– Broc Romanek

Here’s an excerpt from this piece by Brendan Sheehan (also see this Reuters article):

On Monday, the Nobel Prize for Economics was awarded to Oliver Hart and Bengt Holmström, two U.S-based professors. A significant section of their work focuses on how companies pay CEOs and senior executives, and their findings, along with many other academics, have contributed greatly to a significant shift in the design (and size) of CEO pay over the past few decades.

Yet while there have been many important advancements in understanding how compensation is linked to behavior, there are some significant disconnects among the academic theory (developed in part by the two Nobel laureates), its practical application and the opinion of investors.

– Broc Romanek

As noted in this Glass Lewis blog, the GC100 – the voice of general counsel and company secretaries in the FTSE 100 – and the Investor Group has published an updated version of its “Directors’ Remuneration Reporting Guidance,” replacing the guidance published in 2013 (oddly, the actual updated guidance doesn’t appear to be posted anywhere). Here’s an excerpt from the blog:

It is hardly surprising that the focus of the revisions revolves largely around some of the more contentious topics of the past two years. The guidance reflects widespread investor demands for greater transparency surrounding bonus targets, stating that in the event that companies do not include those targets due to commercial sensitivity (as permitted by the regulations on pay), “particulars of, and reasons for, the omission must be given in the remuneration report and an indication given of when (if at all) the information is to be reported”; many issuers have seen investor backlash over a perceived lack of transparency surrounding bonus hurdles, and it will be interesting to see if they respond to the revised guidance and placate investor concerns.

Similarly, the exercise of discretion has caused regular headaches for issuers and investors alike, and the latest guidance attempts to bridge the gap on this topic. Upon seeking approval of their initial policies, many companies provided the remuneration committee with broad powers to adjust performance targets and vesting outcomes, and even to exceed stated ‘maximum’ limits in relation to recruitment. In some cases, investor concerns over the scope of potential discretion prompted supplementary assurances regarding the committee’s intentions to appear on company websites or the stock exchange shortly in advance of AGMs. The latest guidance accepts that “arithmetic performance targets may lead to anomalies” and that “flexibility, discretion and judgement are crucial for the successful design and implementation of a remuneration policy”; however, in order to provide clarity to investors, the Group recommends that policies should include well thought out and detailed explanations of the possible circumstances under which discretion may be used.

Also see this Deloitte memo on the topic – and this Manifest blog about the Investment Association’s Executive Remuneration Working Group’s recent interim report seeking more radical reform in the pay area…

– Broc Romanek

Here’s an excerpt from this blog – “Should Say-on-Pay Votes Be Binding?” – by two Canadians about the effectiveness of non-binding say-on-pay votes:

Some findings reveal disturbing and unintended consequences. For instance, studies suggest that shareholders base their votes on the performance of a company’s stock rather than on an analysis of the firm’s compensation policies and practices. If company shares do better than those of its peers, almost any compensation package will be approved. This perverse result tends to increase the pressure on management to focus on short-term stock performance, sometimes through decisions that may negatively affect future performance.

This is not surprising, though. It has become far harder to read and understand the particulars of executive compensation. Indeed, for the 50 largest (by market cap) companies on the Toronto Stock Exchange in 2015 that were also listed back in 2000, the median number of pages needed to describe their executives’ compensation rose from six in 2000 to 34 in 2015, with some compensation descriptions consuming as many as 66 pages. Investors holding shares in hundreds of different firms face a formidable task. The simplest approach is to vote according to the stock’s performance or, more likely, to rely on the recommendations of proxy advisory firms, which also base their “advice” in part on relative stock market performance.

Thus, 66 percent of corporate directors do not agree that say-on-pay resulted in a “right-sizing” of CEO compensation. Yet 83 percent of directors very much agree or somewhat agree that say-on-pay increased the influence of proxy advisors, according to a 2016 PwC and Cleary Gottlieb survey: Boards, shareholders, and executive pay.

– Broc Romanek

Here’s an excerpt from this Cooley blog (also see this blog):

According to this paper, one group that have experienced some impact from say on pay are directors. The academic study indicates that, following low favorable votes for say-on–pay proposals, directors incur significant reputational damage and financial costs, which the authors contend should motivate directors to provide better oversight of executive comp from the get-go. Moreover, the authors believe that their study shows that say on pay “has given shareholders an important, albeit indirect, increase in influence over executive compensation.”

Our Executive Pay Conferences: Less Than 2 Weeks Left! Here’s the registration information for our popular conferences – “Tackling Your 2017 Compensation Disclosures: Proxy Disclosure Conference” & “Say-on-Pay Workshop: 13th Annual Executive Compensation Conference” – to be held October 24-25th in Houston and via Live Nationwide Video Webcast. Here are the agendas – 20 panels over two days.

Register Now: Huge changes are afoot for executive compensation practices with pay ratio disclosures on the horizon. We are doing our part to help you address all these changes – and avoid costly pitfalls – by offering a reasonable rate to help you attend these critical conferences (both of the Conferences are bundled together with a single price). So register now.

– Broc Romanek

Here’s an excerpt from this MarketWatch piece:

New research suggests chief executives and chief financial officers with a high proportion of stock-based pay are more likely to downplay material accounting errors so they can maximize compensation and minimize potential liability. “It is unsurprising,” wrote Brian Hogan, a clinical assistant professor of business administration at the University of Pittsburgh, and Case Western Reserve University associate professor of accountancy Gregory A. Jonas, “that executives take actions to maximize their compensation.”

– John Jenkins

In this blog, Davis Polk’s Ning Chiu notes that responses to ISS’s 2017 policy survey show strong investor support for the use of additional pay-for-performance metrics:

79% of investors supported ISS using additional pay for performance metrics beyond total shareholder return. 18% want revenue metrics (absolute revenue or revenue growth); 26% favored the use of earnings metrics (such as EPS or EBITDA); 35% supported return metrics (ROA or ROE); 47% supported return on investment metrics (such as ROIC); 25% supported cash flow metrics; and 22% favored economic profit metrics.

– Broc Romanek

This new paper from the Stanford Business School & Rivel Research Group reveals the viewpoint of institutional portfolio managers on executive pay practices, finding that investors believe pay should be tied to performance, long-term in focus and aligned with shareholders. Return on invested capital was the most common metric cited by these investors as a good link between pay and performance; stock price was the least common.

Additionally, buy-side investors claim not to be influenced by proxy advisor recommendations – but this research found that investor voting practices are highly correlated with proxy advisor recommendations…

– Broc Romanek

Here’s the intro from this blog by Matt Kelly:

For corporate governance and compliance thinkers, Mylan Labs is the gift that keeps on giving. Earlier this week, we looked at the compensation incentives Mylan designed for senior executives—incentives that drove them to raise the price of EpiPens to punishing levels for consumers.

Let’s keep pulling on that thread. It leads to some excellent questions about boardroom governance, and as often happens with U.S. securities law these days, those questions don’t have good answers.

Those pay incentives, worth millions of dollars to CEO Heather Bresch and other senior executives, came from Mylan’s compensation committee. The committee itself used outside consultants (Meridian Compensation Partners and the law firm Cravath, Swaine, and Moore, according to the 2015 proxy statement), but ultimately the committee’s three members were responsible for creating the conditions that reward Bresch for a strategy of steep and steady price hikes.

Wait a minute, I thought. Don’t compensation committees have to disclose how their pay plans might lead to unnecessary risk-taking? Wouldn’t that be reflected in Mylan’s proxy, since Bresch’s moves have led to a reputation risk nightmare?

Yes to the first question, no to the second. Which is precisely the governance dilemma U.S. securities law has foisted onto Corporate America.

Our compensation disclosure rules only address financial risks, relevant to shareholders. They ignore all the other enterprise risks that sloppy executive compensation can cause, and leave a company fumbling in front of all its other stakeholders.

– Broc Romanek

Recently, State Street issued these guidelines about mitigating reputational risk in C-Suite pay. We have posted them among other investor guidelines about pay in our “Investor Voting Policies” Practice Area…

Also see this article from the CEO & Head of Governance at State Street about changing board practices & culture to meet investor expectations…

– Broc Romanek

Anecdotally, I am hearing that some companies haven’t been doing much yet to prepare for the implementation of the SEC’s pay ratio rules. That’s not surprising given how busy people are – and that the implementation date seems so far away. As this Mercer spot survey notes, advance planning is key – and now is the time to start preparing.

Here are some key findings from the survey:

– Companies are making significant progress toward compliance. Three-quarters of respondents have already determined a method to identify the median employee or are considering one or more methods.

– A majority (60%) of respondents have estimated their ratio, with more than half reporting ratios under 200:1 and only 20% reporting ratios of more than 400:1.

– Ratios vary by industry. Industries with low ratios tend to have more professional staff, and those with high ratios have more part-time, temporary, and less-skilled employees. Sectors with the lowest ratios are in banking/financial services, technology, and nonfinancial services. The highest ratios are in retail/wholesale and consumer goods.

– About one-third of respondents are using or considering statistical sampling as a method to identify the median employee.

– Over 80% of respondents believe their data systems are ready or, with some manual effort, adequate to identify the median employee.

Note that compensation consultants are starting to roll out new memos on how to best prepare – including these ones from Deloitte Consulting & Willis Towers Watson posted in our “Pay Ratio” Practice Area…

Our Executive Pay Conferences: Only 3 Weeks Left! Here’s the registration information for our popular conferences – “Tackling Your 2017 Compensation Disclosures: Proxy Disclosure Conference” & “Say-on-Pay Workshop: 13th Annual Executive Compensation Conference” – to be held October 24-25th in Houston and via Live Nationwide Video Webcast. Here are the agendas – 20 panels over two days.

Register Now: Huge changes are afoot for executive compensation practices with pay ratio disclosures on the horizon. We are doing our part to help you address all these changes – and avoid costly pitfalls – by offering a reasonable rate to help you attend these critical conferences (both of the Conferences are bundled together with a single price). So register now.