The Advisors' Blog

– Broc Romanek, CompensationStandards.com

Here’s a note that I received from a member recently: Shareholder engagement may not be surfacing tough compensation issues as long as ISS is willing to recommend a “For” vote on say-on-pay. But, once ISS does recommend an “Against” vote, it seems any inhibitions to criticize or vote against say-on-pay come tumbling down. Here’s a case in point:

-I have a client that has received mid-90’s shareholder support for SoP every year

-ISS has recommended a “For” vote for SoP every year until this year

-Over the last 3 years, the company received a “High Concern” rating from ISS based on their pay-for-performance quantitative test score

-ISS has been willing to support the company despite the “High Concern” rating in the past, but this year changed its vote to “Against” citing the “High Concern” on the quantitative tests and some other issues

-The company has diligently engaged its top 25 shareholders every year in October-November for the last 2 years, and has generally had positive feedback on the current compensation structure (there was some feedback about disclosure and discretion, but nothing seemed serious at the time)

-Once ISS released its report this year with the “Against” recommendation, the company contacted its top shareholders, and this time they heard a very different story. Investors were siding with ISS and would no longer support SoP, or in some cases, said this would be the last year they would support SoP and expected significant changes to the pay program in the future

-The company was surprised and disappointed that so many of the shareholders had not spoken up sooner (especially during the October-November meetings), which would have allowed them to address these concerns starting in 2015, and perhaps avoided a significant drop in shareholder support in 2015

So, what happened here?

-Is it possible investors assumed everything was okay as long as the proxy advisory firms were recommending a “For” vote, and they focused their attention on other companies flagged by the proxy advisory firms?

– But, once the company was identified as having compensation issues sufficient to warrant an “Against” vote, investors paid much closer attention and decided to side with the proxy advisory firms?

– How else to explain past support, and no objections until the adverse recommendation from ISS?

– Is it also possible some large institutional investors feel the need to show they are independent of management, as recent studies have called them out for their lack of opposition to managements’ proposals?

What lessons can be learned?

1. Do not take shareholder support for granted. It has to be earned every year.

2. If you meet with your major investors, be sure to probe for any concerns or areas they think you need to do better. Ask if there are any “deal breakers” you need to know about. Try to gauge the “intensity” of their concerns.

3. The proxy advisory firms’ biggest influence may be their ability to draw investors’ attention to potential “outliers” that require additional scrutiny

4. Pay attention to the proxy advisory firms’ methodologies, and adopt policies and programs that minimize the risk of an adverse recommendation ( in other words, try not to be the 10%-12% of the companies that attract their against vote). Easier said than done!

5. Once issues are identified by shareholders, be hyper-diligent in addressing their concerns

6. Given that a number of the institutional investors admitted to not reading the CD&A until ISS recommended an “Against,” if you expect a negative recommendation, it is important to initiate in-depth conversations with investors to:

– Find out what concerns they might have with the pay program in the event an “Against” recommendation is made by ISS or Glass Lewis

– Inquire what changes could be made to gain their support