The Advisors' Blog

– Broc Romanek

Here’s the inaugural “Global Top 250 Compensation Survey” from FW Cook, FIT Remuneration Consultants & Pretium Partners, which contains information on compensation levels for CEOs & CFOs, the design of long-term incentives, and share usage at the 250 largest listed companies globally…

– Broc Romanek

Here’s news from this ‘Willis Towers Watson’ blog:

Companies preparing for Year 2 CEO pay ratio disclosures now have more questions to consider. Recently, Fortune 500 company compensation committees began receiving a letter from a group of 48 institutional investors requesting them to disclose more information on workforce compensation practices.

The letter posits that since “disclosure of the median employee’s pay provides a reference point for understanding the company’s workforce,” companies should move “to help investors put this pay information into the context of your company’s overall approach to human capital management” with more expansive disclosure.

– Broc Romanek

We blogged several weeks ago about a scheduled open Commission meeting to consider a “request for comment” on the nature & content of quarterly reports & earnings releases. That meeting was cancelled due to President George H.W. Bush’s funeral. Yesterday, the SEC posted this Sunshine Act notice for the rescheduled meeting, to be held next Wednesday – December 19th. And at this meeting, the SEC will also consider adopting the long-pending hedging rules – as required by Section 955 of Dodd-Frank…

– Broc Romanek

A few months ago, Liz blogged about new Section 83(i) of the Internal Revenue Code – it allows private company employees to defer taxes for up to five years from the exercise of a stock option or settlement of a RSU. Last week, the Treasury Department & IRS issued this notice about this new provision. This memo from Davis Polk outlines the key takeaways (we’re posting memos in our “Restricted Stock” Practice Area):

– The measurement period to determine whether the employer satisfied the eligibility requirement that 80% of U.S. employees received grants is measured on a single calendar year basis and does not take into account grants made in prior years

– Employers must withhold taxes at the maximum individual rate in effect at the time the stock with respect to which a Section 83(i) election has been made (deferral stock) is treated as received in income and will be treated as a noncash fringe benefit, which will provide employers additional time to collect amounts required to be withheld from employees

– The employee and employer must agree to place deferral stock in escrow to ensure that applicable withholding taxes are deducted

– An employer may opt out of Section 83(i) by not establishing an escrow arrangement

– Broc Romanek

This memo by Meridian Compensation Partners lays out how TSR has fallen on hard times. Here’s the intro:

During the past decade, the use of total shareholder return (TSR) has risen rapidly in prevalence as a performance metric in executive long-term incentive plans. Many compensation committees believed this was a direct way to align executive pay and performance. But is it? A notable number of large-cap companies are now not so sure.

Meridian tracked the use of TSR since 2011 via an annual survey and recently published this year’s findings in 2018 Trends and Developments in Executive Compensation. The prevalence of TSR increased annually from 39 percent in 2011 to 63 percent in 2017. Then, in 2018, there was a reversal: only 53 percent of survey participants used TSR. Moreover, there was a decline in using TSR as the sole performance metric (39%, down from 48%), an increase in coupling TSR with an earnings or return measure, and an uptick in those now using TSR just as a modifier and not a baseline measure.

– Broc Romanek

Here’s a practice tip from Hunton Andrews Kurth’s Tony Eppert that could help increase the life expectancy of the share reserve under its shareholder-approved equity incentive plan. Here are Tony’s thoughts to consider when implementing an inducement grant program:

– Will the use of inducement grants with respect to new hires be used on a regular basis or on an ad hoc basis? If the former, consider drafting an inducement plan document with form of award agreements. And if the use of inducement grants will be on an ad hoc basis, then stand-alone inducement grants could be approved because the formality of a “plan” is not needed.
– Consider filing a Form S-8 to register the shares subject to the inducement grant (i.e., every “offer” of a security must either be registered or subject to an exemption).
– However, if the inducement grant consists of restricted stock and the use of this inducement grant exception is intended by the issuer as a one-time event (or infrequently), then consider whether the “bonus stock exemption” could be utilized in lieu of filing a Form S-8. Under the “bonus stock exemption,” restricted stock could be treated as if it were registered stock if certain conditions are satisfied. See SEC Release No. 33-6188, SEC Release No. 33-6281 and a series of SEC no-action letters. However, a drawback of the bonus stock exemption is that “affiliates” would be subject to Rule 144 resale restrictions (though the holding period should not apply because the shares are not deemed “restricted securities”).

Here’s my ten cents. Remember that ISS closely scrutinizes these types of awards…

– Broc Romanek

This academic paper tracks how the issuance of a ‘going concern’ opinion by a company’s auditors shakes things up, including changes in executive pay…

– Liz Dunshee

There have been murmurings about say-on-pay for directors for nearly a decade now (see this blog). But the idea is getting a fresh look in the wake of Delaware’s Investor Bancorp opinion, as plaintiffs are sending demand letters to investigate director awards – and companies are looking for ways to protect themselves. This blog from Exequity’s Ed Hauder envisions how the approach could work:

Companies might be able to gain some certainty if they have an equity plan that states a “reasonable” limit for annual director compensation, and also put forth on the proxy statement a “Say on Director Pay” vote concerning the next year’s director compensation. Directors’ terms typically run from annual meeting to a subsequent (usually next) annual meeting, so having shareholders approve the directors’ compensation program for the next year period should work. The Say on Director Pay (SODP) vote would create a powerful presumption that shareholders approved the directors’ compensation (assuming directors only receive compensation that was detailed in the approval), which should enable the company to shut down any nuisance suits concerning director compensation.

Of course, care would need to be taken in drafting the SODP. The SODP should apply for the next year period or until shareholders are asked to approve a different compensation program for directors. In this way, companies would only need to present a SODP on their proxy statements when director pay changes. For some companies, this might mean it becomes an annual item in the proxy. But for other companies, it could be a less frequent item on the proxy.

As Ed notes and as I blogged last summer, OvaScience has agreed as part of a settlement to conduct a say-on-director-pay vote every three years. And a few years ago, Broc blogged about a vote at Digirad. So there’s some precedent, but it’s still pretty rare.

Keep in mind that adopting a “high-water” limit (with compensation committee discretion to make awards below that), is probably just a retooling of the old “meaningful limits” standard – and not enough on its own to let you avoid the entire fairness test.

Outside of having shareholders approve specific director awards, plaintiffs will likely be deterred by companies who appear to have their act together. Review & document your process for determining director pay, and beef up your disclosure to show those decisions are reasonable. You probably won’t be worth plaintiffs’ time if you disclose that you’ve used a compensation consultant and made director awards based on robust data and a defensible director pay philosophy.

– Liz Dunshee

This Pearl Meyer survey says that at this point, it’s not very common to incorporate ESG goals into incentive plans. But a shift is underway. Companies are no longer bound by the constraints of Section 162(m) – and shareholder interest in the corporate risks posed by climate change & human capital issues is greater than ever.

In fact, Shell announced just a few days ago that it would link pay to carbon reduction targets for as many as 1300 high-level employees, following shareholder engagement on the topic (also see this BBC article). Other comp committees should also start exploring whether using ESG metrics would benefit their company.

If your compensation committee is considering going down this path, Pearl Meyer’s Jim Heim proposes this process:

1. Evaluate the overall compensation philosophy to confirm it continues to send the right signals to shareholders, employees and potential candidates about the type and level of performance on which the company is focused and how results will be reflected in compensation. ESG measures may have a role to play as companies evolve their performance priorities over time.

2. Assess the prevalence of incentive compensation design practices among peers and the broader market. If sector-relevant companies are clearly shifting their incentive designs to include consideration of ESG measures, they may merit closer investigation (as would be the case for any shift in peer practice). Peer practices may also provide specific examples of how such a shift may be implemented.

3. Incorporate ESG goals into pay-for-performance assessments. While such assessments typically focus on financial categories of performance, investors have indicated that they have found positive correlations between sustainability or “good governance” ratings and shareholder value creation in certain sectors. Companies considering implementation of ESG performance measures may wish to supplement traditional pay-for-performance assessments with an examination of whether there is in fact such a relationship between ESG and shareholder value creation among their peers.

For more on this topic, check out the resources in our “Sustainability Metrics” Practice Area – including the transcript from our recent webcast – “The Evolving Compensation Committee.”

– Liz Dunshee

My husband recently interviewed with a start-up – and like many private companies, a big portion of the pay package was equity. If you’re an optimist who thinks you’ve found the next Uber – and you don’t expect any major expenses before their potentially far-off liquidity event – that’s pretty exciting. But if you’re married to a securities lawyer who tends to see more risks than benefits…you keep looking.

That said, maybe we’ll revisit the discussion now that this Stanford memo has compiled info & stats about resale restrictions, the secondary market and average discounts. Based on a sample of 34 companies, 56% allow employees to sell or pledge a portion of their vested equity awards. Among those that allow sales:

– 67% allow sales back to the company

– 40% allow sales on a secondary marketplace – e.g. SharesPost, Equidate, EquityZen, Nasdaq Private Market

– 47% allow sales to third-parties not through a private company exchange

– 7% allow pledges.

– Employees who sold averaged a 39% discount to subsequent IPO pricing

As you’d guess, many companies have a right of first refusal. What surprised me was that 40% of companies allow employees to sell at any time at their own election – and 14% don’t require any company approval. And here’s one other thought to chew on:

Perhaps more important for the company is that allowing the sale of vested equity awards potentially distorts employee incentives. In structuring their compensation programs, companies decide on the correct mix of cash and equity to attract, retain, and motivate employees to pursue company objectives. An employee who is allowed to sell vested equity awards is effectively being allowed to convert variable, performance-based pay to a fixed amount of cash, significantly reducing (and distorting) the future incentive value of the compensation program.