The Advisors' Blog

As I blogged last week on TheCorporateCounsel.net’s Proxy Season Blog, ISS has opened its “Annual Benchmark Policy Survey” – as well as a separate “Climate Policy Survey.” The proxy advisor is gathering feedback that could affect how it’ll analyze say-on-pay and whether it will favor ESG metrics being added to comp plans. Here are the specific pay-related questions:

Non-Financial ESG Performance Metrics in Executive Compensation

The inclusion of non-financial environmental, social, and governance (ESG) performance measures and incentives in executive pay plans has become more prevalent in the past few years. For example, as of June 17, 2021, almost 30 percent (27.6%) of publicly traded companies across Europe, North America and Asia-Pacific had incorporated at least one E&S-related incentive metric into their compensation plans, against only 8.5 percent in 2017 (source: ISS-ESG Executive Compensation Analytics database).

Proponents argue that companies will take ESG issues more seriously and have better business outcomes if executive pay is linked to achievement of ESG performance measures such as its environmental footprint or social impact. Critics and skeptics are concerned that many ESG outcomes may be hard to quantify and that the more widespread use of such performance metrics could reward executives for vague and poorly-defined outcomes that should already be considered part of the executive’s job. The upward trend of companies incorporating non-financial ESG-related metrics into compensation programs appears to have been fortified by the recent pandemic and social unrest, which have led a number of companies to make public statements about their human capital, employee safety, environmental, and community support records and incorporate metrics related to these areas into their executive compensation plans.

Do you believe incorporating non-financial Environmental, Social, and/or Governance-related metrics into executive compensation programs is an appropriate way to incentivize executives? Please select the answer below that most closely reflects your view.

– No, non-financial ESG performance metrics are not usually relevant or effective as compensation program measures. Compensation programs should only use traditional financial performance measures, for transparency and to maintain alignment with shareholders’ financial interests.

– Yes, but such metrics should only be used in compensation programs if the metrics selected are specific and measurable, and their associated targets are communicated to the market transparently.

– Yes, when chosen well, even ESG-related metrics that are not financially measurable can be an effective way to incentivize positive outcomes that may be important for a company.

– Other (please specify)

If you answered “Yes” to the question above, which pay components do you consider to be the most appropriate for inclusion of non-financial ESG-related performance metrics if a company chooses to use them?

– Short-term incentives

– Long-term incentives

– Both short-term and long-term incentives – either can be appropriate, depending on circumstances

– Other (please specify)

Long(er)-term Perspective on CEO Pay Quantum

CEO pay quantum is an increasingly important factor for many investors in evaluating executive compensation programs. ISS’ quantitative pay-for-performance screen currently includes a measure that evaluates one-year CEO pay quantum as a multiple of the median of CEO peers.

Does your organization believe that ISS’ pay-for-performance screen should include a longer-term perspective (for example, a three-year assessment) of CEO pay quantum beyond the one-year horizon currently utilized in the ISS pay-for-performance quantitative screen?

– Yes, a longer-term perspective is relevant and would be helpful

– No, the most recent year’s CEO pay is the relevant measure for the quantitative model.

– Other (please specify)

Mid-cycle Changes to Long-term Incentive Programs

For the 2021 proxy season, mid-cycle changes to long-term incentive programs were generally viewed by ISS and many investors as a problematic response to the pandemic, given that many investors consider that long-term incentives should not be adjusted based on short-term (i.e. less than one year) market disruptions. However, some industries continue to incur severe negative economic impacts since the onset of the pandemic more than a year ago.

What is your organization’s view on mid-cycle changes to long-term incentive programs for companies incurring long-term negative impacts?

– Mid-cycle changes to long-term incentive programs should continue to be viewed as a problematic response to the pandemic

– Mid-cycle changes to long-term incentive programs may be reasonable for companies that have incurred long-term negative impacts from the pandemic

– Other (please specify)

These surveys are the first step in formulating 2022 voting policies. They’re open until August 20th at 5pm ET. As usual, ISS also will solicit more input in the fall through regionally-based, topic-specific roundtable discussions. There will also be a public comment period in October for all interested market participants on key proposed changes to voting policies, before the new policies are finalized.

– Liz Dunshee