity incentive plans such as equity incentives of listed companies, real-share co-investment, and management shareholding after mixed reform and listing, the incentive effect is better through dividends. First, the dividend tax rate is significantly lower than the capital gains tax rate; Second, dividends can bring visible benefits to shareholders during the lock-up period and subsequent holding periods, and more intuitively feel the impact of corporate operations on individuals; Third, dividends can reduce the cash flow pressure of repayment caused by financing when employees subscribe for equity. Therefore, the willingness of shareholders to maintain a high dividend yield on dividends will be relatively strong, but it may have a certain impact on the healthy growth of corporate operating funds.
Medium- and long-term incentive policies and operational suggestions for state-owned enterprises
The implementation of medium and long-term incentives will bundle the interests and risks of the management team with the company to control risks and promote the improvement of benefits and efficiency, which can not only effectively promote the preservation and appreciation of state-owned assets, but also mobilize the enthusiasm of employees, which is conducive to the long-term and steady development of state-owned enterprises. In view of the pain points in the implementation of medium and long-term incentives, combined with the practical experience of Zhejiang Communications Group in the implementation of medium and long-term incentives and the advanced practices of other state-owned enterprises, the following suggestions are put forward:
Policy level
"Prescription 1": Increase support for medium and long-term incentive policies. On the issue that the income from equity incentives needs to be paid at a progressive tax rate, which greatly increases the holding cost of equity incentives, it is suggested that the government finance and taxation departments should study and issue policy opinions such as guiding tax incentives, further clarify the reasonable standards of equity incentive income tax, and promote equity incentives of state-owned enterprises to benefit employees better and better. At the same time, listed companies are allowed to reserve a certain proportion of the number of rights and interests for the introduction of market-oriented high-end talents, improve the density and height of human capital, and promote the preservation and appreciation of state-owned capital. "Prescription 2": Optimize the approval of equity incentives of listed companies. Because the approval time for equity incentives of listed companies of state-owned enterprises is relatively long, the successful implementation of equity incentive plans is closely related to the performance of the capital market, the benchmark of the accounting year, and the financing market. On the basis of legal compliance and adhering to the principle of reciprocity of incentives and constraints, it is suggested that the space for independent decision-making of listed companies can be increased in terms of the selection of incentive tools, the intensity of incentives, the scope of incentive objects, the performance appraisal system, the number of rights and interests granted, and the grant price. "Prescription 3": Relax the restrictions on co-investment of asset-heavy projects. High-tech, asset-light projects may have a high rate of return, so employees are more willing to take risks when co-investing, and at the same time accept more restrictions. However, the return rate of asset-heavy projects is relatively low and stable, so it is necessary to be more flexible in setting conditions to improve the enthusiasm of employees to participate in incentives. At the same time, for asset-heavy projects, it is recommended to look for the possibility of breaking through the requirement of no higher than net assets when employees follow the investment and exit. By appropriately improving the flexibility of co-investment exit, the risk preference of employees for co-investment can be improved to a certain extent and the implementation of the co-investment mechanism can be promoted. "Prescription 4": the issue of "same price for the same shares" at the employee's shareholding price. The State-owned Assets Supervision and Administration Commission of the State Council requires the same shares and the same rights in principle for mixed-ownership reform subsidiaries, and prohibits the "credit export of non-trade funds within the group that has not implemented effective safeguard measures". Whether the implementation of safeguard measures are effective or not is left to the enterprise to evaluate and make decisions. It is suggested that a corresponding guidance or control system should be introduced to solve the problem of credit output of major state-owned shareholders in the operation process of mixed-ownership enterprises, and promote the effective implementation of the incentive mechanism for mixed-ownership reform.
Operational level
"Prescription 5": Classification and hierarchical management to enhance the applicability of medium and long-term incentive tools. According to the general classification of public welfare and commercial state-owned enterprises, the attributes of state-owned enterprises with functional guarantee and market competition should be specifically distinguished, and medium and long-term incentive tools should be selected according to the conditions of the enterprise in combination with the characteristics of the industry and the actual situation of the enterprise. At the same time, for specific enterprises, it is necessary to distinguish between listed companies and non-listed companies, start-up and mature stages, fully competitive markets and oligopoly markets, as well as different business priorities, and coordinate the combination of single incentive tools and multiple incentive tools to enhance the applicability of medium and long-term incentive tools. "Prescription 6": Optimize the exit mechanism and smooth the medium and long-term incentive exit channels. Due to the long time span of medium- and long-term incentives, no matter what medium- and long-term incentive tools are adopted, they will eventually face the problem of exit. Therefore, it is particularly important to optimize the exit mechanism of medium and long-term incentives and smooth exit channels. It is suggested that in the top-level design of the exit mechanism, it is necessary to distinguish between normal exit situations such as organizational transfer, retirement, death during employment, and normal resignation through no fault of employees, as well as abnormal exit situations such as termination of labor contracts and termination of labor relations caused by violations of laws and disciplines, and implement differentiated exit mechanisms and pricing mechanisms. "Prescription 7": Reasonably set the proportion of short-term and medium- and long-term incentives, and establish an incentive mechanism suitable for the development of enterprises. When setting up incentive mechanisms, state-owned enterprises should not only be able to give short-term incentives to employees when they have outstanding performance, but also should be able to set medium- and long-term incentives based on the current situation and goals of enterprise development. At the same time, for different stages of enterprise development, the focus of short-term incentives and medium- and long-term incentives should also be different, when enterprises are oriented to short-term performance or market share improvement, short-term incentives can be the mainstay, supplemented by medium- and long-term incentives; When the enterprise has a scientific top-level design and long-term planning, and employees are optimistic about the future development of the enterprise, the weight of short-term incentives can be appropriately reduced, and medium and long-term incentives can be the mainstay. "Prescription 8": Comprehensive measures to reduce the pressure on employees to participate in medium and long-term incentive funds. First, it is recommended that enterprises implementing medium- and long-term incentive plans should appropriately adjust the performance-based pay deferral mechanism and/or risk collateral mechanism for executives and employees, such as appropriately reducing the period of deferred salary, reducing the proportion of deferred salary, reducing or canceling the risk collateral, and increasing employees' own sources of funds; Second, it is recommended to give full play to the advantages of the enterprise platform to assist employees in self-raising funds in accordance with laws and regulations. (Writers of this article: Chen Min, Xu Chunliang, Li Yong, Liu Yong, He Gang, Bao Jiayou)
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