– Lynn Jokela

AllianceBernstein recently released a report summarizing its “2020 ESG Engagement Campaign” and it says one of its two most important ESG themes in 2020 was the inclusion of ESG metrics in executive compensation plans. In 2020, the asset manager engaged with 358 companies, almost half of which were companies based in North America.  What does AllianceBernstein want to see?

Our objectives were the same in every engagement: to ask companies if they include ESG metrics in their executive compensation plans, and to encourage them to include at least one material and measurable ESG metric in their 2021 plans.

In 2020, AllianceBernstein asked 293 companies whether they had measurable ESG targets in their executive compensation plans and found 45% of management teams explained that they do. Even more companies said they would consider incorporating ESG targets in their compensation plans.

Some issuers claimed that ESG is inherently incorporated in their compensation plans because ESG issues impact the fundamental financial performance metrics they use to determine pay outcomes.  We don’t think ESG factors should be sidelined this way – they should balance financial performance metrics.

The report also outlines AllianceBernstein’s “best practices” for incorporating ESG metrics in executive compensation:

1. We don’t endorse incorporating a long list of ESG-related metrics, each weighted less than 1% in determining executives’ incentive pay. Instead, we promote a more targeted approach with fewer metrics (two to three is ideal), each with a meaningful weight in determining pay outcomes.

2. Companies should identify the ESG issues that are most material to their business and develop quantifiable metrics to measure progress. Qualitative metrics are welcome, too, but they should include specific action items if incorporated in an executive pay plan.

3. We strongly encourage using stand-alone ESG metrics, rather than embedding them in individual objectives or including them as vague modifiers. Another effective format is to accompany a financial metric with an ESG metric, with the ESG metric acting as a gateway/threshold measure for executives to qualify for STI consideration.

– Lynn Jokela

Earlier this year, Liz blogged about trends among Fortune 200 companies linking diversity & inclusion metrics to executive pay. When we’ve seen reports of companies linking ESG metrics to pay, they’ve most often been incorporated within annual incentive plans.  A recent Meridian memo discusses concerns with that approach and suggests it might be more appropriate to incorporate ESG metrics into long-term incentive plans.

The memo asserts one of the problems with including ESG metrics in annual incentive plans is that, in a short 12-month period, it’s often difficult for companies to make meaningful progress on certain ESG initiatives, such as D&I. Some companies might think it’s easier to link ESG metrics to short-term plans because they plan to assess progress qualitatively. As noted in the memo, meaningful progress on D&I can sometimes require more than a simple 12-month period. To help resolve concerns with trying to measure progress over a short timeframe, this excerpt provides considerations for companies to incorporate ESG metrics into LTIPs:

In a typical three-year LTI cycle, metrics do not change often but goals are reset every year based on past performance; such is the annual nature of our overlapping PSU designs. ESG initiatives are better suited to multi-year objectives that can only be measured by progress over that period. For example, companies could focus on an “S” goal this year, with a three-year plan in mind. Next year, while maintaining the “S” goal a priority, companies could set a new “E” or “G” goal with a three-year plan. This approach would allow organizations to focus on three critical areas over a multi-year period without having different, moving goals for the same metric. Further, there are countless ESG metrics to choose from and most companies want to limit the focus to just one to three items (inclusive of financial and stock price goals that likely will not be replaced). ESG as a broad category could represent a defined percentage of the LTI. This allows for ESG to be a fixture of compensation programs while maintaining flexibility in goal setting and performance measurement.

– Lynn Jokela

Liz blogged last week about early say-on-pay vote results and as of late April, the failure rate was 2x higher than at this time last year. Annual meeting season can sometimes be a wild ride and this year appears it might be even more so.  Last week, BlackRock released its “Q1 2021 Stewardship Report” and it shows the asset manager’s continued focus on sustainable business practices.  BlackRock has stepped up its engagements, the report says they’re up 24% year-over-year.

For compensation matters (which includes say-on-pay and say-on-frequency), voting statistics included in an appendix to the report show for the Americas, in the first quarter alone, BlackRock has voted “against” 15% of proposals, which is more than double the number at this time last year. Back in March, I blogged about BlackRock’s approach to compensation engagements, which the asset manager summarized in a memo. One thing BlackRock wants is transparency about executive compensation structures and the outcomes sought.

For more insight, BlackRock releases “vote bulletins” for some annual meeting matters and two recent bulletins explain the asset manager’s rationale for voting “against” a say-on-pay proposal and another where the asset manager voted “for” a say-on-pay proposal. Although several factors play into BlackRock’s vote decisions, BlackRock mentions company disclosures in each of these excerpts showing that company disclosure can help influence the vote:

Vote “against” say-on-pay:

While the amended compensation plan has been the primary focus of shareholders and the media, the Compensation Committee also used discretion for 2020 bonus payments. Although the corporate financial thresholds in the annual incentive program were met, the committee used its discretion to fund the bonus pool at 80% of target. As discussed in our commentary on our approach to Incentives aligned with value creation, where a Compensation Committee has used its discretion in determining the outcome of any compensation structure, we expect transparency with respect to how and why discretion was used, which we felt was lacking in this instance.

Based on a pay and performance misalignment, as well as a mid-cycle adjustment to the plan based on short term stock declines, BIS voted against the ratification of Named Executive Officers’ compensation and the election of relevant directors on the Compensation Committee.

Vote “for” say-on-pay:

In reaching our decision on compensation, we were informed by both engagements with the company, and the company’s public disclosures.

Moreover, as stated in additional proxy soliciting materials published in mid-April, in deciding its 2020 compensation the board took into account shareholder feedback received over the past year. This included; “eliminating the three 1-year sales goals from the company’s performance share units (PSUs), adding more structure to our annual incentive plan, capping the value of the company’s executive car and driver benefit, and doubling our stock ownership guidelines for senior executives.”

For these reasons, we supported management’s Say on Pay proposal.

– Liz Dunshee

Wow. Here’s the latest Semler Brossy memo tracking say-on-pay results for this season, which was published last Thursday. Three takeaways jump out:

– The current failure rate (4.2%) is 2x higher than the failure rate at this time last year (2.1%); however, it is still early in the season and we will monitor whether the failure rate remains at an elevated level following annual meetings for the 12/31 FYE filers

– 13.6% of companies thus far have received an “Against” recommendation from ISS, which is nearly as high as any full-year “Against” rate observed since 2011

– The average vote results of 89.0% for the Russell 3000 and 87.1% for the S&P 500 thus far in 2021 are well below the average vote results at this time last year

At least three more failures rolled in since this memo was published. Here’s a WSJ article about two of them, and one company’s comp committee members also faced a “vote no” campaign for approving mid-stream changes to the CEO’s inducement grant. Diving into company-by-company results underscores what an unusual season this is, because there also have been several high-profile votes at which say-on-pay technically passed, but received less than 70% approval.

Coming in below the 70% level is dangerous because ISS will recommend against comp committee members next year if it doesn’t feel the board adequately responds to shareholders’ pay concerns. Moreover, a low say-on-pay vote can be “blood in the water” for activists.

If you haven’t held your meeting, keep up your engagements. We could be seeing a lot of changes to comp plans next year…

– Liz Dunshee

Compensation Advisory Partners recently analyzed COVID-related pay actions of 300 companies in the S&P 1500 with a December 31st FYE. Although it’s a somewhat small sample size, it was pretty surprising to see that 50 percent of the companies made COVID-related changes – mostly, modifications to existing annual incentive payouts or go-forward annual incentive plans. Changes were more common among smaller & mid-sized companies than large caps. Here’s a few other takeaways:

– 50 percent of S&P Composite 1500 companies with fiscal year ends (FYEs) near December 31 modified their outstanding and/or go-forward incentive plans due to COVID-19, up from 42 percent of September FYE companies.

– Of the companies that made incentive changes, 60 percent made annual incentive changes, 9 percent made long-term incentive changes, and 31 percent changed both incentive plans.

– Of companies that disclosed incentive plan changes, they were typically for the most recently completed or outstanding performance period(s) vs. prospective changes.

– Consistent with September FYE companies, modifications were more likely to be to the annual incentive plan among December FYE companies.

– Most September and December FYE companies that adjusted annual incentive payouts for the impact of COVID-19 relied on compensation committee discretion – either positive or negative. CAP’s analysis of the December FYE companies shows that Mid Cap and Small Cap companies were more likely to exercise discretion than their larger S&P 500 peers.

– The most prevalent annual incentive actions were 1) exercising or adding discretion to the plan, 2) adding or changing the performance measures, and 3) revising the payout scale.

– The most prevalent long-term incentive actions were 1) adding or changing the performance measures, 2) modifying the performance period, and 3) changing the long-term incentive vehicle mix.

– Liz Dunshee

Page 27 of this WilmerHale IPO Guide walks through market practice for stock incentive plans and employee stock purchase plans at the time of going public. Here are a few interesting stats about ESPPs adopted in connection with 2020 IPOs:

– 70% of 2020 IPOs had an ESPP in place – compared to 47% in 2016

– 94% of those ESPPs included evergreen provisions – compared to 83% in 2016

– 99% of 2020 ESPPs provided a 15% discount – compared to 94% in 2016

– 99% of 2020 ESPPs included a “lookback” feature – allowing the discount to be taken from the market price at the beginning of the offering period – compared to 94% in 2016

– 9% of 2020 ESPPs said the initial ESPP offering period commences upon IPO – compared with 31% in 2016

– Liz Dunshee

ISS recently published updated “Policies & Procedures FAQs” – and #113 explains how the proxy advisor evaluates “pay gap” shareholder proposals. Here’s an excerpt:

In its analysis of these proposals, ISS takes a case-by-case approach and considers the company’s disclosure of policies and practices related to fair and equitable compensation, as well as its diversity and inclusion initiatives. Specifically, ISS looks to assess whether the company is actively trying to improve the representation of women and people of color and people from different ethnic backgrounds in senior leadership and technical positions and whether it is making progress in these efforts. Additionally, ISS considers the company’s efforts in this area compared to its industry peers.

ISS will also take note of information that may be reported by US companies in the UK in response to that country’s requirement that companies that employ more than a certain number of people in the UK report the pay gap between the median male and female employees and the percentage of men and women in pay quartiles. ISS also takes into account whether there are any related significant controversies that could result in reputational risks.

Should ISS assess that the company is lagging in its efforts to improve the median pay gap, or there are significant controversies, it will generally recommend support for proposals requesting a median gender/racial/ethnicity pay gap report as it could provide shareholders with useful information about how effectively management is assessing and mitigating risks that may rise from inequitable employee treatment.

ISS will generally not recommend support for proposals that request a global median race or ethnicity pay gap report, due to the fact that types of racial/ethnic disparities, issues of discrimination, and the racial/ethnic composition of underrepresented groups can be entirely different depending on the countries in which a given company operates. A global racial/ethnicity pay gap statistic may not be possible to produce and would not produce usable information to track how well the company is doing at offering all employees equal opportunity.

Lynn blogged last week that there’s been a slowdown in pay equity proposals on proxy statements, due to more engagements on the topic.