Recently, a member asked “Have you had any experience or seen anything about Glass Lewis’s new pay for performance proprietary model? There doesn’t seem to be much in the way of transparency as to how it works so far?” I didn’t know the answer so I asked some of our Task Force members and this is essentially what I learned:
Glass-Lewis’s pay-for-performance model is their grading system (each company is assigned an A – F). It’s not new. They have been doing for this a while. As noted, there is little transparency on how the model works and Glass Lewis does that on purpose. We have to cross our fingers and hope for the best once the report is released. Typically, an expert (eg. proxy solicitor or compensation consultant versed in this area) can often sort of tell if a company might be in trouble, but it’s impossible to know the exact grade.
The way it works is if a company gets an “F,” the compensation committee will get a withhold/against recommendation. If a company gets a “D” for two years in a row, the compensation committee chair will get a withhold/against recommendation. However, with say-on-pay on ballot, they will take it out on SOP first and I have seen that in practice with a few late January 2011 meetings already.
The little we know about their model is that they break the grades down by %s. So over the course of the year, they will assign 10% As, 20% Bs, 40% Cs, 20% Ds, and 10% Fs. The peer companies are determined using some weighted formula:
1. Sector -based on 2 digit GICS
2. Sub-Industry -based on 8 digit GICS
3. Geographic location – based on zip code
4. Size of company – based on enterprise value
Total Compensation for them is:
1. Cash portion (salary, bonus, non-equity comp, other comp)
2. Equity portion of grants made during FY. Value options using a Black-Scholes with their own assumptions, value stock awards on face value on date of grant.
Another issue that is frustrating with the Glass Lewis model is how they calculate performance-based awards. So if you make a performance-based grant for a three year cycle and in year one you have to include the full amount in the Comp Table – that is what they will take despite the fact that those awards may not be earned out. So it’s completely distorted.
Tune in on Tuesday for the webcast – “The Proxy Solicitors Speak on Say-on-Pay” – to hear Art Crozier of Innisfree M&A, David Drake of Georgeson, Ed Hauder of ExeQuity and Reid Pearson of Alliance Advisors discuss solicitation and engagement strategies to help educate shareholders about a company’s compensation programs in light of mandatory say-on-pay.
As more fully explained in this Cleary Gottlieb alert, the UK Financial Services Authority has published an amended Remuneration Code, which implements the revised Capital Requirements Directive rules on financial institutions’ remuneration structures, performance measurement and governance. It has also published new Disclosure Rules which implement certain requirements on disclosure of remuneration policies and practices. Both measures apply to a broad range of UK financial institutions.
The Revised Code came into force on January 1, 2011. Firms that are not subject to the existing Code may justify not complying with certain of the Revised Code requirements relating to remuneration structures until July 1, 2011. For firms already subject to the existing Code, it may be possible to justify non-compliance with the requirement to pay 50% of variable remuneration in shares or other non-cash instruments until July 1, 2011
Hat tip to Prof. Barbara Black for noting that: Wall St. Journal reports that Wilmington Trust Corp., which received more than $330 million in TARP funds, recently rescinded more than $1.8 million in compensation from CEO Donald Foley. This may be the first time an executive had to give back compensation under the TARP rules.
Our “8th Annual Survey of Selected Corporate Governance Practices of the Largest US Public Companies” reflects a year of consolidation, rather than innovation, in compensation disclosure by the largest US public companies. The proxy statements of the Top 100 Companies continue many of the trends noted in prior years: enhanced attention to the risk profile of compensation strategies; more companies adopting clawback policies; increased acceptance of shareholder say-on-pay votes; and increased use of independent compensation consultants.
Few proxy statements report new compensation strategies or novel approaches to compensation disclosure. One possible reason for the relative stability in compensation practice and disclosure was the absence of significant new legislation during the period covered by this Survey. Companies were not required to assimilate and react to anything nearly as dramatic as the legislation implementing the TARP of the prior year.
Here is something that I recently blogged on my firm’s Dodd-Frank.com Blog. Several key themes can be distilled from filed say-on-pay and frequency proposals required by the Dodd-Frank Act. Key differences also exist in issuer treatment of inclusion of a resolution on the frequency vote and how issuers explain how they will determine if a frequency vote passes.
Say-on-Pay
Many proposals address:
– What the board will consider based on the outcome of the vote
– Emphasis on the advisory nature of the vote: it will not be binding on the board, overrule any decision made by the board or create or imply any additional fiduciary duty by the board
– Compensations programs are designed to tie to performance that creates long term value
– Compensation in relation to median or peer groups
– Link to long term stock performance
– Alignment to shareholder expectations both short and long-term
– Emphasis on recent positive operating results
– Reduced pay when operating results decrease
– Alignment of executive compensation with key business objectives
– Corporate governance controls over executive compensation
– Absence of tax gross-ups
– Limited compensation that is not tied to performance – absence of multi-year employment agreements, guaranteed incentive awards, “golden parachutes” or significant lump-sum compensation payments upon termination of employment
– What the advisory vote is not a vote on: not a vote on the company’s general compensation policies, compensation of the company’s board, or the company’s compensation policies as they relate to risk management
Frequency Vote
Many proposals address:
– What the board will consider based on the outcome of the vote
– That shareholders are free to express their concerns on executive pay to the board in years where a say-on-pay vote is not held
– Annual votes might hinder long-term focus of compensation plans
– Annual votes may overburden investors
– Triennial votes afford the board the time to understand the results of the vote, discuss with shareholders and implement changes
– Noting option plans and the like have been regularly submitted for shareholder approval
– Triennial votes tie to multi-year performance cycles
Resolutions on Frequency Vote
Companies continue to vary on whether they include a formal resolution on the frequency vote, or just recommend a vote for one of the three alternatives.
Determining Which Frequency Votes Passes
Generally, most state corporation laws provide that proposals, other than the election of directors, need to receive a majority of the votes cast to pass. Many issuers seem to be departing from this legal standard, and state something to the effect that the frequency that receives the greatest number of votes cast will be the frequency selected by the shareholders. Some recent disclosures in this regard are as follows:
– The choice among the four choices included in the resolution which receives the highest number of votes will be deemed the choice of the stockholders (Hormel).
– The option of one year, two years or three years that receives the highest number of votes cast by stockholders will be the frequency for the advisory vote on executive compensation that has been selected by stockholders (Wegner).
– With respect to the frequency of advisory votes on executive compensation proposed in item (3), we have determined to view the frequency vote that receives the greatest number of votes cast by the holders of our Common Stock entitled to vote at the meeting as the advisory vote of shareowners on this item (Rockwell Collins).
– All other matters require for approval the affirmative vote of a majority of those shares present in person, or represented by proxy, and entitled to vote at the Annual Meeting (Telular).
– The option of one year, two years or three years that receives the highest number of votes cast by shareholders will be the frequency for the advisory vote on executive compensation that has been selected by shareholders (Rock-Tenn).
Earlier this week, I conducted my own informal poll on TheCorporateCounsel.net Blog regarding what say-when-on-pay recommendations companies will choose for this proxy season. The results fell in line with what I predicted – “annual” was the most popular despite the limited experience of companies filing proxies so far mostly going with triennial. My poll results came in at: 50% annual; 4% biennial; 33% triennial; 4% no recommendation. Compare that with the 71 companies who had filed proxies by the end of the year: 11% annual; 24% biennial; 55% triennial and 10% no recommendation.
Yesterday, Towers Watson released its own poll results on this topic – and I’m happy to say that the results are quite similar to my own poll results. Here is an excerpt from their press release:
Conducted in mid-December, the Towers Watson poll of 135 U.S. publicly traded companies found that 51% of respondents expect to hold annual say-on-pay votes, while 39% prefer the vote be held every three years, and 10% anticipate holding biennial votes. The poll, however, found companies have a range of reasons for favoring a particular voting frequency. Four in 10 respondents cited accountability to shareholders and a desire to minimize administrative burdens as factors having the greatest influence on their vote-frequency recommendation, while slightly fewer cited shareholder preferences, proxy advisor policies and providing shareholders with an avenue to express concern about executive pay without casting negative votes on other matters as key factors.
“Clearly, there’s no single right answer to the question of how frequently these votes should be conducted that will work for every company,” said Towers Watson senior consultant James Kroll. “Each company seems to be assessing its own circumstances and needs, taking into account its specific shareholder composition and the degree of potential shareholder concern about the company’s executive pay programs.”
The survey also found that nearly half (48%) of surveyed companies are making some adjustments to their executive pay-setting process in preparing for the upcoming proxy season, although many companies have already strengthened their processes in recent years in light of growing shareholder activism and intensifying scrutiny of pay issues. Among those making further changes in preparation for the 2011 proxy season, 65% are devoting more attention to explaining their programs in the Compensation Discussion & Analysis (CD&A), 41% are performing additional analyses on the link between their executives’ pay and company performance, and 30% have made or are considering changes to programs such as severance, change-in-control benefits and perquisites that have high visibility.
Somewhat surprisingly, almost half (49%) of the respondents don’t know what level of favorable shareholder say-on-pay votes will be considered a successful outcome by their boards, and only 8% of the respondents have a process in place for analyzing the results of the vote and developing appropriate action plans in response to potential shareholder concerns. Of those companies that have defined how they will evaluate success, most believe that a favorable shareholder vote of at least 80% would be considered successful.
What will the impact of Say on Pay be? I was taken to task by Broc Romanek recently for failure to place the three 2010 failed SOP votes in proper context in comparison with the UK, where SOP has been firmly established and it took a longer time to tally up three failed compensation votes. His thought was that I might have downplayed the potential impact for next year.
With that said, I spent some time thinking about how things might happen. Here are a couple of thoughts:
How many negative ISS recommendations will there be this year that will result in failed SOP votes? In 2009, there were 255 SOP votes, all of which passed with an average vote approaching 88%. In 2010, there were 136 SOP votes and ISS recommended against 28 of them, with 3 failing. In 2011, there will be thousands of SOP votes and my guess is there may be 100 – 150 SOP votes where ISS recommends against and between 10 – 20 votes that may fail.
How many negative ISS recommendations against non-annual vote frequency will result in the imposition of an annual SOP vote? We’ll see an early test in late January at several companies where the board has recommended a triennial SOP vote against a presumed ISS recommendation for an annual SOP frequency vote. It would appear – and remember it is very early in the proxy/annual meeting preparation process – that most issuers will accept an annual frequency. Let’s presume that 15-20 companies choose to go with biennial or triennial against the institutional activists and ISS, as many as one-half to two-thirds of those will go down to defeat (especially if the issuers have failed to identify their shareholder base, compensation concerns or governance challenges).
How many times will ISS split their recommendation against non-annual vote requests and the actual SOP vote? If my total in the previous question is right the answer will be 10. I’ll hedge by stating that they will split their recommendations, on frequency and SOP approval, in at least half of the cases.
I just posted the Winter 2011 issue of our Compensation Standards newsletter that contains practical guidance, which supplements what I wrote in our “Say-on-Pay Solicitation Playbook” this past summer. The Winter issue covers these topics:
– Say-on-Pay: Five Steps to Maximize Your Shareholder Engagement Efforts
– Say-on-Pay Preparation: Six Other Actions to Consider
– Say-on-Pay Frequency: What Recommendation Should Management Make?
– Say-on-Pay Frequency: Does Management Need to Make a Recommendation?
– Say-on-Pay Frequency: Keep Tabs on How It Works in Practice
– A Future Regulatory Fix? Acquiring Executives Not Subject to Golden Parachute Vote
Poll: Say-When-on-Pay Recommendations
In his “Proxy Disclosure Blog,” Mark Borges gives us the latest say-when-on-pay stats – with 71 companies filing so far, 55% recommend a triennial vote; 24% recommend a biennial; 11% recommend an annual and 10% make no recommendation.
Despite this early indication that triennial will be the most popular recommendation, there are those that think that annual will come out on top by the end of the day (including me for the reasons that I set forth in the Winter 2011 issue of the Compensation Standards newsletter). Take a moment and participate in this anonymous poll:
A few weeks ago, ISS issued a set of 2011 US Compensation Policy FAQs. There are four FAQs regarding say-on-pay vote frequency, nine on problematic pay practices and four on golden parachute votes. Analyzing these FAQs, here is an excerpt from a Wachtell Lipton memo penned by Jeremy Goldstein, David Kahan and Timothy Moore:
– Say-on-Pay Frequency Vote – The FAQs clarify that a management recommendation of a biennial or triennial vote will not trigger a negative vote recommendation from ISS on other proxy items, notwithstanding ISS’s categorical support of annual say-on-pay votes. In addition, the FAQs indicate that ISS plans to address in next year’s policy updates how it will treat a company’s adoption of a frequency vote that is not supported by a plurality of votes cast at the 2011 shareholders’ meeting.
– Golden Parachute Say-on-Pay -The FAQs emphasize that ISS will approach the golden parachute say-on-pay vote on a case-by-case basis, taking into account all relevant factors. While ISS’s holistic approach could potentially result in additional scrutiny for outsized gross-up payments, even if previously disclosed under a pre-existing agreement, the FAQs appear to indicate that no single feature will automatically give rise to a negative recommendation without consideration of context, explicitly stating that a single-trigger provision in an equity compensation plan will not automatically result in a negative recommendation – either for say-on-pay purposes or with respect to votes on the plan, the compensation committee or the full board.
– New Golden Parachute Disclosure Option – The SEC’s proposed rules regarding the golden parachute advisory vote would under certain circumstances permit companies to avoid a separate vote in connection with a merger or similar transaction if the proxy statement for the previous say-on-pay vote disclosed the golden parachute payments using the table required by the new golden parachute disclosure rules. ISS clarifies in its guidance that it has no policy regarding whether a company should use the new golden parachute tabular disclosures in its annual proxy disclosure. If, however, a company does include the new golden parachute tabular disclosures in its annual proxy disclosures, ISS will weigh such disclosures more heavily in its overall say-on-pay vote recommendation.
– Grandfathered Arrangements – ISS has historically not taken action against companies by reason of so-called “problematic” or “egregious” pay practices in pre-existing agreements. ISS’s most recent annual policy updates introduced confusion as to whether it had changed this position with respect to pre-existing agreements that automatically renew (so-called “evergreen” agreements). The FAQs clarify that ISS will take all agreements (including pre-existing agreements) into account in its holistic review of pay practices, but imply that the provisions of a pre-existing evergreen agreement will not receive the heightened scrutiny applicable to those of new or affirmatively extended agreements, unless the agreement is materially amended in a manner contrary to shareholder interests.
– Future Commitments – In recent years, some companies have coupled adoption of an ISS-disapproved practice (e.g., tax gross-ups) with a commitment not to engage in such practices in the future. While ISS has previously reacted favorably to such commitments, the FAQs state that “commitments not to enact problematic features in future agreements will no longer mitigate the enacting of problematic pay practices in new or amended agreements during the prior fiscal year.”