Recently, Glass Lewis published a report linking compensation to sustainability. Here is an excerpt from the blog about it:
Since 2010, Glass Lewis has reviewed this trend and has found a significant increase in the number of companies linking compensation to sustainability. For the 2012 edition of Greening the Green: Linking Executive Compensation to Sustainability, Glass Lewis reviewed the short- and long-term compensation plans disclosed by companies in their annual proxy filings. For this years’ report, we reviewed the constituents of indices in 11 global markets (S&P 100, S&P/STX 60, FTSE 50, S&P/ASX 50, IBrX 50, IBEX 35, CAC 40, AEX 25, OBX 25, SMI 20, DAX 30). We found that 42% of these companies provide a link between executive pay and sustainability, a considerable increase from two years ago, when only 29% of companies provided such a link.
Here’s an interesting article from Towers Watson’s Steve Seelig and Russ Hall:
We’re receiving a growing number of questions from companies interested in easing their employees’ tax burden in 2013 by paying their 2012 calendar-year bonuses before year-end. Aside from some of the tax-related challenges detailed below, the threshold question compensation committees should consider involves the optics of this decision. Our view is that, although the acceleration is doable and a tax-efficient delivery of compensation is generally preferable, the challenges of explaining the company’s rationale to shareholders, as well as managing and administering an accelerated year-end schedule, are likely to outweigh the benefits of saving executives money. We recognize, however, the school of thought that bonus accelerations may not need to be disclosed to shareholders in a company’s proxy or 10-K, particularly if named executive officers (NEOs) do not participate. In short, there may be more flexibility for an approach covering high earners who aren’t NEOs.
For those who wish to explore the tax implications of this strategy, one issue is whether accelerated payments to top executives would remain tax deductible under the 162(m) “performance-based compensation” exception. A second issue would arise where there are existing nonqualified plan deferral elections in place to delay payment of the 2012 bonus to a later year.
What’s the Issue?
Some clients contemplating the implications of November’s presidential election believe it’s likely that the Bush tax cuts will expire in 2013, resulting in higher tax rates for their higher-paid employees. This could mean that the top marginal income tax rate will increase from 35% to 39.6% unless Congress intervenes.
From a corporate perspective, the tax code recognizes that it is administratively difficult for companies to pay annual performance bonuses before year-end and permits a tax deduction if they are paid within two and a half months after the end of the bonus year, subject to some additional requirements. The same rule applies to settlement of performance shares. Virtually every company uses this rule of convenience. But, for high-income taxpayers to take advantage of potentially lower 2012 tax rates, this regime would need to change so that bonuses are paid during 2012, rather than after year-end.
Doing so would raise an overarching question about changes in tax accounting methods, an issue best discussed with tax advisors. Assuming that hurdle is met, and companies can reasonably value bonus amounts due before the year-end books are closed, there are two other issues that must be confronted: 162(m) and 409A of the tax code.
$1 Million Pay Cap Under Section 162(m)
The first potential challenge is whether companies can meet the “performance-based compensation” exception to the $1 million deduction cap for bonuses paid before year-end to the CEO and three highest paid executive officers (other than the CFO) listed on the company proxy. The complication that arises is whether the compensation committee can certify in writing prior to payment of the compensation that the performance goals were satisfied. The committee cannot approximate that the goals have been met; there has to be an actual performance period that is measured. A similar analysis would apply where companies want to settle performance shares before the end of a multi-year performance period.
How easy it is to accomplish this early certification will depend on the type of performance metrics being used. A performance target such as a revenue goal in excess of 105% of the prior-year level might be measurable if attained before the early payment date. By contrast, a performance goal based on net results, such as earnings per share for a calendar year, might be more difficult to certify before year-end with the uncertainty of events that may occur during the last weeks of the year. Adding to the mix is the open question of whether the IRS agrees that certification can take place before the end of the original measurement period.
Another approach might be to simply truncate the performance period so that it ends, using the above example, on December 15 instead of December 31. However, it’s unclear under the tax regulations, which require that a performance goal for an annual bonus be set by the 90th day from the start of the year, whether the length of the performance period must also be specified on that date. Said differently, can you change a one-year performance period to something shorter during the course of the performance year? The regulations are not clear on this issue.
Assuming the certification hurdle can be met, another arcane — and unresolved — regulatory question is whether the entire bonus can be paid before year-end. Reg. section 1.162-27(e)(2)(iii)(B) provides:
“If compensation is payable upon or after the attainment of a performance goal, and a change is made to accelerate the payment of compensation to an earlier date after the attainment of the goal, the change will be treated as an increase in the amount of compensation, unless the amount of compensation paid is discounted to reasonably reflect the time value of money.”
It’s not clear to us what this regulation is trying to address. Does it endorse early payments like the ones we are suggesting? Does it apply to all situations where a payment is being made earlier than two and a half months from year-end or only when a specified payment date is being overridden by an earlier payment? These are open questions.
Also keep in mind that accelerated or discounted payments must comply with the terms of the executive bonus plan, so the company would need to make sure that the plan at least grants the authority for the compensation committee to pay the bonuses early.
409A Deferral Elections Must Be Honored
Section 409A would come into play in situations where executives have previously elected to defer payment of bonuses earned for 2012 performance under a nonqualified deferred compensation plan. In general, these elections must be in place at least six months before the end of the performance period and may have been made before the start of 2012. Because we’re now well past the end of that six-month period, several potential arguments for revoking existing elections are no longer available, so we see little hope of changing deferral elections currently in place.
In short, early payouts during 2012 of deferred compensation are generally not permissible.
Proxy and 10-K Disclosures
We believe that accelerating NEO bonuses would be considered “material” and, thus, would need to be disclosed in the Compensation Discussion and Analysis section of the proxy. This will be a matter of judgment to be resolved with SEC counsel. Of course, the CD&A disclosure issue would be moot if NEOs are excluded from the accelerated bonus payout.
However, even if the NEOs are included, we don’t believe the pre-year-end payment would change any of the required tabular proxy disclosures. For example, Summary Compensation Table disclosure of Non-Stock Incentive Plan Compensation or Bonuses is based on compensation earned for the year, regardless of when it’s paid. Other tables would similarly be crafted the same way regardless of payment timing. Similarly, because the tax deduction timing rules permit bonus payments made within two and a half months of year-end to be deducted in the year in which they were earned, we don’t see the 10-K financials being any different if the payments are made before the end of the year.
Ultimately, companies will want to give all of the implications of bonus acceleration careful thought before deciding on a course of action.
Rightfully so, all of the attention over the Rule 10C-1 rulemaking has been on the NYSE Euronext and Nasdaq National Market proposals. In all of the excitement, I forgot to note the five other proposals from these exchanges, several of which were released just last week:
Yesterday, ISS posted its draft 2013 Policy Updates, with a comment deadline of Halloween. That’s just two weeks – so no time to procrastinate. Mike Melbinger has posted a chart of the significant proposed changes in his blog. And Ning Chiu has summarized them in her blog – and here is a Gibson Dunn memo…
By the way, ISS now has FAQs about how its research department works…
Come and check out this new book from Pay Governance book entitled “Executive Pay At A Turning Point.” The formatting of the book make it easy to read on a Kindle or iPad. The chapters are linked from the table of contents and the index is linked to the appropriate pages in the book, both features for ease of movement throughout the book.
Executive compensation is again the top area of focus for governance stakeholders globally, according to results from ISS’ recently concluded voting policy survey for 2013. Investor respondents collectively cite the issue of executive compensation as the top governance topic for the coming year, while issuer respondents also cited executive compensation as their top concern in North America and Europe, and as the second most important topic in both the Asia-Pacific region and in developing markets.
More than 370 total responses were received for this year’s survey of global governance practices. A total of 97 institutional investors responded. Approximately 71 percent of investor respondents were located in the United States, with the remainder divided between U.K., Europe, Canada, and Asia-Pacific. In addition, 273 corporate issuers responded, with 79 percent of them located in the United States and the remainder divided between U.K., Europe, and Canada.
Peer Groups
While ISS’ selection of peer groups for analysis of executive compensation invoked divergent views from investors and issuers, both agree that size matters when selecting peers. Eighty-four percent of investors and 74 percent of issuers indicated that an ISS-selected peer being within a specified size range of the target company (e.g., between 0.5 and 2 times the company’s revenue) is a “very” or “somewhat” relevant factor in selecting peers for a pay-for-performance comparison group.
Both the majority of investors and issuers also agreed that the target company’s size should be near the median of the selected peers (75 percent and 64 percent, respectively); the ISS-selected peer within the same GICS group as one or more of the target company’s published peers (79 percent and 51 percent, respectively); and the ISS-selected peer has chosen the target company as a peer (67 percent and 56 percent, respectively) as “somewhat” relevant or neutral factors.
It appears, however, that the ISS-selected peer being included in the target company’s published peer group(s) is only “somewhat” relevant or neutral in selecting peers for a pay-for-performance comparison group for 64 percent of investors while it is the “most” relevant factor for the majority of issuers (65 percent). Moreover, 74 percent of investors indicated the ISS-selected peer being in the same GICS group as the target company as a “very” or “somewhat” relevant factor, while 55 percent of issuers indicated that factor to be “somewhat” relevant or neutral.
A two-thirds majority of investor respondents said that ISS should continue to create its own peer group and provide the company’s peer group as an alternative view. For issuers, the responses varied with the most common response suggesting ISS use the company’s peer group without exception.
Measuring Pay
Investors are very likely to consider performance metrics other than total shareholder return when evaluating say-on-pay proposals. With respect to ISS’ pay-for-performance methodology, a slight majority (52 percent) of investor respondents indicated that they would be “very likely” to consider metrics other than total shareholder return as a factor when evaluating say-on-pay proposals. Common suggestions for such metrics included EPS and revenues as the alternative metrics.
Standardized calculations of realized/realizable pay or measures of such pay provided by the company are favored by both issuers and investors. One-half of investor respondents indicated that they would consider both granted and realized/realizable pay as an appropriate way to measure and analyze executive pay.
The other half of investor responses varied among other perspectives with 25 percent indicating that ISS should use granted pay in a quantitative evaluation but consider realized/realizable pay in a qualitative evaluation to determine overall pay-for-performance. For issuers, responses varied, with the least popular perspective to focus on “granted pay” (primarily cash and the grant-date value of equity awards).
A majority of investors indicated that both a standardized calculation of realized/realizable pay and measures of realized or realizable pay as provided by the company are appropriate ways to consider such pay in a pay-for-performance evaluation. Issuer responses varied, with 36 percent citing a standardized calculation of realized/realizable pay and 29 percent citing measures of realized or realizable pay as provided by the company as the appropriate way to consider such pay.
Pay for Failure
Regarding pay-for-failure scenarios, cash severance exceeding three times base salary and target bonus and new severance agreements entered immediately prior to a CEO’s departure are considered problematic: both issuers and investors agree. Over 80 percent of investor respondents consider all of the following actions as problematic in a scenario where a CEO receives a sizable termination package concurrent to significantly lagging shareholder returns: a severance settlement when the executive is slated to be retiring or resigning, immediate acceleration of all unvested equity upon termination without cause, cash severance exceeding three times base salary and target bonus, a new severance agreement entered into immediately prior to departure, and large pension/SERP payouts.
A majority of issuer respondents, on the other hand, do not consider any of these actions to be problematic with the exception of cash severance exceeding three times base salary and target bonus and a new severance agreement entered immediately prior to departure.
Canada
Guaranteed pay elicits mixed views among investors with respect to voting against the management say-on-pay proposal. Investor respondent views were split with 51 percent indicating that any form of guaranteed pay set out in employment agreements should not trigger a vote against a voluntarily adopted advisory vote on executive compensation, while 49 percent indicated that it should trigger a vote against the proposal.
Factors that received a majority response as warranting a vote against the proposal include an unreasonable payout range for incentive compensation (i.e., where the range does not start at zero for no achievement to an upper payout potential of 400-500 percent generally of base salary), lack of any performance based long-term incentive compensation, interest-free or forgivable loans to executives to exercise options or purchase shares, and a single trigger change in control provision in an employment agreement.
Europe
Investors and issuers generally support deferred bonus shares. Many European banks have been required to adjust their compensation practices in light of a new EU-level directive on remuneration at financial institutions. The most significant resulting trend has been a movement away from the traditional short-term/long-term variable pay mix and toward a deferred bonus model, in which all variable pay is measured based on performance in a single year and then deferred for a multi-year period. Oftentimes, the deferred pay is converted into share units and settled in shares.
A significant majority of both investor and issuer respondents, 69 percent and 78 percent, respectively, indicated that they would either generally support time-vesting deferred bonus shares or support them as long as clawback features are present. Most investors (49 percent) indicated that they would generally support these types of bonus shares as long as clawback features are present. By comparison, most issuers (50 percent) would generally support them outright.
Much discussion here at our Conferences about the role of proxy solicitors during the say-on-pay process. Here are the survey results on the use of proxy solicitors that I recently blogged on TheCorporateCounsel.net. Some interesting stats related to say-on-pay…
Last week, ISS posted the results from its policy survey – 370 responses were received. Not surprising, executive compensation is the top area of focus across the globe. A summary of ISS’s summary is in this Davis Polk blog. As noted during our Conferences, we should expect draft policies on Monday from ISS, available for comment…
Here is the video archive from yesterday’s “The Say-on-Pay Workshop: 9th Annual Executive Compensation Conference.”
Today is the “Say-on-Pay Workshop: 9th Annual Executive Compensation Conference”; yesterday was the “7th Annual Proxy Disclosure Conference” – and the video archive of that Conference is already posted. Note you can still register to watch online by using your credit card and getting an ID/pw kicked out automatically to you without having to interface with our staff. Both Conferences are paired together; two Conferences for the price of one.
– How to Attend by Video Webcast: If you are registered to attend online, just go to the home page of TheCorporateCounsel.net or CompensationStandards.com to watch it live or by archive (note that it will take about a day to post the video archives after it’s shown live). A prominent link called “Enter the Conference Here” on the home pages of those sites will take you directly to today’s Conference (and on the top of that Conference page, you will select a link matching the video player on your computer: Windows Media or Adobe Flash Player).
Remember to use the ID and password that you received for the Conferences (which may not be your normal ID/password for TheCorporateCounsel.net or CompensationStandards.com). If you are experiencing technical problems, follow these webcast troubleshooting tips. Here is today’s Conference Agenda; times are Central.
– How to Earn CLE Online: Please read these FAQs about Earning CLE carefully to see if that is possible for you to earn CLE for watching online – and if so, how to accomplish that. Remember you will first need to input your bar number(s) and that you will need to click on the periodic “prompts” all throughout each Conference to earn credit. Both Conferences will be available for CLE credit in all states except for a few – but hours for each state vary; see the CLE list for each Conference in the FAQs.
Today is the “Tackling Your 2013 Compensation Disclosures: 7th Annual Proxy Disclosure Conference”; tomorrow is the “Say-on-Pay Workshop: 9th Annual Executive Compensation Conference.” Note you can still register to watch online by using your credit card and getting an ID/pw kicked out automatically to you without having to interface with our staff. Both Conferences are paired together; two Conferences for the price of one.
– How to Attend by Video Webcast: If you are registered to attend online, just go to the home page of TheCorporateCounsel.net or CompensationStandards.com to watch it live or by archive (note that it will take about a day to post the video archives after it’s shown live). A prominent link called “Enter the Conference Here” on the home pages of those sites will take you directly to today’s Conference (and on the top of that Conference page, you will select a link matching the video player on your computer: Windows Media or Adobe Flash Player).
Remember to use the ID and password that you received for the Conferences (which may not be your normal ID/password for TheCorporateCounsel.net or CompensationStandards.com). If you are experiencing technical problems, follow these webcast troubleshooting tips. Here is today’s Conference Agenda; times are Central.
– How to Earn CLE Online: Please read these FAQs about Earning CLE carefully to see if that is possible for you to earn CLE for watching online – and if so, how to accomplish that. Remember you will first need to input your bar number(s) and that you will need to click on the periodic “prompts” all throughout each Conference to earn credit. Both Conferences will be available for CLE credit in all states except for a few – but hours for each state vary; see the CLE list for each Conference in the FAQs.