The Advisors' Blog

– Broc Romanek

Here’s an excerpt from this Wachtell Lipton memo:

1. Identify Grandfathered Arrangements. Determine whether any compensatory arrangements that were in effect on November 2, 2017 are grandfathered under the transition rule based on current IRS guidance. All documentation relating to a compensation arrangement should be considered when evaluating the grandfathered status of an arrangement that includes negative discretion.

2. Do Not Inadvertently Degrandfather. Avoid any non-essential “material modification” to grandfathered arrangements, which Notice 2018-68 defines as an amendment that increases, or accelerates (without a time-value discount) the payment of, compensation. Companies should understand when arrangements expire, renew or need to be extended and the impact on grandfathering.

3. Maintain Clear Records. In order to identify grandfathered arrangements and protect their grandfathered status, companies should maintain clear records of the state of their compensation programs as of November 2, 2017, including accrued balances as of that date.

4. Make a List of Covered Employees. The revisions to Section 162(m) provide that, if an individual becomes a covered employee during any taxable year beginning on or after January 1, 2017, he or she will remain a covered employee indefinitely. Since the covered employee population is backward-looking and continually expanding, companies should maintain a list of all covered employees and review it annually for updates.

5. Consider Which Employees Are Executive Officers. Only an executive officer can become a covered employee under Section 162(m). As such, companies should carefully assess the classification of individuals as “executive officers” under Rule 3b-7 of the Securities Exchange Act of 1934.

6. Structuring New Compensation Arrangements. When structuring new compensation arrangements, consider whether payments can be spread out over multiple years (rather than paid in a lump sum) in order to avoid the recipient being classified as a covered employee or to keep payments to a covered employee below $1 million per year.

7. Maintain a Committee of Outside Directors. Maintain a committee composed solely of two or more individuals constituting “outside directors” under Section 162(m) for purposes of administering grandfathered arrangements. Accordingly, companies with grandfathered arrangements should not remove questions related to Section 162(m) from D&O questionnaires.

8. Review Proxy Disclosure. Review annual proxy disclosure to determine whether it needs to be updated to reflect the changes to Section 162(m) or related changes to incentive plans.

9. Review New or Amended Equity Plans. If seeking approval of a new or amended equity incentive plan, review the plan document to remove any references to the performance-based compensation exception that are no longer operative. At the same time, companies should consider whether certain provisions originally driven by Section 162(m) requirements, such as annual limits on awards to individuals and a list of performance goals, should be retained based on the expectations of stockholders.

10. Consider Treatment of Cash Incentive Plans. It is no longer necessary for cash incentive plans to be approved by stockholders. Accordingly, companies should consider whether to maintain their existing stockholder-approved cash plans. Note that maintaining a filed plan should avoid the need for disclosure on Form 8-K when a bonus is granted to a named executive officer.

11. Update Deferred Compensation Plans. Review and, if necessary, update deferred compensation plans under which payments are triggered based on deductibility not being disallowed by Section 162(m), taking into account compliance with Section 409A of the Internal Revenue Code.

– Broc Romanek

This memo from Farient Advisors is interesting. Here’s an excerpt:

Even when companies are careful about plan leverage in the performance range between threshold and maximum awards, they often plant a big incentive land mine right at the threshold. One of the most common compensation structures in the corporate world is to have between 25 percent and 50 percent of target awards suddenly cut in when a threshold level of performance is achieved. At this point, the pay-for-performance curve is not just steep, it is vertical. To managers, that might mean millions of bonus dollars for hitting their number, or zero if they fall a dollar short.

– Broc Romanek

Here’s an excerpt from this Compensia memo about how technology companies fared when seeking shareholder approval of stock plans:

In 2018, the number of employee stock plans proposals in the technology sector declined from prior years. Only 17% (26 of 150 companies) of the Tech 150 submitted employee stock plan proposals to their shareholders in the past 12 months (based on a review of definitive proxy statements filed for companies with fiscal years ending during the period from June 1, 2017 through May 31, 2018). This number is significantly lower than the practices of representative publicly-traded technology companies that we reviewed in each of the prior three years (26% in our Bay Area Tech 120 reviews in both 2015 and 2016 and 31% in our Tech 150 review in 2017).

– Liz Dunshee

This article from Semler Brossy’s Blair Jones outlines four ways in which the compensation committee can foster strategic diversity initiatives (also see Calvert’s 32-page “Diversity Report”):

1. Monitor company-wide diversity & inclusion initiatives – and mentor high-potential individuals

2. Succession planning – including CEO direct reports and the long-term talent pipeline

3. Oversee annual compensation actions – this blog describes how some companies are now linking pay to diversity goals

4. Lead the company’s process to address gender pay equity – shareholders and employees are very interested in this topic, and you don’t want to be caught flat-footed

– Liz Dunshee

Beginning in 2019, ISS will recommend a vote against members of the board committee responsible for setting non-employee director pay if the pay has been “excessive” for two or more years and there’s not a “compelling rationale” or other mitigating factors for that arrangement. This Exequity memo charts director pay stats for the S&P 500 and the Russell 3000 so that you can know what amount of compensation will be problematic.

The memo notes that if you come within 10% of the 95th percentile, you should be cautious about director pay increases and your director pay disclosures. It might make sense to clearly explain in the proxy statement why the pay levels are appropriate. I’ve also blogged about factors & program features that could lead to unexpected outcomes in the ISS evaluation…

– Liz Dunshee

I blogged last month about whether you can use the same “median employee” for your second year of pay ratio disclosure. This Pearl Meyer blog lists some other things to think about for Year 2 – but the main takeaway is to keep it simple. Here’s an excerpt:

Should you change your disclosure? After reading those nearly 4,000 other proxies, you may find yourself with a case of pay ratio disclosure envy and want to change the way your disclosure reads or is presented. Again, absent a compelling reason to do so (see our next two considerations), we would recommend retaining the same format and flow from 2018. With the SEC issuing zero comment letters on this disclosure requirement last year, it appears that every registrant has so far made a good faith attempt to comply and did (at least in the eyes of the SEC). Even proxy advisors and institutional investors didn’t complain about the disclosures, and if anything, said there was too much information. Why open yourself up to scrutiny by changing what has already worked?

– Liz Dunshee

We might be seeing the end of the TSR heyday. More and more investors are focused on long-term value creation and the alleged evils of earnings forecasts – and there’s buzz around the idea that return on invested capital is the primary driver of value creation. So it’s no surprise that ROIC is becoming a preferred metric for performance plans.

This Forbes blog (from an ROIC-focused research firm) says that almost a third of companies are now using this performance metric. It provides some case studies – and explains the trend:

ROIC has become a more common word in corporate America over the past three years. In 2016, The Wall Street Journal declared ROIC “The Hottest Metric in Finance.” Proxy advisor Institutional Shareholder Services recently bought EVA Dimensions so that it could offer more than just unscrubbed accounting metrics. JPMorgan Chase (JPM) CEO Jamie Dimon called out ROIC as a key driver of value in his 2018 letter to shareholders. From 2014 to 2016, the percentage of companies that tied executive pay to capital allocation measures rose from 21% to 30%. And a 2016 Rivel Research survey of buy-side investors found that ROIC was their favorite metric to link management pay to company performance.

Companies that focus on hitting quarterly earnings targets instead of driving long-term improvements in shareholder value should not be surprised to find themselves targeted by activist shareholders – like the ones that forced General Motors to adopt ROIC as a key performance metric in 2014.

Despite these improvements, there’s still a large disconnect between CEOs and investors regarding the importance of ROIC. 77% of buy-side investors favor ROIC as a performance metric while only 30% approve of EPS. Meanwhile, 63% of companies link long-term executive compensation to earnings while only 30% link compensation to ROIC.

– Broc Romanek

Recently, Liz blogged about Glass Lewis issuing its 2019 voting policies. Glass Lewis also has issued this 32-page set of shareholder initiatives…

– Broc Romanek

As noted in this Bloomberg article, Rite Aid received a 84% vote ‘against’ on its say-on-pay. I was pretty sure that was a record low…but surprisingly, it’s not even the leader in the clubhouse for 2018! For example, Nuance Communications got only 10% in favor. Some bigger names also got clobbered – Wynn Resorts was at 20%, and Bed, Bath & Beyond was at 21%. We post reports with say-on-pay results for each proxy season in our “Say-on-Pay” Practice Area…

– Broc Romanek

Here’s the annual “Guide to Effective Proxies” from Donnelley Financial, 514 pages of examples from actual proxies…