The Advisors' Blog

– Broc Romanek, CompensationStandards.com

With criticism about the impact of buybacks on executive compensation in the news, it appears that the AFL-CIO & other investors are sending shareholder proposals to some companies on this topic. Here’s an excerpt from this Cooley blog:

Now, the AFL-CIO and others are beginning to take steps to eliminate at least one of the motivations for buybacks — or at least one of the side effects. For 2016, the AFL-CIO (and entities apparently acting on its behalf) has submitted a new shareholder proposal asking companies to adjust executive pay metrics to exclude the impact of stock buybacks. According to this AFL-CIO publication, the proposals were submitted this year at IBM, Illinois Tool Works, 3M and Xerox.

Generally, the shareholder proposal urges the target companies’ compensation committees to “adopt a policy that financial performance metrics shall be adjusted, to the extent practicable, to exclude the impact of share repurchases when determining the amount or vesting of any senior executive incentive compensation grant or award. The policy should be implemented in a way that does not violate existing contractual obligations or the terms of any plan.”

The proponent contends that buybacks directly affect many of the financial ratios used as performance metrics, but, while they may boost stock prices in the short term, the proponent is “concerned that they can deprive companies of capital necessary for creating long term growth.” The proponent believes that, because senior executives are responsible for improving operational performance, “senior executives should not receive larger pay packages simply for reducing the number of shares outstanding. Executive pay should be aligned with operational results, not financial engineering.”

The proponent also asserts that, for “the 12 months ended June 30, 2015, S&P 500 companies spent more money on stock buybacks and dividends than they earned in profits.” In addition, the proponent looks to the chair and CEO of BlackRock, who urged that “[l]arge stock buybacks send ‘a discouraging message about a company’s ability to use its resources wisely and develop a coherent plan to create value over the long term.’” In each case, the proponent compares the amount spent on stock buybacks with the amounts spent on R&D and capital expenditures. For example, for Illinois Toolworks, according to the proponent, the company “spent $2.9 billion on share buybacks in 2014, but only $227 million on research and development, and $361 million on capital expenditures.” The proponent also identifies the CEO’s comp and the amount received in awards that are dependent on financial metrics that are susceptible to being goosed by stock buybacks.

Among the arguments made in the companies’ various statements in opposition are that the companies are committed to organic growth through capital expenditures and research and development and that they have capital allocation strategies designed to create growth opportunities through investment and to return excess capital to shareholders, that their boards assess their capital requirements to ensure that there is sufficient capital for investment for future growth, that performance metrics are designed by compensation committees (which, they contend, are in the best position to make these determinations) to align pay and performance, that among the metrics is typically an organic growth metric and that limiting the companies’ ability to use appropriate performance metrics is not in the best interests of the companies or their shareholders.