Compensation Report 2015

Compensation Report 2015

This report describes the principles of the compensation system for members of the MTU Executive Board  including its components and the corresponding amount of benefits awarded. Executive Board compensation is linked to a style of corporate management that has a sustainable and long-term orientation.

Management Compensation Report

The management compensation report describes the principles applied when establishing the compensation to be awarded to members of the Executive Board and Supervisory Board of MTU Aero Engines AG, and states the amount and composition of that compensation. The management compensation report follows the provisions of Section 314 (1) no. 6 of the German Commercial Code (HGB), German Accounting Standard DRS 17 “Reporting on the remuneration of members of governing bodies,” the recommendations of the German Corporate Governance Code (GCGC), and the International Financial Reporting Standards (IFRS).

At the proposal of the Personnel Committee, the Supervisory Board decides on a system of compensation for the members of the Executive Board, including the main components of their contracts, and reviews this system at regular intervals.

The present compensation system was developed with the support of external consultants and put in place in 2010. It focuses on linking Executive Board compensation to a style of corporate Management and development that has a sustainable and long-term orientation. This entails not only an appropriate mix of fixed and variable compensation components but also the inclusion of longterm components in the variable compensation. Large parts of the variable compensation are deferred, or may not be paid out at all. The intention is to align the interests of the members of the Executive Board more closely with those of the company by increasing their participation in the company in the long term. The changes to the system of Executive Board compensation to be implemented as of the financial year 2016, according to a resolution passed by the Supervisory Board in 2015, similarly reflect this intention (see section “Modified compensation system for members of the Executive Board as of the financial year 2016”).

Members of the Executive Board did not receive any compensation for mandates on boards of MTU group companies, nor were they granted any loan facilities by the company.

Principles of the compensation system for members of the Executive Board

At the proposal of the Personnel Committee, the Supervisory Board determines both the total compensation to be awarded to members of the Executive Board (target direct compensation) and the composition of this compensation. The target direct compensation is made up of non-performance-related components (40 % of the total) and performance-related components (60 %). The latter comprise the Annual Performance Bonus (APB) and a share-based component, each of which makes up approximately 30 % of the target direct compensation.

NON-PERFORMANCE-RELATED COMPONENTS
The non-performance-related components consist of the basic salary and other benefits that are paid on a monthly basis. ‘Other benefits’ comprise taxable reimbursements of expenses and the non-cash benefit deriving from payments in kind such as insurance premiums or the use of a company car for business and private purposes, including any taxes on such benefits paid by the company.

PERFORMANCE-RELATED COMPONENTS
Performance-related components without long-term incentive effect

Half of the Annual Performance Bonus (APB) is granted as a short-term compensation component.

The actual amount depends on the results achieved as regards two company performance Targets and on the board member’s individual performance. The company performance targets are based on the key performance indicators at group level – “adjusted EBIT” and “free cash flow” – which are given equal weighting. The targets to be achieved to ensure payment of 100 % of the APB are set annually in advance by the Supervisory Board, taking the annual planning figures into account. In addition, an entry threshold is set for each performance target at a figure 30 % below the planned level; this corresponds to an APB bonus entitlement of 50 %. Members of the Executive Board who do not reach this entry threshold are not entitled to a short-term compensation component. Similarly, the maximum APB bonus entitlement of 180 % is fixed at a figure 15 % above the targets set for each of the two performance indicators. Between the entry threshold, the 100 % level, and the maximum goal achievement level, the APB bonus entitlement is interpolated using a straight-line method. The Supervisory Board takes each Executive Board member’s individual performance into account by decreasing or increasing the APB bonus entitlement by up to 20 % (by means of the so-called “discretionary factor”).

The method used to adapt and disburse compensation components that have been withheld remains unchanged until final payment, even in cases where a member of the Board of Management leaves the company prior to the payment date.

Performance-related components with long-term incentive effect
Performance-related compensation with long-term incentive effect comprises the deferred APB and a share-based component.

Deferred Annual Performance Bonus (APB)
The remaining 50 % of the APB is deferred and paid out in two equal portions over the following two financial years. The ultimate amount of the deferred APB depends on the goal achievement Level attained in respect of the two key performance indicators at group level, and on the discretionary factor applied in the respective financial years. In the case of Dr. Stefan Weingartner, his deferred APB entitlement will be based on a goal achievement level of 100 %, rather than on his actual Performance in the respective financial years. Furthermore, a discretionary factor of one (1) will be applied both in his case and in that of Egon Behle.

Shared-based component
The long-term compensation awarded to members of the MTU Executive Board consists of a share-based component granted in annual tranches by the Supervisory Board. The share-based component consists of the Performance Share Plan (PSP), which is linked to the development of the MTU share relative to the MDAX index, and the Share Matching Plan (SMP), in which the members of the Board of Management can opt to invest their payment from the PSP at the end of the assessment period for each tranche.

Performance Share Plan (PSP)
On the dates fixed for these tranches, the provisional number of performance shares is calculated on the basis of the average price of the MTU Aero Engines AG share (Xetra) over the last 30 trading days prior to commencement of the assessment period in accordance with each Executive Board member’s long-term target compensation. At the end of the four-year assessment period, these performance shares entitle the recipients to a payment either in cash or in shares, as the Supervisory Board sees fit. Since 2010, the tranches of shares have been granted with effect from January 1 of each financial year. By way of exception, Michael Schreyögg was granted the fourth tranche of the PSP on a pro rata basis on July 1, 2013.

The actual number of performance shares is determined after expiry of the respective four-year assessment period for each tranche of granted shares. This amount reflects the performance of the MTU share compared with the other shares in the MDAX index, based on total shareholder return (TSR), which is determined on the basis of changes in the share price and all dividends paid during the assessment period. The TSR of the MTU share relative to that of all other MDAX-listed shares at the end of the assessment period is the main factor determining the number of shares allocated. Depending on this TSR ranking, the amount of the share-based payment ranges between 0 % and 150 %, with 100 % being the value for an average ranking. A TSR ranking of 45 represents the entry threshold, which entitles the beneficiary to a payment corresponding to 25 % of the value of the granted performance shares. A TSR ranking of 5 or better is required to obtain the maximum payment of 150 % of the value of the granted performance shares. Between the entry threshold, the average TSR ranking of 25, and the maximum TSR ranking of 5 or better, the number of performance shares on which the share-based payment is based is interpolated using a straight-line method.

The amount disbursed equals the actual number of performance shares multiplied by the average MTU Aero Engines AG share price (Xetra) over the last 30 trading days prior to the end of the assessment period. The maximum payment for each tranche of granted shares is limited to three times the individual board member’s long-term target compensation. The Supervisory Board has the right to impose further limits if any extraordinary events should occur.

Share Matching Plan (SMP)
The members of the Executive Board are entitled to use the post-tax benefits payable under each tranche of the Performance Share Plan (PSP) to purchase MTU Aero Engines AG shares, provided the Supervisory Board resolves to offer the Share Matching Plan in the year in question. At the end of the three-year vesting period, these shares are matched on the basis of the Share Matching Plan (SMP), with each Executive Board member being awarded one additional free share for every three MTU shares acquired in this way. The total value of the free shares allocated at the end of the vesting period is limited to three times the purchase price of the shares originally acquired through the PSP.Alternatively, the Supervisory Board may decide to offer a cash payment equivalent to the value of the matching shares.

Modified compensation System for members of the Executive Board as of the financial year 2016

In order to link the compensation system for the Executive Board more closely with the company’s performance, given that until now it included a relatively small proportion of direct share options, and in view of the requirements laid down in the latest version of the GCGC, the Supervisory Board passed a resolution at its meeting on December 8, 2015, to modify the compensation system for members of the Executive Board as of the financial year 2016.

At the proposal of the Personnel Committee, the Supervisory Board determines the total compensation to be awarded to members of the Executive Board (also referred to as target direct compensation) and the composition of this compensation. Roughly 40 % of the target direct compensation is non- performance-related while the rest is performance-related.

Non-performance-related components
The non-performance-related components consist of the basic salary and other benefits that are paid on a monthly basis. “Other benefits” comprise tax-able reimbursements of expenses and the noncash benefit deriving from payments in kind such as insurance premiums and the use of a company car for business and private purposes, including any taxes on such benefits paid by the company.

Performance-related components

As of 2016, the performance-related components will consist of the Annual Performance Bonus(APB) and the Restricted Stock Plan (RSP).

Performance-related component without long-term incentive effect
The Annual Performance Bonus (APB) is granted as a performance-related compensation component without long-term incentive effect. Ideally it should make up roughly 40 % of the variable Portion of the target direct compensation. As in the past, the amount of this bonus will depend on the results achieved as regards two company performance targets and on the board member’s individual performance. The company performance targets are based on the key performance indicators at group level – “adjusted EBIT” and “free cash flow” – which are given equal weighting. The Targets to be achieved to ensure payment of 100 % of the APB are set annually in advance by the Supervisory Board, taking the annual planning figures into account. In addition, an entry threshold is set at a goal achievement level of 70 %, based on the arithmetical mean of the levels achieved in respect of each of the two performance targets, which entitles the beneficiary to receive 50 % of the APB. Members of the Executive Board who do not reach this entry threshold are not entitled to this short-term compensation component. At the other end of the scale, the goal achievement Level required to receive the maximum APB payment of 180 % is fixed at 115 %, based on the arithmetical mean as above. Between the entry threshold, 100 % goal achievement, and the maximum bonus, the APB payment is interpolated using a straight-line method. The Supervisory Board takes each Executive Board member’s individual performance into account by decreasing or increasing the APB bonus entitlement by up to 20 % (by means of the so-called “discretionary factor”). As of 2016, and contrary to the system previously in place, beneficiaries will receive the APB in a single payment as a short-term compensation component.

Performance-related component with long-term incentive effect
The Restricted Stock Plan (RSP) replaces the previous combination of deferred APB, Performance Share Plan (PSP), and Share Matching Plan (SMP) as the performance-related component with long-term incentive effect. The RSP will be awarded initially in the form of a cash settlement, subject to income tax, the full net amount of which the Executive Board member is then obliged to reinvest in MTU shares. These shares must be held for a vesting period of four years. The value of these RSP shares at the grant date represents around 60 % of the total variable Portion of the direct target compensation, which is weighted according to a multi-year goal achievement level. The latter is calculated by taking the arithmetical mean of the APB bonus entitlements established for the three financial years preceding the year in which the RSP shares were granted. The multi-year goal achievement level required to receive the maximum number of RSP shares is capped at 180 %. In the case of a new Executive Board member who has not been in office Long enough to enable a multi-year goal achievement level to be established at the RSP grant date, a bonus entitlement of 100 % is assumed for the missing years.

In the interests of an orderly transition to the new system of long-term compensation applicable as of the financial year 2016, it has furthermore been agreed that active Executive Board members will receive a one-time cash settlement in lieu of the not-yet-exercisable performance shares previously granted under the PSP and SMP, with the obligation of converting this payment into MTU shares subject to disposal restrictions. The amount of the cash settlement corresponds to the fair value of the granted PSP shares at December 31, 2015, and the exercised share options for each of the relevant PSP tranches under the terms of the SMP. The entire net payment (after deduction of income taxes) must be immediately reinvested by the beneficiaries in vested MTU shares, which must be held for a further two years. This transitional arrangement, concluded in 2015, should be taken into account when evaluating the following statements concerning the compensation of individual members of the Executive Board.

Compensation of individual members of the Executive Board

The members of the Executive Board were awarded the following total compensation – as defined in Section 314(1) no. 6a of the German Commercial Code (HGB) – for their activities on the board in the financial years 2015 and 2014:

Table "Compensation of individual members of the Executive Board", please see Annual Report 2015, page 42-43

New Recommendations of the German corporate Governance Code (GCGC)

The GCGC determines the compensation components to be disclosed individually for each Executive Board member and recommends the use of the model tables appended to the Code for this purpose. Accordingly, the following table shows the benefits granted for the financial years 2015 and 2014 as well as the minimum and maximum amounts applicable for the financial year 2015.

Table "Benefits granted", please see Annual Report 2015, page 44-45

The table below, compiled in accordance with the GCGC recommendations, shows the allocation of fixed and variable compensation for the financial years 2015 and 2014 as well as the service cost (benefit expense) for the pension plan:

Table "Allocation of compensation and service cost" please see Annual Report 2015 page 46-47

PERFORMANCE-RELATED COMPONENTS
Annual Performance Bonus (APB)

The performance targets set by the Supervisory Board for the 2015 Annual Performance Bonus (APB) were as follows:

- Adjusted EBIT € 395.0 million (actual adjusted EBIT in 2015: € 440.3 million)
- Free cash flow € 55.0 million (actual free cash flow in 2015: € 72.0 million).

Deferred portions of the APB awarded in respect of 2013 and 2014 formed part of the performance-related compensation payable in 2015.

Performance Share Plan (PSP)

The following table shows the number of performance shares granted in each PSP tranche:

Table "Performance Share Plan 2015", please see Annual Report 2015, page 49.

Table "Performance Share Plan 2014", please see Annual Report 2015, page 50.

The fair value at the grant date was calculated by an independent expert in accordance with the requirements of IFRS 2. The methods used to calculate these figures are documented in the corresponding fairness opinions.


The fair value of the unexpired tranches of PSP shares at the reporting date was adjusted to account for the conversion of PSP and SMP share options into MTU shares subject to disposal restrictions, via a one-time cash settlement, agreed upon as part of the transition to the modified Executive Board compensation system as of the financial year 2016. The fair value measurement takes into account the TSR performance of the relinquished tranches of PSP shares up to December 31, 2015 by factoring in a guaranteed minimum goal achievement level for the time to the end of the original vesting period and does not take any fluctuation rate into account.

The total carrying amount of the liabilities in connection with PSP compensation developed as follows:

Table "Development of total carrying amount", please see Annual Report 2015, page 51.

Share Matching Plan (SMP)

The number of future matching shares depends on the cash amount paid out under the PSP. In order to determine the fair value of the SMP, a combined Monte Carlo simulation and Black-Scholes pricing model was used. The expected cash settlement was determined on the basis of the exact same assumptions used to measure the value of the PSP. The amount of the cash settlement serves as a basis for measuring the value of the forward options granted under the terms of the SMP.

The fair value of the forward options at the grant date was calculated on the basis of the following assumptions (an option period of 52 months, a vesting period of 88 months and a fluctuation rate of 4 % were assumed for all tranches):

Table "Share Matching Plan", please see Annual Report 2015, page 51.

The following share-based SMP compensation agreements were in place during the current reporting period and earlier reporting periods:

Table "Share Matching Plan (SMP) 2015", please see Annual Report 2015, page 52.

Table "Share Matching Plan (SMP) 2014, please see Annual Report 2015, page 53.

In the financial year 2015, the members of the Executive Board were for again entitled to purchase MTU shares under the terms of the Share Matching Plan.

This resulted in the following matching share entitlements:

Table " matching share entitlements", please see Annual Report 2015, page 54

The fair value of the stated matching share entitlements was calculated on the basis of the closing price (Xetra) of the MTU share at the end of the financial year, in view of the cash settlement of the exercised tranches of SMP shares agreed upon as part of the transition to the modified Executive Board compensation system as of the financial year 2016.

Total expense incurred for share-based compensation
The total expense incurred for share-based compensation can be broken down as follows for the individual members of the Executive Board:

Table "Total expense incurred for share-based compensation", please see Annual Report 2015, page 54.

Rules when terminating the contracts of members of the Executive Board

The members of the Executive Board are insured under a defined-benefit plan. The benefits payable to members of the Executive Board under this plan correspond to those of their peers in comparable companies.

Retirement and survivors’ pensions
The members of the Executive Board earn company pension entitlements in accordance with the "MTU Pension Capital" plan, which constitutes the current post-employment benefits plan for members of the Executive Board of MTU Aero Engines AG. The goal of the plan is to provide a pension amounting to 60 % of each member’s basic salary after 15 years of service on the Executive Board. When this plan was introduced on January 1, 2010, the vested benefits that each member of the Executive Board had earned up until December 31, 2009 under the pervious plan were transferred to the new plan in the form of initial units. This entitlement represents the benefit payable at age 60 under the old plan, adapted to reflect the ratio between the actual number of years of service with the company and the number of years from start of service with the company until age 60. The initial units transferred to the new plan correspond to the current cash value of the pension converted into a lump sum.

Once this amount had been determined, a pension account was opened for each member of the Executive Board to which further capital units are credited annually. The annual capital units are calculated on the basis of an individual contribution and an age-dependent factor, with the latter taking into account an interest rate of 6 % per annum up to the age of 60. The contribution period is capped at 15 years of service on the Executive Board, or at age 60, whichever comes first. As of the age of 61, the pension account earns interest at an annual rate of 4 % until such time as the pension is drawn (= bonus amount). The accrued capital units plus the units initially transferred to the account plus any bonus amounts credited to the account together make up the pension capital available to finance post-employment benefits. If a member of the Executive Board dies before reaching age 60, 50 % of the benefits that he/she would otherwise have earned up to that age are added to the accrued balance on the pension account – taking into account the permissible contribution period.

As a general rule, the pension capital is paid as a single lump sum. However, at the request of the Executive Board member and with the approval of the company, the pension capital may be drawn either in ten installments (with the amassed pension capital being increased by 4 % before payment of the installments) or as a lifelong pension with annual increments of 1 %. In any insured event, the pension account is topped up to the level of benefits the insured party would have reached under the previous plan (guaranteed capital). Pension benefits do not become payable until such time as an insured event occurs (i.e. on reaching pensionable age, or in the event of disability or death), even if the insured party leaves the Executive Board. The pension entitlement cannot be forfeited once the initial contribution has been paid.

Reiner Winkler, Dr. Rainer Martens and Dr. Stefan Weingartner had already been promised under the previous pension plan that their years of service with former group companies would count toward their pensions.

Details of the above-mentioned obligations and benefits are shown in the following table:

Table "Existing post-employment benefit entitlements", please see Annual Report 2015, page 56.

The differences in the annual contributions to the MTU pension accounts result from the remaining periods of service on the Executive Board until the end of the respective contribution period, from the respective age-dependent factors and from the different salary amounts eligible for pension contributions.

The following table shows the service cost for the financial years 2015 and 2014, and the corresponding carrying amounts of pension provisions recognized for members of the Executive Board in accordance with both IFRS and the German Commercial Code (HGB):

Table "Allocations to pension provisions and total amounts recognized", please see Annual Report 2015, page 56.

The pension obligations toward former members of the Executive Board in accordance with IAS 19 amounted to € 7,167,081 (2014: € 10,452,674) and included the pension obligation toward Dr. Stefan Weingartner in the amount of € 3,165,482 (2014: € 2,982,350).

Disability pensions
Under the new pension rules of January 1, 2010, if a member of the Executive Board is disabled before reaching the age of 60, 50 % of the benefits to which he/she would normally have been entitled up to the maximum age limit are added to the balance on the pension account at the time of disablement. The amount credited is based on the contributions paid in the last year of employment. This arrangement also applies if the insured party dies before reaching the age of 60.

Severance payments on premature termination of contract for members of the Executive Board
Under the modified terms of the Executive Board compensation system to be implemented as of the financial year 2016, members of the Executive Board are entitled to receive a severance payment if MTU prematurely terminates their employment contract. This severance package comprises pro-rata amounts of the board member’s basic salary, APB entitlement, and long-term RSP benefits covering the period up to the date on which his/her contract would normally have expired. When calculating the amount of the severance payment, a bonus entitlement of 100 % is assumed for the APB and RSP benefits that would have otherwise been awarded for the financial years within this period. The total amount of the severance payment is capped at twice the departing board member’s annual target direct compensation. If the employment contract is terminated by MTU for cause, no severance package is payable. In such cases, MTU also has the right to demand repayment of the tranche of RSP shares granted in the financial year in which the contract was terminated.

Severance payments on premature termination of contracts for members of the Executive Board in the event of a change of control or substantial changes in the ownership of MTU Aero Engines AG
In the event of a change of control that results in significant disadvantages for incumbent members of the Executive Board, these Executive Board members are accorded special rights of Termination which entitle them to a severance package comprising pro-rata amounts of their basic salary, APB entitlement, and long-term RSP benefits covering the period up to the date on which their contract would normally have expired. When calculating the amount of the severance payment, a bonus entitlement of 100 % is assumed for the APB and RSP benefits that would have otherwise been awarded for the financial years within this period. The total amount of the severance payment is capped at three times the departing board member’s annual target direct compensation.


Further information about the Board of Management compensation can be found in the Annual report 2015 (page 38-57).