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Pacific Rubiales heads upward on investor scorecard

This is the story of a company that had serious shareholder dissatisfaction over its executive-pay practices, listened to the complaints, and made changes.

For the most part.

The company is Toronto-based Pacific Rubiales . It is not a particularly well-known name here, since its properties are concentrated in Colombia, Peru, and Guatemala. It is, however, one of the 10 most valuable energy exploration and production companies on the Toronto Stock Exchange, with a market capitalization of more than $7-billion. Its shareholders hold its AGM Thursday.

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Pacific Rubiales also stands out in another way: The length of the passage about the company's pay practices in the 2011 Key Proxy Vote Survey from SHARE, the Shareholder Association for Research and Education. The group advises on a wide range of governance issues, from executive pay to environmental issues, and it had several objections to Pacific Rubiales' pay in 2010.

Investors in Pacific Rubiales heeded the call, and 38 per cent of shareholders voted against the company's stock option plan at the 2011 meeting. The company, illustrating an increasing desire among public issuers not to get too crosswise with the governance community, made changes. But it still has some work to do.

Here's what bothered SHARE: The group noted that Miguel de la Campa, the Venezuela-based executive co-chair of the board, was also the chair of the Compensation and Human Resources Committee. "In other words," said SHARE, "he chairs the committee that determines his compensation." While the company said Mr. de la Campa did not vote on any of the committee's compensation decisions, SHARE believed he was in a position to influence the committee and create conflicts of interest.

His presence on the committee, SHARE said, may also have contributed to what it saw as "excessive" compensation in 2010. Pacific Rubiales gave four of its five named executive officers stock option awards valued at $9.8-million apiece. While the company argued the compensation was justified by its performance, SHARE noted the cost-of-management ratio – total compensation to the five highest-paid executives, divided by the net income after taxes – was 21 per cent; at most Canadian companies, SHARE says, the ratio is between 1 per cent and 5 per cent.

SHARE also expressed concern that stock options, with no performance-based criteria that SHARE could see, were the only component of the company's long-term compensation plan.

After the May, 2011 shareholder vote – a 38 per cent "no" is a rather large negative result – the company, apparently, took heed. (We must speculate, because Pacific Rubiales doesn't mention SHARE in its 2012 proxy circular, and the company did not respond to requests for comment sent through its website and left on the voicemail of its director of investor relations.)

Mr. de la Campa resigned from the Compensation and Human Resources Committee last August, and it now consists solely of independent directors.

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Thanks to smaller option awards in 2011, total compensation for the five named officers dropped to $20.6-million, from $46.5-million in 2010. At the same time, net income has more than doubled, driving the cost-of-management ratio down to more normal levels.

At the same time, however, the company has stuck to its guns on stock options. In the latest circular, Pacific Rubiales said its compensation committee "considered other long-term compensation incentives such as deferred share units and restricted share units" in 2011, but "concluded that the focus on stock options has been very successful in ensuring proper alignment between executive officer performance and corporate strategy."

And, to be fair, the company achieved an annual average return of 258 per cent from the end of 2008, the year it joined the TSX, to the end of 2011. (It's up another 40 per cent in 2012.)

There are some things to note, however. One is that Pacific Rubiales' share performance may be due in part to operational excellence, but it's also an energy company, meaning some portion of its stock price will be driven by commodity prices, over which management has no control.

Another is that we saw, during the tech boom and crash of a decade ago, how options-heavy compensation programs can disconnect from share performance. Executives who have gobs of options given out years ago when the share price was low can exercise their awards and keep their millions; more recent shareholders can suffer medium or even longer-term underperformance.

There's a high risk of that here: At the end of 2011, Pacific Rubiales' top four executives had, collectively, more than 14 million options awarded over the past five years that were worth $104-million at the year-end share price. Their 2012 high on March 14 pushed their value to nearly $250-million.

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And, notes Laura O'Neill, SHARE's director of law and policy, the company has no set, multi-year vesting schedule for the options, as most major Canadian companies do. The options Pacific Rubiales granted in May 2011 have already vested in their entirety. While Ms. O'Neill acknowledges the other improvements the company has made, she notes "the company continues to be a laggard compared to other S&P/TSX Composite Index issuers."

For now, shareholders of Pacific Rubiales have won, and their executives have won big. It may take a reversal of stockholder fortune – with no attendant misfortune for its executives – for the company to make the final changes that SHARE has called for.

Pacific Rubiales Energy Corp. (PRE-T)

Close: $27.06, up 30¢

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