– Broc Romanek
Here’s the news from this FW Cook blog (also see this Fenwick & West memo – and Davis Polk blog):
Yesterday evening, Senate Finance Committee Chairman Hatch released details of the Senate’s version of the Tax Cuts and Jobs Act. The most notable development for executive compensation is that the Senate bill generally contains the same executive compensation related provisions that were included in the first, and now outdated, release of the House bill (H.R. 1).
As previously reported, H.R. 1 was amended yesterday to remove Section 3801 of the bill, which provided for sweeping changes to the tax treatment of non-qualified deferred compensation, including stock options, under a new “Section 409B.”
For the moment, the new deferred compensation rules may be back on the table. The Senate Finance Committee meets for the first time on Monday, November 13 to begin consideration of the bill. Both the House and Senate versions are subject to further change, votes, and eventually reconciliation before final passage.
– Broc Romanek
It’s quite rare that I blog other than early in the morning. It’s too tempting to chase news across the day. But I thought I would throw up some big news regarding the earth-shattering House tax bill – even though it could be more complete if I waited til morning (including where we stand with the Senate version). Here’s the skinny about how the House made changes to its tax bill today (see this official summary):
1. The House has deleted the offending provisions about equity compensation from the bill (Section 3801 of the bill) – but it left in the provision allowing deferral of tax of stock options for private companies. And it sounds like the provision is modified that so it no longer applies to RSUs (it originally applied to both RSUs & options).
2. The changes to Section 162(m) still stand (Section 3802 of the bill). I think that’s a done deal, assuming they can get the rest of the bill passed. It’s clearly a revenue raiser and if the corporate tax rate is only 20%, companies probably don’t care about the deduction as much anyway. I’m sure it’s a trade-off many companies are willing to make.
So the upshot is that all of Section 3801 is struck – so no changes to the taxation of NQDC – and 409A still stands, so no big changes to the taxation of options & RSUs. And this is a week of my life I can never get back. We’ll be posting the new horde of memos that are sure to come in our “Regulatory Reform” Practice Area…
– Broc Romanek
Last month, I blogged about changes that companies have made after getting a low say-on-pay vote. But if you want to avoid being in the 12-14% of companies that get a negative ISS recommendation each year, there are also things you can do in advance.
This Davis Polk blog lays out the 7 main drivers that lead to say-on-pay issues, in addition to the magnitude of pay & shareholder return (also see this Willis Towers Watson memo). Here’s a teaser:
1. Compensation committee responsiveness. Failure of the compensation committee to demonstrate responsiveness after a low, although passing, say-on-pay vote.
2. Discretionary awards outside of plans. Retention grants, replacement grants and make-whole awards are all discretionary awards that can be particularly problematic if they are essentially re-grants of previously forfeited awards or used to replace foregone performance-based awards. Discretion, or any adjustments, can be appropriately applied, even upward discretion, if specifically linked to tangible business events that benefited shareholders. A separate ISS Analytics report indicated that discretionary cash bonuses have continued to decline, making up just 10% of the S&P 500 in 2016, while 86% of those companies paid non-equity incentives.
3. Incentive plan construction. Questions may arise around a program that relies exclusively on subjective components or has an ineffective mix of time-and performance-based awards.
4. Selection and disclosure of performance metrics. Disclose your metrics in a way that ties them to your strategy. There continues to be a love-hate relationship with relative TSR – but companies with high TSR tend to have higher say-on-pay approvals regardless of pay structure. There’s also a lack of consensus on whether three years is too short of a performance period – consider selecting other metrics for that time span as part of long-term incentive programs.
5. Rigor of performance goals. The situations that generate the most concern include setting goals below last year’s actual or target performance without explanation, goals that always achieve maximum payouts or a company’s failure to disclose goals at all even after the award cycle is completed.
6. Peer group and benchmarking practices. Some companies continue to select aspirational peer sets where the median company is significantly larger, or benchmark above the median without explanation.
7. Employment agreements. While there has been tremendous change in practices over the last seven years, some perennial issues that arise and always garner attention include large severance multipliers, guaranteed multi-year awards, inducement grants, replacement awards, retirement grants and separation benefits.
– Broc Romanek
Here’s the teaser for this Pay Governance memo:
Incentive plans have the potential to drive executives towards achieving superior results for their companies and investors. At the same time, real and perceived risks in these programs can either blunt the potential drive of management or encourage excessive risk taking. A key goal in well-designed executive incentive programs is to motivate executives to take the actions necessary to achieve strong results for shareholders while mitigating the motivation to take excessive risks.
To date, the annual report that Compensation Committees provide in the CD&A on the presence of material risk in pay programs has been based largely on overall qualitative assessments done by the Company or their independent advisor. The most common risk assessment approach has been to look at each of the major incentive design elements in isolation – such as the presence or lack of a “cap” on annual incentives – and then judge the overall risk based on the types and number of potential risk-creating elements observed in the entire pay program. This qualitative approach is a self-assessment, and rarely does it look at relative risk compared to peer companies or a comparator group.
Pay Governance has recently developed a quantitative measurement tool, tested with the Fortune100, that will generate an overall score for both Pay Energy™(the first measurement tool that identifies the degree to which any company’s pay program creates “drive, discipline and speed”) and Pay Risk (in this context, risk refers to financial risk). This can then be used as an additional diagnostic tool to evaluate the potential of a new or existing pay design to achieve an efficient balance of Pay Energy™and risk management.
– Broc Romanek
As we continue to post memos in our “Regulatory Reform” Practice Area about the new House tax bill – here’s the intro from this hilarious blog by Performensation’s Dan Walter:
Stock Options, Restricted Stock Units, young Performance Units and their cousin Non-Qualified Deferred compensation tragically died in 2017 as an unintended consequence of colliding with the 429 page U.S. tax reform called the ‘‘Tax Cuts and Jobs Act.’’ It should be noted that Employee Stock Purchase Plan is currently in critical condition at a local hospital.
– Stock Options had lived an exciting and robust life since the 1980s. Friends and associates attribute the success of their business and the growth of nearly all technology we enjoy today to Stock Options.
– Restricted Stock Units, fondly remembered as “RSUs,” had recently provided stability to the family. After gaining prominence in the early 2000s, RSUs had recently become a leader in the family.
– Performance Units were just youngsters at the time of the accident. Vibrant and imaginative, their creative approach was an inspiration to companies and investors looking to build a brighter, more just, tomorrow. Their surprising loss will change the course of history for years to come.
– Non-Qualified Deferred Compensation (“NQDC” to its friends), a beloved cousin, lived a quiet life at edges of the family. While less well-known, NQDC was a vital component for many of its supporters.
Also impacted by the accident was Employee Stock Purchase Plans (ESPP). ESPP is a beautiful blend of many of the best features found in other members of the family. A favorite of a broad section of the population, ESPP’s mission was to provide an uplifting experience to the “regular folks” who often did not get a chance to meet other family members. ESPP is currently on life-support, with no additional information available at the time this was written.
The Equity Compensation family was often misunderstood, but lived to make people more successful. They enjoyed spending time with small, private companies in need of a spark for growth and well-known public companies working to provide the tools, system, medicine and other advancements that make the world a better place. Their extended family has moved all over the world and remain exciting contributors to the success of individuals in nearly every country on the planet. The loss of Equity Compensation in the United States will put all of us at a disadvantage in the competitive future.
– Broc Romanek
Last week’s tax bill from House Republicans would have a tremendous impact on executive pay if enacted into law. We’re posting memos in the “Regulatory Reform” Practice Area – but here’s a teaser from Skadden that will blow you away:
If enacted, the newly proposed “Tax Cuts and Jobs Act” would effectively put an end to many of the most widely used forms of executive compensation:
– Deferred compensation and stock options would disappear
– Use of performance-based compensation would be severely limited
– Compensation over $1 million to senior executive officers would be nondeductible for public companies and subject to an excise tax for tax-exempt organizations.
Of course, the tax reform bill released by the House Republicans today (November 2) is likely to change, perhaps drastically, in the coming days.
– Broc Romanek
Check out BDO’s latest study on middle-market board director compensation, finding that total board director compensation for middle market companies rose 4%, from $153k to $159k. Other findings include:
– Companies favor equity compensation over cash: use of stock options rose 3%
– Board retainers and fees increased an average of 9% across all industries
– Technology remains the highest compensated industry: Bank directors remain the lowest, earning $45k compared to their tech counterparts at $219k
– Broc Romanek
Here’s the intro from this memo by Andrews Kurth Kenyon’s Tony Eppert & Mike O’Leary:
Many public issuers that are master limited partnerships (“MLPs”) or real estate investment trusts (“REITs”) have no employees, and instead, are externally managed by a related entity pursuant to a service agreement. This fact pattern, which is common to MLPs and REITs, raises a question of whether the issuer has to comply with the pay ratio disclosure rules of Item 402(u) of Regulation S-K if neither it, nor any of its consolidated subsidiaries, have employees.
– Broc Romanek
Is it better to propose a new omnibus plan or amend an existing one? This blog by Ed Hauder of Exequity examines the age-old question by presenting voting data for both types of proposals. Here’s a teaser:
For companies that are looking to do everything possible to ensure a favorably vote outcome, then serious thought should be given to adopting a new omnibus plan since such proposals receive higher levels of voting support.
That said, the median level of vote support for proposals to amend an existing omnibus plan are slightly higher than the median support for proposals to approve a new omnibus plan. But this is offset by the fact that proposals to approve new omnibus plans have more votes coming in at or above the 90% level.
– Broc Romanek
Yesterday, as reflected in this press release, ISS announced methodology changes to QualityScore – with an increase from 6 to 21 of the core factors considered. There is a data verification period between November 13th-28th for the changes – and the new changes are effective December 4th. Among others, new factors include evaluation of independence of the audit, nomination & compensation committees; unequal voting rights; and vesting periods for option & restricted stock awards.