This article from Meridian Compensation Partners makes the case for building “preventative care” into the compensation committee’s calendar & agendas. The idea is that companies can avoid major overhauls by reviewing short- & long-term programs every 2-3 years – even in the absence of a low say-on-pay or changes to management & compensation committee members. Here are six tasks to include in this regular review:
1. Review market data on program design in order to understand competitive practices & describe reasons that the company’s programs differ.
2. Evaluate whether annual bonus metrics remain aligned with business strategy.
3. Consider the goal-setting process to ensure that it yields goals that are appropriately rigorous.
4. Determine whether the mix of long-term awards remains aligned with business objectives – e.g. retention, pay-for-performance.
5. Examine termination provisions to make sure they’re appropriate & consistent among the company’s various agreements & plans.
6. Evaluate pay-for-performance to identify and fix any misalignment.
Compliance, best practices & flexibility: according to this blog from Exequity’s Ed Hauder, these are the three keys to a “good” equity plan. This isn’t groundbreaking advice – but it can be easier said than done. Here’s an observation from Ed:
I listed the keys for a good plan in order of their applicability. In order to have a viable equity plan, it has to comply with the applicable rules, i.e., compliance. To have a better equity plan, it should reflect current best practices in its provisions (vesting, CIC, award limits, share limits, etc.).
Finally, to be a good plan, an equity plan needs to have sufficient flexibility to allow the company to address issues that arise, even if not expected. In my experience, the hardest thing for an equity plan to do is to incorporate adequate flexibility and reflect current best practices.
We’ve blogged about how activist shareholders increasingly want companies to disclose how they analyze & address gender pay gaps – and about mandatory gender pay reporting for companies with a UK presence. But companies also need to prepare for employee questions. A new Pearl Meyer survey shows that 62% of companies are – or expect to be – fielding gender pay gap & gender pay inequity questions from their workforce. Some think that the #MeToo movement has been the “tipping point” to elevate discussions that have been brewing for years.
The survey also shows that employee understanding of pay practices is mediocre at best. Only 8% of respondents believe the quality of their pay communications is “excellent.” Here’s some other key findings:
– In the last two years, almost half of the companies surveyed (48%) have increased compensation communication
– A majority of companies (52%) don’t share information about base salary ranges with all employees
– About two-thirds of managers are trained to have formal compensation conversations with their direct reports, but the majority (70%) of those surveyed believe those conversations are not effective
– Less than a quarter of respondents believe employees can appropriately compare their compensation to colleagues (21%) or compare their compensation to similar positions in other organizations (22%)
– Of the 62% who are or expect to receive questions about gender pay equity, a majority have clear and detailed information ready to share or are currently drafting their responses.
This Semler Brossy memo advises on how to structure executive pay before & after a deal closes. To get to the finish line, most deal lawyers & comp consultants know that it’s common to supplement existing bonuses & severance with deal-specific retention & transition incentives – with award size and terms tailored to the deal timeline and executive’s role. But in the post-closing integration phase, things can get trickier. Here’s 4 tips:
1. Adjust or redesign pay philosophy as necessary to reflect new strategic objectives
2. Confirm or adjust peer group and increase pay gradually if executives are handling new responsibilities
3. Consider trade-offs from both companies’ legacy programs
4. Analyze wealth accumulation when evaluating significant post-closing equity awards
For more thoughts, see our blog from last year – “Post-Merger Pay Programs: Better to Optimize Than Harmonize.” And for those of you who are also members at DealLawyers.com, check out the transcript from our recent webcast: “Retaining Key Employees in a Deal.”
This primer from Cleary Gottlieb & PwC takes a close look at the workings of compensation committees – in particular, things the chair and members can do to make the committee more efficient & effective. Here’s the intro:
The work of a compensation committee is much more than just deciding how much money executives make. Many investors see pay decisions as a reflection of the company’s strategy. They know it can have an impact on the company’s culture. And they use it as a window into the board’s oversight role.
How can compensation committees ensure they are supporting long-term shareholder value? By reviewing the internal workings of the committee, and examining the committee members, the meeting agendas, materials and how the meetings are run. And, just as importantly, by looking at how the committee interacts with others. This includes compensation consultants, the full board, other committees and shareholders—as well as with management.
Covered topics include appropriate skill-sets for members and the chair, how to plan the meeting calendar & agenda (with a sample calendar!), best practices for committee procedures & documentation, approaches to shareholder engagement, working with other committees, committee assessments and how to measure intangibles.
According to research described in this MarketWatch article, CEOs average a pretty quick cut in base & incentive pay after an activist takes a stake in the company – to the tune of $350,000 less within one year. After the activist’s exit, pay goes back up. Here’s a hypothesis about why this happens:
“Since stock awards help align managerial interests with firm value, it is surprising to find a reduction in the level of stock awards in target firms after the activist has entered,” said one of the researchers. “We think this is because the activist joins the board and closely monitors the CEO. Therefore there is less need for performance pay, which is risky and quite expensive for the firm.”
“Once an activist exits the firm, there is a renewed need for performance pay to provide incentives to a CEO. In other words, the close scrutiny of firm management by activists is a substitute for performance-oriented stock incentives.”
We’ve gotten a few questions about whether companies that have “grandfathered” performance-based awards are continuing to adhere to Section 162(m)’s five-year reapproval requirement for performance criteria. On Tuesday, the IRS issued initial guidance about the operation of the “grandfather” rule (see this blog from Mike Melbinger).
While the guidance provides some good insight into the definitions of a “written binding contract” (beware any “auto-renew,” “negative discretion” or “contingent-on-approval” provisions) and a “material modification” (you can’t increase pay through a supplemental agreement) – it doesn’t squarely address the shareholder approval question. This Debevoise memo suggests that it’s a good idea to reapprove the performance criteria if awards are contractually promised but not yet granted:
Grandfathered arrangements that rely on the performance-based exception must continue to comply with the formal procedures previously applicable to performance-based compensation. For example, if an executive had a contractual right as of November 2, 2017 to receive a performance-based award in the future, the performance criteria applicable to such award may need to be re-approved by shareholders if, when the award is granted, five years have passed since the last shareholder approval.
But this Covington memo notes that Section 162(m) proposals have been pretty rare this year, at least among the S&P 100. It’s a small sample size, but it appears that the “promised but not granted” fact pattern isn’t very common – and at least some companies decided that shareholder approval of performance criteria is no longer necessary. Here’s an excerpt:
Based on our review of the S&P 100, fourteen companies had last submitted the performance criteria in their equity incentive plans to a shareholder vote in 2013, and two had last submitted criteria for their cash-based plans in 2013, meaning that prior to the TCJA, section 162(m) generally would have required these plans to be put to another shareholder vote in 2018 to allow the company to continue to exclude performance-based compensation from section 162(m)’s deduction limit.
After reviewing these companies’ 2018 proxy statements, we found that only four of the fourteen companies submitted their equity plans to a shareholder vote in 2018. Nine companies did not do so, while one company has not yet held its annual meeting. Of the cash-based plans, neither was submitted to a shareholder vote.
I blogged a while back about a study showing that having a clawback policy improves the quality of financial reports. A forthcoming study in the Journal of Accounting & Economics puts a finer point on that: it’s what’s in the policy (and who is covered) that actually matters. This “Columbia Law” blog summarizes the findings. Here’s an excerpt:
Most studies report strong evidence that firm-initiated clawbacks are effective in improving financial reporting quality and that investors respond positively to clawback adoption. These studies treat clawbacks as a binary choice: A firm either does or does not have a clawback. The common interpretation of these results is that the mere adoption of the clawback is the primary cause of the observed benefits.
Our study provides the first evidence of the different economic consequences for firms that voluntarily adopt clawbacks. Not all clawbacks are the same: Some lead to significant economic benefits, while others do not. An important implication of our study is that one may interpret the results of prior clawback studies with more caution, as they attribute all beneficial effects of clawbacks to their mere adoption. This overlooks the variation in clawback design and the notion that governance mechanisms interact in potentially important ways, and thereby ignores the benefits of broader governance reform.
Our findings also have implications for shareholders and regulators. Given that the mere adoption of even strong clawbacks does not necessarily improve financial reporting, the impact of mandating clawback provisions under Section 954 of the Dodd-Frank Act may be overstated.
Two activists recently announced progress in campaigns to close the gender pay gap. In this summary (pg. 3), the Interfaith Center on Corporate Responsibility describes engagements with seven companies – four of which agreed to enhance pay equity disclosure.
And the NYC Comptroller & NYC Pension Funds have continued a 2017 initiative with healthcare & insurance companies – proposing that they provide annual disclosure on gender & race/ethnicity pay gaps. Recently, they announced more progress from the resulting engagements. Since that initiative launched, a total of 15 companies have committed to improving pay equity and/or increasing transparency – e.g. by disclosing how they determine whether disparities exist. The announcement notes:
Transparency regarding gender pay disparities at US companies is rare. According to some studies, less than 10% of the largest 875 public US companies have conducted pay equity studies, and only 54 have established a policy for diversity and equal opportunity.
In its second year, the Comptroller’s pay equity initiative calls on insurance & healthcare companies – which have the largest adjusted pay inequities of major US industries – to publicly commit to ending the gender pay gap and increase transparency on existing disparities.
This Semler Brossy interview runs through some of the current events that are affecting compensation committee decisions. Here’s one comment that stood out, from Steve Van Putten of Pearl Meyer:
I think most companies are adjusting incentives for tax reform. They don’t want to create windfall gains for management at the time they’re giving employees a one-time $1,000 bonus. Certainly, that doesn’t look good from an optics standpoint.”