On the heels of State Street issuing its 2021 proxy voting & engagement guidelines that Liz blogged about last week, the asset manager also issued its 2020 stewardship report. The report provides a summary of State Street’s 2020 engagement activity and provides insight about factors influencing the asset manager’s votes on compensation proposals. Here are a few highlights:
In 2020, State Street’s vote “against” compensation proposals were mainly due to growing concerns about pay-for-performance misalignment, poor disclosure of pay structures and increasing pay quantum in the prior year.
The rationale leading the asset manager to “abstain” on pay-related proposals was the result of situations where it couldn’t provide unqualified support or where companies had responded to some, but not all, of State Street’s concerns on pay.
Poor structure (43%) was a key factor driving State Street’s voting rationale on pay proposals – the asset manager says in those cases, incentive design is still in need of improvement and there isn’t always a strong link between pay and business strategy.
For annual incentive plans, State Street expressed concerns about the plans becoming overly complex and it encourages companies to simplify bonus plans and to ensure they have clear linkage to strategy.
State Street also encouraged companies to shy away from using TSR as the sole performance metric for performance-based equity awards and instead take an approach that blends relative TSR and long-term operational metrics that align with the company’s strategy.
We’ve blogged a few times about use of D&I metrics in incentive plans – here’s an entry about use among Fortune 200 companies. As stakeholders continue with increased calls for companies to do more on the D&I front, many are looking at how and what they might do – whether it’s by incorporating D&I metrics into comp programs or pursing initiatives outside of pay programs. A recent Semler Brossy memo provides a framework and considerations to help companies through the process.
For companies to make optimal use of D&I metrics incorporated in incentive programs, the memo suggests companies check whether the majority of the following conditions would be achieved and if not, it might be preferable to delay implementation and address D&I outside of pay programs.
– There is a well-articulated strategy for execution and clarity on how success will be defined
– There is an understanding that elevating DEI may send unintended signals (e.g., tying pay to DEI but not sustainability may send a message about company priorities)
– The DEI metric(s) are part of a balanced, comprehensive assessment. Narrowly defined metrics can miss the spirit of the overall commitment (e.g., meet recruiting targets, but miss on culture)
– There is a willingness to maintain a DEI component in pay for an extended period of time
– There is a willingness to set real, stretch goals that are durable and can withstand shifts in strategy
– If goals are missed, boards are willing to disclose externally how or why goals were not achieved
Last week, I blogged on TheCorporateCounsel.net about BlackRock’s 2021 engagement priorities. Along with BlackRock’s engagement priorities, the asset manager issued a memo about its engagement approach relating to executive compensation. In the memo, BlackRock explains situations where it finds engagement productive and states it doesn’t think it’s useful for companies to engage with shareholders primarily to gauge support in advance of shareholder meetings.
The memo also emphasizes BlackRock’s focus on long-term sustainable growth for companies and says it expects a meaningful portion of executive pay to be tied to the long-term, sustained performance of the company, as opposed to short-term increases in the stock price. BlackRock acknowledges increased use of sustainability-related metrics in incentive plans and this excerpt explains what BlackRock is looking for when companies do so:
As companies increasingly incorporate sustainability measures in their incentive plans, they should also be material and aligned with a company’s long-term strategy. It is important that companies using sustainability performance metrics explain carefully the connection between what is being measured and rewarded alongside business goals and long-term performance. Failure to do so may leave companies vulnerable to reputational risks and undermine their sustainability efforts.
When it comes to disclosure, BlackRock expects clear disclosure about how incentive plans reflect strategy and incorporate performance metrics, including sustainability-related goals, that are aligned with long-term shareholder value.
Companies should also disclose the timeframe for performance evaluation, i.e. the specific period over which shareholders should assess performance.
Where discretion is utilized, compensation committees should clearly explain how these decisions are either driving or creating long-term sustained performance aligned with shareholder interests. We expect especially rigorous disclosure and justification when mid-cycle adjustments are made. When evaluating potential windfall scenarios derived from market dislocations or company-specific events, compensation committees should disclose how they determined whether executives benefited from a windfall, or may do so in the immediate future. Disclosures should address whether and why the committee used its discretion, as well as factors taken into consideration in determining the appropriate compensation outcome. BIS is keen to understand how the compensation committee balanced the contractual obligations and rewards for their workforce and executives, while preserving the link with pay and performance, and preventing outsized awards relative to originally established goals.
This memo from Compensation Advisory Partners looks at a sample of 20 high-profile tech IPOs from recent years to understand equity practices leading up to going public. Here are a few key findings:
1. Options are still the favorite form of equity awards – but there’s been a shift to granting more RSUs, typically with double-trigger vesting based on both years of service and going public
2. Companies have been successful in getting private investor approval for equity grant pools. At median, pre-IPO equity overhang was 21.5%. At the time of the IPO, 95% of companies asked for additional equity authorization, leading to overhang of 27.7% – plus evergreen provisions and liberal share recycling.
3. Many companies implemented ESPPs in conjunction with their IPOs – which has been non-controversial from the standpoint of proxy advisors.
4. Some founders have received significant performance-based equity grants at IPO
This Gunster blog reports that about half of S&P 500 companies used ESG metrics in their annual cash incentive plans last year. Based on the number of company announcements I’ve seen lately, that number is going to be a lot higher in 2021. In Europe, investors and law-makers are starting to pressure companies to add sustainability metrics to pay plans that will be submitted to votes next year.
To help you evaluate whether adding ESG metrics is the right thing to do at your company – and how to go about doing it – we just compiled this 8-page checklist. Here’s an excerpt about linking plan payouts to reliable data:
– Involve internal audit and, if necessary, external subject experts to test the data quality and controls.
– Test your compensation model rigorously – understand payouts and disclosures at various levels of achievement (or non-achievement). This includes understanding the impact of ESG metric achievements on financial and stock-based metrics and incentives.
– Don’t rely too heavily on certifications such as ISO14001. Companies expend much time and effort into obtaining certificates like these to hang on the wall. However, the value of the efforts may not be long-lasting as operational dynamics and external pressures change. ISO certifications may be better viewed as a snapshot in time, similar to other audits. “Trust but verify” is an appropriate philosophy.
Ongoing high level of dissent against a company’s compensation proposals may indicate that the company is not receptive to investor concerns. If the level of dissent against a company’s remuneration report and/or remuneration policy is consistently high, and we have determined that a vote against a pay-related proposal is warranted in the third consecutive year, we will vote against the Chair of the Compensation Committee.
For problematic pay practices, State Street may vote “against” the re-election of members of the Compensation Committee if the asset manager has serious concerns about pay practices and/or if the company has not been responsive to shareholder pressure to review its approach.
According to this WSJ article and data from ISS Corporate Solutions, only 10 S&P 500 companies have had shareholders reject annual say-on-pay resolutions in the last year – but this year could be different.
In our “Top Compensation Consultants Speak” webcast on Tuesday of last week, Semler Brossy’s Blair Jones noted that the early proxy returns are indicating that failures are up and everything is being scrutinized. The very next day, shareholders at Starbucks rejected the company’s say-on-pay resolution. Here’s the company’s Form 8-K with the voting results.
The Starbucks vote followed “against” recommendations from ISS and Glass Lewis due to one-time awards to the CEO and former COO. The company had filed a proxy statement supplement to provide more color around those awards, but it wasn’t enough.
In another vote last week that was attracting attention in the Twittersphere, 48% of all AmerisourceBergen shareholders & 72% of independent shareholders voted against the NEO pay package. The company’s Form 8-K shows that the resolution narrowly passed. This article explains that Vanguard voted “for” and BlackRock voted “against” say-on-pay, which some are saying could be a sign of more splits to come. The state treasurers of Connecticut and Rhode Island also led a campaign against it because executive pay was calculated by excluding the costs of the opioid settlement.
As You Sow is forecasting that 2021 will be a “time of reckoning” for executive pay. That could be a problem for companies, with more shareholders voting against compensation committee members in the same year of a failed vote, and activists viewing a say-on-pay failure as “blood in the water.” As You Sow’s recently issued “100 Most Overpaid CEOs” report provides a few nuggets that underpin its prediction:
– Institutional opposition to overpaid CEOs is stronger than suggested by votes as reported to the SEC. As You Sow has used the level of shareholder votes against the CEO pay package as one factor in determining who the Most Overpaid CEOs are. This year – as described more fully in “How we identify the 100 Most Overpaid CEOs” – we used, with the assistance of Proxy Insight and Insightia company, an analysis that excluded votes from shares controlled by management and others and instead measured only votes controlled by institutional fund managers. Using these votes, the number of S&P 500 companies where the CEO pay package failed to get at least 50 percent of the votes more than doubled, going from six companies to 15 companies. Public shareholder opposition is less obvious when there is a dual-class share structure or significant insider ownership.
– The level of shareholder opposition to excessive CEO pay continues to grow, yet CEO pay continues to increase. The number of financial fund managers who voted against the CEO pay package of at least half of the “100 Most Overpaid CEOs”in their investment portfolios reached 47. Pension fund opposition was even higher. More shareholders are taking another step in calling for accountability by voting against members of the compensation committees. Yet, as further detailed below, executive compensation continued to increase.
– The economic disruption of the pandemic means that the upcoming proxy season could be a time of reckoning. What happens when performance criteria are not met? There are indications that executives may be insulated from bearing the full brunt of the downside though they are generally given full credit for the upside. Some investors have already noted that they will evaluate the context of the pay packages, in light of how shareholders and employees have fared during the pandemic.
This means that disclosure and engagement will be even more important this year, and you’ll need to understand the unique positions and hot-button issues for each significant investor. BlackRock issued stewardship guidance on executive pay last week – and we have other policies posted in our “Investor Voting Policies” Practice Area.
Here’s the latest 143-page guide for compensation committees from Wachtell Lipton – which includes sample compensation committee charters for NYSE & Nasdaq companies at the back. As noted in the guide’s introduction, although the guide is generally geared toward directors who are members of a public company compensation committee, the guide is also relevant to members of a compensation committee of a private company, especially if the company may at some point consider accessing public capital markets.
Now that say-on-pay has been on annual meeting ballots for 10 years, Compensation Advisory Partners issued a report summarizing the voting results. Although support has been fairly consistent for the last 10 years, the report says this year’s say-on-pay voting results may depart from these prior norms. Here’s an excerpt with findings about the impact of proxy advisor vote recommendations and because of the potential impact, areas where CAP says it’ll be even more important to include strong disclosure:
– Over the last 10 years, ISS has consistently recommended “against” say-on-pay for approximately 12% of companies per year
– Among companies that have failed their say-on-pay vote, the vast majority (96% on average) received an “against” recommendation from ISS
– Not all companies receiving an ISS “against” recommendation failed their say-on-pay vote – in 2020, 20% of such companies did
– In terms of the impact of ISS’s recommendation “against” has on the overall say-on-pay vote, even though most companies don’t fail the vote, the report says the median level of support in these cases was only 67%
For 2021, CAP says pay-for-performance misalignment will be the main driver for ISS “against” recommendations. Say-on-Pay vote results will continue to depend on the magnitude of pay, pay practices and stock price performance. For companies that may have a pay and performance misalignment, we expect reduced shareholder support if a company has not provided sufficient rationale for the following actions:
– Annual and long-term incentive plan adjustments
– Major employee actions (e.g., layoffs)
– Performance that is dramatically below investor expectations
– Low relative financial performance
– Above-target discretionary adjustments to payouts that previously missed threshold performance
During proxy season, one disclosure topic that some follow relates to potential payments upon termination or change in control. Earlier this year, Meridian Compensation Partners issued its 2020 study of executive change-in-control (CIC) practices at large companies. The study examined practices at 200 companies that were components of the S&P 500 index as of December 2019 and it examines the prevalence of certain severance benefits payable to NEOs in connection with a CIC and the types of qualifying events that trigger a CIC payment. This excerpt from the study’s executive summary provides high-level findings about practices relating to size of cash severance CIC-related benefits:
Nearly all companies determine cash severance based on a multiple of the sum of an NEO’s base salary and “annual bonus”, with annual bonus defined as “target bonus” by a slight majority of companies (56%).
Cash severance multiples are trending down for all NEOs.
― For CEOs, a 3× cash severance multiple remains the majority practice, but a 2× multiple is growing in prevalence.
― For all NEOs (other than the CEO), a 2× cash severance multiple is the majority practice
The executive summary also provides an overview about the prevalence of CIC -related cash severance, how companies define “double-trigger” events, other CIC-related benefits like heath care and perquisites, vesting and payout of equity awards and key administrative provisions.