I blogged earlier this week about a Willis Towers Watson survey that showed over the next several years we’ll likely see an increase in how companies use ESG metrics with executive incentive plans. Yesterday, Reuters reported that Apple is one company making a change – starting in 2021 the company will incorporate an ESG modifier in its annual cash incentive program. Here’s an excerpt from Apple’s 2021 proxy statement:
Beginning in 2021, an environmental, social, and governance modifier based on Apple Values and other key community initiatives will be incorporated into our annual cash incentive program. This change is intended to further motivate Apple’s executive team to meet exceptionally high standards of values-driven leadership in addition to delivering strong financial results. The financial performance measures and the threshold, target, and maximum payout opportunities under our annual cash incentive program for our named executive officers will not change. However, the Compensation Committee will use the modifier to determine whether to increase or decrease the bonus payouts by up to 10% based on the Compensation Committee’s evaluation of our named executive officers’ performance with respect to Apple Values and other key community initiatives during 2021.
As Reuters notes, the company cites the new ESG modifier in its opposition statement to a shareholder proposal relating to executive compensation. The proxy statement doesn’t give details about how the company will measure ESG progress so we’ll likely wait until next year to understand more about the impact the new modifier has on executive compensation but it sends a message that the company intends to measure and incent ESG progress.
Before the end of the year, I blogged about incentive compensation trends for large-cap companies. ClearBridge Compensation Group recently issued a companion report examining incentive compensation trends for mid-cap companies over the last 10 years. Here are some of the findings:
Annual Incentive Plans
– Like large-cap companies, almost all are formulaic, shifting away from discretionary plans for making bonus determinations
– Most companies use two or three performance measures
– Most common performance measure is an earnings-based measure, with EBIT/operating income being the most prevalent
Long-Term Incentive Plans
– In 2020, 86% of companies have granted at least one performance-vested vehicle, up significantly from 2010 when it was 46%
– Use of time-vested stock options has decreased even more significantly for mid-cap companies –65% in 2010 compared to 25% in 2020
– Like large-cap companies, most time-vested restricted stock/units and time-vested stock options/SARs vest ratably over the vesting period, a minority of companies use cliff vesting
– In 2020, 69% of companies used multiple performance measures compared to 52% in 2010
– Earnings-based measures are the most prevalent (58%), followed by stock-based measures such as TSR (54%) most typically measured on a relative basis
– A majority of companies (52%) used only absolute performance measures, down slightly from 2010 (62%). Relative performance measures, most typically stock-price based measures, are usually measured against a customized comparator group
Liz blogged last summer about how most ESG metrics that are incorporated into incentive plans relate to shorter-term operational metrics rather than long-term sustainability objectives. She noted the rationale for most doing so is because it’s easier to tie these operational metrics to the top or bottom line. But, Willis Towers Watson recently reported that looking forward, things may start to change. Here’s an excerpt from a Willis press release:
Willis conducted a survey of company directors. Four in five respondents (78%) are planning to change how they use ESG with their executive incentive plans over the next three years. More than four in 10 (41%) plan to introduce ESG measures into their long-term incentive plans over the next three years, while 37% plan to introduce ESG measures into their annual incentive plans. Additionally, about a third plan to raise the prominence of environmental and social/employee measures in their incentive plans.
ESG metrics that fall within the sustainability bucket often include those relating to environmental, climate and broader social matters. Even with change on the horizon, it doesn’t sound like companies and comp committees will have an easy time with it. Willis reports that when tying ESG to incentive plans, companies encounter the biggest challenges with target setting, performance measure identification and performance measure definition.
Before you dive in to crafting your next supplemental proxy disclosures about “realizable pay,” check out this recent study from ISS Corporate Solutions – suggesting that the extra disclosure doesn’t improve say-on-pay outcomes. As Mark Borges has blogged, these types of disclosures seem to be on the decline – and maybe they’re most useful when there’s a major transaction that would benefit from extra color. Here’s an excerpt from the ICS blog:
Based on our study, there appears to be no clear signal that realizable pay assessments in the proxy statements are materially impacting ISS SOP vote recommendations at S&P 500 companies, as companies that included realizable pay assessments in their proxy statement received positive vote recommendations from ISS on SOP at almost exactly the same rate as those companies that did not include a realizable pay assessment.
However, while the data above provide some initial insight into the impact of disclosing a realizable pay analysis on the ISS SOP vote recommendation, it’s important to recognize that ISS supports SOP proposals at different rates based on the initial pay-for-performance (P4P) concern levels identified in their quantitative frameworks.
For companies with elevated P4P concern levels, does the inclusion of a realizable pay assessment in the CD&A lead to a better chance of securing a positive vote recommendation from ISS on SOP?
Similar to the first outcome observed, these results suggest there is no definitive link between the inclusion of a realizable pay analysis in the proxy statement and subsequent support by ISS on the SOP proposal, i.e., companies with an elevated P4P concern level received “FOR” vote recommendations on their SOP proposal at the same rate whether they included a realizable pay assessment in their proxy statement or not.
My colleague Mike Melbinger has been blogging about the final 162(m) regulations that the IRS & Treasury Department released a couple weeks ago. They clarify “grandfathering” and other issues that resulted from the elimination of the “performance-based” exception for compensation deductions.
Here’s something my colleague John Jenkins blogged last week on TheCorporateCounsel.net: The SEC has announced a proposal to amend the provisions of Rule 144(d) to prohibit “tacking” of certain market-adjustable convertible or exchangeable securities. The proposal would also modify and update the filing requirements for Form 144. (Here’s the 84-page proposing release.) This excerpt from the SEC’s press release summarizes the proposed changes to Rule 144’s tacking rules:
The proposal would amend Rule 144(d)(3)(ii) to eliminate “tacking” for securities acquired upon the conversion or exchange of the market-adjustable securities of an issuer that does not have a class of securities listed, or approved to be listed, on a national securities exchange. As a result, the holding period for the underlying securities, either six months for securities issued by a reporting company or one year for securities issued by a non-reporting company, would not begin until the conversion or exchange of the market-adjustable securities.
“Market-adjustable” conversion provisions are a common feature of “toxic” or “death spiral” securities. Instead of a pre-established conversion rate, the securities are issued with a conversion rate that represents a discount to the market price of the underlying securities at the time of conversion. If there’s no cap on the number of shares that may be issued or floor on the conversion price, the market adjustment feature means that the number of shares issuable upon conversion may be enormous.
Currently, holders of convertible securities are allowed to tack their holding periods for the securities held pre- and post-conversion for purposes of calculating their eligibility to resell under Rule 144 period. As this excerpt from the proposing release points out, the SEC thinks that’s a problem for market-adjustable securities:
If the securities are converted or exchanged after the Rule 144 holding period is satisfied, the underlying securities may be sold quickly into the public market at prices above the price at which they were acquired. Accordingly, initial purchasers or subsequent holders have an incentive to purchase the market-adjustable securities with a view to distribution of the underlying securities following conversion to capture the difference between the built-in discount and the market value of the underlying securities.
The SEC thinks these sellers look a lot like statutory underwriters, and proposes to remove this incentive by amending Rule 144(d)(3) to preclude tacking in the case of unlisted market-adjustable securities. Why distinguish between these securities and listed securities? According to the release, the answer is that the NYSE & Nasdaq listing rules put a cap on the amount of shares that may be issued without shareholder approval, which limits the ability of a company to issue market-adjustable securities & reduces the concerns of an unregistered distribution.
The SEC also proposes to tweak the filing requirements for Form 144. If adopted, the rules would require a Form 144 to be filed electronically, but the filing deadline would be changed so that the Form 144 could be filed concurrently with a Form 4 reporting the transaction. Rule 144 transactions involving securities of non-reporting companies would no longer require a Form 144 filing. The proposal also would amend Forms 4 and 5 to add an optional check box to indicate that a reported transaction was made under a Rule 10b5-1 plan.
A couple of weeks ago, it was a bit of a surprise when BlackRock released its 2021 Stewardship Expectations and updated proxy voting guidelines, which are effective January 2021. There are quite a few updates in BlackRock’s guidelines and this PJT Camberview blog summarizes key takeaways from BlackRock’s updates to its voting guidelines. Yesterday I blogged about some of the governance-related nuggets found in the updates on our Proxy Season Blog – here’s a refinement relating to compensation:
– Removal of language stating that BlackRock will normally support advisory proposals on golden parachutes, indicating that it may be less supportive of such proposals
– For meetings on or after Feb. 1, 2021, ISS updated the quantitative pay-for-performance Multiple of Median (MOM) measure high concern threshold for S&P 500 companies by lowering it from 3.33x to 3.00x the peer median.
– For ISS’s assessment of COVID-related pay decisions, ISS didn’t really change anything but reminded readers that exceptional circumstances of the COVID-19 pandemic and its impact on company operations will be considered in ISS’ qualitative evaluation. ISS then referenced the U.S. Compensation Policies and the COVID-19 Pandemic FAQ that it issued earlier in October.
The ISS Equity Compensation Plan FAQ walks through questions about the process ISS follows to evaluate equity compensation plan proposals. ISS uses its “Equity Plan Scorecard” model when evaluating these proposals and as previewed in ISS’s October FAQs, for 2021, the proxy advisor has raised the score needed to receive an ISS recommendation in favor of an equity plan proposal:
For meetings as of February 1, 2021, the threshold passing scores will increase for the S&P 500 model (from 55 points to 57 points) and the Russell 3000 model (from 53 points to 55 points). The threshold passing scores are unchanged for other models. There are no new factors or factor score adjustments.
Compensation of an executive chairperson isn’t a frequent discussion point when reading commentary about board structure. The debate about board leadership structure often centers on whether a combined chair/CEO role or an independent chair or lead independent director structure is appropriate – with the answer differing based on a company’s particular circumstances. A KPMG memo reviews S&P 500 executive chair board leadership structures and looks at scope of responsibilities, investor perspectives and the need for disclosure and compensation considerations.
Some may question the degree to which executive chair pay differs from CEO pay and the answer likely depends on a company’s particular circumstances. The memo outlines three common compensation scenarios:
– When the executive chair is the former CEO who’s transitioning to retirement, the executive chair commonly receives a base salary, consultancy fee and/or an annual bonus
– In situations where the executive chair is a founder with significant stock ownership, it’s not uncommon for the executive chair to have no base salary and/or incentives
– When the executive chair functions as a co-CEO, the executive chair and CEO pay packages are comparable – the article says former CEOs who’ve been in an executive chair role for less than 2 years, the ratio of median CEO pay to median executive chair pay is 0.7:1
The article quotes Paul Hodgson, senior advisor of ESGauge, who cautions that investors may expect to see a reduction in pay when the CEO becomes executive chair, not only because the executive chair is likely less involved than the CEO but also because the former CEO is continuing to receive compensation in the form of vested stock awards from their time as CEO. In terms of proxy statement disclosure about executive chair pay, companies will need to take special care to explain the rationale behind decisions to help shareholders understand the intentions and choices about how the pay was structured.
This 29-page memo from FW Cook analyzes 2020 director pay at 300 companies of various sizes & industries. Here’s what it says about the pandemic’s impact on board compensation:
Due to the COVID-19 pandemic, 15% of S&P 500 companies and roughly 13% of Russell 3000 companies reported taking pay actions through the third quarter of 2020, which generally consisted of cash retainer reductions. The median decrease in director compensation was 50% at S&P 500 companies and 40% at Russell 3000 companies. The compensation analysis excludes any temporary reductions to director compensation implemented due to the pandemic.
Other than these temporary cuts, director compensation has been pretty static at most companies. Here’s another excerpt:
Year-over-year increases to total compensation, at the median, were modest among large-cap and mid-cap companies compared to small-cap companies, which had a relatively significant increase: the large-cap median increased 1.6% to $290,000, the mid-cap median increased 1.7% to $216,950, and the small-cap median increased 5.1% to $163,500. Changes were relatively stable across industries; we observe that Financial Services, Industrials, and Technology companies had no increases in median total compensation, while Energy and Retail companies had increases of 3% and 2%, respectively.
The 2020 study includes 275 companies that were also included in the 2019 study (“legacy companies”). Approximately 30% of legacy companies increased compensation by more than 1% and compensation increased 9% at the median among these companies; increases were generally weighted more towards equity than cash, with a median cash value increase of 8% and a median equity value increase of 9%.
Director compensation structure remains consistent with prior years, with an average mix of 57% equity and 43% cash across the entire sample. Small-cap companies tend to have the highest cash weighting (average of 47%) and large-cap companies tend to have the lowest (average of 37%). Most companies continue to use fixed-value equity award guidelines, with full-value stock awards remaining the most common form of equity compensation and providing the most consistent means to align director pay with shareholder interests. Equity grants most commonly vest immediately, or cliff-vest after one year.
