We’re done! Just in time for mandatory say-on-pay, Dave Lynn and Mark Borges have finished updating the Lynn, Borges & Romanek’s “2011 Executive Compensation Disclosure Treatise & Reporting Guide.” This means that:
2. Hard copy – For those that want a hard copy of this massive 2011 Treatise, note that it is not part of CompensationStandards.com – so it must be purchased separately. However, CompensationStandards.com members can obtain a 40% discount by trying a no-risk trial to the hard copy now. This will ensure delivery of this 1000-plus page comprehensive tome as soon as it’s done being printed after Thanksgiving.
If you need assistance, call our headquarters at (925) 685-5111 or email info@compensationstandards.com.
Although the concept of shareholder advisory votes on executive compensation has been discussed and debated for years, it’s only been since the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act in July that most companies have given much thought to what say on pay might look like in practice for them. Now that companies and investors have had several months to digest Dodd-Frank’s provisions and the SEC has now proposed rules to guide companies in conducting their shareholder votes, some preliminary points of view – and even a few areas of agreement – are beginning to emerge on how companies can best implement say on pay.
One thing that’s clear is that say on pay and the other Dodd-Frank governance and executive compensation reforms have been the hot topics of late on the conference circuit. This article summarizes what we have heard in recent sessions around the country.
Voting Frequency
One of the main topics of discussion is the appropriate frequency of say-on-pay votes. Under Dodd-Frank, companies must conduct a say-on-pay vote at least once every three years and must allow shareholders to vote on their desired frequency at least every six years. Neither vote is in any way binding. For the 2011 proxy season, companies will need to conduct both say-on-pay and say-on-frequency votes.
Based on their comments at recent conferences, many proxy advisors and institutional investors appear to consider annual votes as their “default” preference. At least one large investment firm is already writing letters to the companies in its portfolio requesting annual votes, and some investors expect companies are likely to receive formal shareholder proposals seeking annual votes.
While investors acknowledge that there may be situations in which less frequent votes are appropriate (e.g., compensation programs with sufficient long-term orientation, true performance goals and little or no board discretion), the onus will clearly be on companies to make a strong case for any frequency other than annual votes. Articulating a sound rationale in the proxy statement will be critical in these cases. What’s more, many observers note that there will be an added possibility of negative votes for board members in years in which no say-on-pay vote is held. In other words, the view is that annual votes may even “protect” compensation committees.
Defining Success
Another hot topic is how success or failure will be defined in a say-on-pay world. For most companies, a majority of shareholders casting negative votes on executive compensation would be viewed as an embarrassment, even though the vote is advisory. But what about something less than a clear majority “no” vote? It’s worth noting that more than 80% of the U.S. companies that have conducted say-on-pay votes thus far have received support from 80% or more of their shareholders casting ballots, although negative votes have occurred in a few cases.
While the stated views on this issue varied somewhat, there are emerging opinions that negative vote levels above 15% should be viewed as a signal that shareholder concerns need to be examined or addressed, depending on the circumstances. The trend from one vote to the next will also be an important barometer of shareholders’ views. For example, a company that goes from 95% favorable in one say-on-pay vote to 80% the following year may have more to worry about than a company that consistently receives 75% shareholder support for its pay programs.
Shareholder Engagement
There’s also been much discussion of whether and how companies should engage their shareholders in a dialogue about executive pay. The prevailing view on this score is that shareholder engagement efforts need to be situational, rather than an across-the-board activity undertaken by all companies just for the sake of it.
For example, institutional investors note that shareholder engagement might justifiably be less of a priority for companies with sound pay practices and little or no history of shareholder concerns about pay matters. Investor groups also have expressed the view that they don’t want to be cast as “pay czars” and have no interest in setting pay levels. But, in cases where shareholders do have significant concerns about pay, companies are advised to establish effective and ongoing channels of communication to help them understand and address investors’ concerns.
Varying Approaches
Similarly, it’s clear that many investors will take a situational approach in preparing for and casting say-on-pay votes. Some investor groups and proxy advisors say they’re planning to focus primarily on the “outliers” (i.e., companies that push the envelope in terms of questionable pay practices). Priorities also vary in terms of what investors will scrutinize most closely. Examples mentioned in recent forums include:
– Pay practices and programs, which may be reviewed from the perspective of “do they make sense”
– A combination of committee process, pay practices, pay for performance and CEO pay
Other investors say no one thing will be most important and that they’ll be looking to understand the big picture. Moreover, it seems clear that the largest institutional investors will follow their own counsel and may rely less on the recommendations of proxy advisors in making their vote decisions. This does not necessarily diminish the influence of leading proxy advisors if smaller institutional investors find themselves relying on their vote recommendations when faced with the task of reviewing many more say-on-pay proposals.
One point of agreement regarding say on pay is that the quality and clarity of companies’ proxy disclosures on executive compensation should improve next year for some companies dramatically. Many investors feel that improvements in the Compensation Discussion and Analysis (CD&A) should be the starting point for companies in preparing for say on pay. Desired CD&A enhancements include executive summaries (e.g., to highlight changes and provide context) and more graphics, especially to help shareholders see the link between executive pay and company performance. Overall, investors want more clarity and insight, and less legalese and boilerplate language.
A Big Deal?
Given the widespread expectation that most companies will enjoy high levels of shareholder support in their say-on-pay votes and that say on pay will have minimal impact on pay at the vast majority of companies, one frequently debated issue has been whether say on pay will be a big deal or a big bust. The consensus is that say on pay will not be a big deal for many companies, despite the general perception that it will be a “game changer” for executive pay overall.
Ultimately however, perceptions of say on pay vary widely depending on which side of the fence one sits on. While shareholder groups may see it as a welcome addition to the corporate governance landscape, others tend to view the votes as a distraction that will provide little insight into the compensation issues shareholders care about and will have no significant impact on executive pay levels.
I’ve developed an executive pay model that might be useful to directors and human resource professionals. I’ve used the 18 years of history in the Execucomp database to develop a model of future three year shareholder return as a function of four key pay variables (pay level, pay leverage, pay equity and stock ownership) and a set of company variables. The model can be used to quantify the excess return attributable to the four key pay variables and to make value enhancing trade-offs between the four factors. 55% of the company-years have a positive predicted excess return and 45% of the company-years have a predicted three year excess return of at least 3% (positive or negative). The formula for the predicted excess return is shown on p. 18 of this presentation.
I’ve also proposed to the SEC a “pay-versus-performance” analysis that you might find interesting. The analysis uses data on relative pay and relative performance to calculate three quantitative measures investors can use to assess a company’s pay program: a measure of incentive strength (pay leverage), a measure of incentive efficiency (the correlation of relative pay and relative performance) and a measure of compensation cost (relative pay at industry average performance). My comment letter shows the analysis for Wal-Mart, Pfizer and Bank of America to demonstrate that the analysis can be done with publicly available data.
This recent study entitled “CEO Pay and Shareholder Activism” by Prof. Fabrizio Fabri, Yonca Ertimur and Volkan Muslu allegedly refutes fears expressed by say-on-pay critics by showing that “just vote no” campaigns and voluntary say-on-pay votes did not lead to radical changes pushed by special interest groups. It’s worth a read.
Recently, we released the 2010 CEO Benefits and Perquisites Report. The report finds that in 2009, over one third of the Fortune 100 eliminated one or more perquisites from their overall compensation programs. In fact, the median value of “all other compensation” paid to Fortune 100 chiefs reached a five-year low of $249,632 in 2009. By comparison, in 2008 the median value was $348,101. Additionally, the median value of perquisites related to corporate aircrafts – historically one of the more controversial perquisites – fell by 18.3 percent, from $141,477 in 2008 to $115,588 in 2009.
The Report features an in-depth look at the following perquisites, among others, paid to America’s top chiefs:
– Financial Planning and Other Professional Services;
– Flexible Perquisite Accounts;
– Personal Home Security;
– Personal Use of Corporate Aircrafts; and
– Tax Reimbursements
If you would like to request the full report, please e-mail info@equilar.com or visit our website.
Tune in tomorrow for our webcast – “Gearing Up for Say-on-Pay: What Clients Are Asking Now” – featuring Towers Watson’s Eric Larre; Semler Brossy’s Blair Jones, Pay Governance’s Ira Kay, Deloitte Consulting’s Mike Kesner and Verizon’s Mary Lou Weber as they provide guidance about how you can put your best foot forward with shareholders to help gain their approval on the ballot. This is the first of a trio of say-on-pay webcasts on CompensationStandards.com – renew now for 2011 as all memberships expire at year end.
A few days ago, I blogged about ISS’s draft policy updates on this topic – and a podcast from Dave Bobker of Phoenix Advisory Partners. Phoenix Advisory Partners has now issued this alert with some useful guidance on this pressing topic.
– Rosanna Landis Weaver and Joann Chya, ISS’s Compensation Research Team
The reverberations of the recent financial crisis continued to ripple through U.S. corporate boardrooms this year, and executive compensation was often the epicenter of challenges and changes. Directors, only too aware of the criticisms they faced on compensation, appeared eager to announce reforms, no matter how small.
Facing increasing pressure from investors and others, some companies took steps to curtail or eliminate certain elements of non-performance-related pay. ISS is aware of at least 228 companies that have revised or eliminated problematic components of their compensation packages within the past year, for example.
The most common changes, by far, continue to be related to change-in-control practices, and more specifically to excise tax gross-ups. Excise taxes are only due upon a change of control, and then only when an executive’s payout exceeds a defined threshold. The original intention of Congress, when it defined an “excess” parachute was to limit the size of such packages by creating tax disadvantages for both the company and the individual in such cases. One unintended consequence of that legislation, though, was a move by many companies to insulate the executive from his or her potential adverse tax consequences. That trend has been changing.
At this time last year, ISS was aware of 60 companies that had made such a change. That total figure is now well over 200. Companies eliminating excise tax gross-ups, in either current or future agreements, cite evolving best practices, feedback from shareholders, the advice of consultants, and a report from the Conference Board as well as the changing policy of proxy advisory organizations. Or, as KBR stated in its proxy statement: “In light of current financial crisis, excise tax gross-ups may no longer be an appropriate component of executive compensation packages.”
Initially, many companies adopted a policy that related only to future agreements, essentially grandfathering in existing employees, and that is still a widely used approach. Interestingly, several companies that took action in 2009 to create such policies subsequently amended existing contracts or plans so that current executives would also be covered by the policy. Lender Processing Service, for example, made a commitment in May 2009 not to enter into future arrangements with the provision, then in December 2009 entered into amended agreements with officers that, among other things, eliminated tax gross-ups. Similarly, Fidelity National Financial adopted a policy in May 2009 and then amended existing contracts in February. In addition, as time passes, it appears that the greater proportion of companies making the change include current executives–rather than “grandfathering” them–either by revising their change in control plan or policies (Western Union and Scana) or by having executives agree to amendments (Analogic Devices, Assurant, BMC Software, Charming Shoppes, Church & Dwight, Global Industries Limited, Kemet, Kindred Healthcare, and Verizon Communications.) In a limited number of cases, some executives voluntarily waived their rights to a gross-up while others did not (e.g., at Dana Holdings and Brink’s Co.).
It may be that the change is most likely to occur at companies when a current contract or plan expires (e.g., AGL Resources, Group 1 Automotive, and Virgin Media.) However, companies with contracts that include auto-renew features may have more difficulty making such changes. For example, American Medical System noted that its current employment agreements “cannot be amended in any way to adversely affect executives without executive’s consent, the committee determined not to request the consent of the executives” who had agreements but adopted instead a future-focused policy.
In the majority of cases, the companies eliminating gross-up provisions replaced them with an approach often known as “best result,” under which the executive may choose between receiving the full payment and paying any resulting 20 percent excise taxes, or having the payment reduced to an amount below what would be defined as an excess parachute payment, to avoid triggering the excise tax liabilities. In some cases, the executive makes this election, but in others, the company calculates whether reduction would or would not result in the best interests of the executive “receiving greater benefits on an after tax basis.” Since the company loses a substantial tax deduction if the excise tax is triggered, a better practice is to limit the amount paid so that it falls below the threshold. For example, Kennedy-Wilson Holdings’ employment agreements provide that “in the event that CIC benefits would trigger the excise tax under Section 4999 of the [Internal Revenue] Code, benefits are to be cut back to $1 below the tax threshold.” Other companies that have adopted similar policies include Consolidated Communications Holdings and Hawaiian Electric Industries.
Many companies addressing the gross-up feature took the opportunity to make other changes as well. ISS is aware of 27 companies that moved from single-trigger to double-trigger agreements, five that eliminated modified single triggers, and six that reduced at least some severance packages.
Other Reforms
After the reforms related to change-in-control payments, the most common area of change involved executive perquisites. Several companies eliminated all or some perks. eHealth eliminated housing allowances, airfare, and auto lease perquisites, as well as gross-ups on those perks. This week, Sysco reduced its executive relocation benefits and no longer will provide reimbursement for a loss on a house sale. Interestingly, the most commonly eliminated perk was reimbursement for financial counseling, which is not one that shareholders typically object to.
Far more common was the removal of tax gross-ups on perks: 88 companies stopped paying tax gross-ups related to all or some of the perks they offer. While excise tax gross-ups can be worth millions of dollars, gross-ups on perks tend to be for amounts under $100,000. Since the actual amount of such gross-ups is usually not a significant component of what can be a multi-million dollar pay package, directors and executives alike appear to be aware that the cost in bad publicity exceeds the benefits.
A number of companies adopted multiple changes simultaneously. ISS has tracked 53 companies that adopted two pay reforms, and 15 that adopted three or more significant changes. However, it should be noted that some of the companies that adopted multiple reforms also replaced perks with other benefits: AO Smith and PolyOne offered benefit allowances, and Eastman Chemical explicitly increased salary, for example.
What should be the frequency of our say-on-pay vote? This is a question being mulled at most companies these days. Perhaps we are starting to get an answer when ISS issued its draft policy updates last week for comment, which included this statement, an excerpt of which is below:
The MSOP is at its essence a communication vehicle, and communication is most useful when it is received in a consistent manner. ISS supports an annual MSOP for many of the same reasons it supports annual director elections rather than a classified board structure: because it provides the highest level of accountability and direct communication by enabling the MSOP vote to correspond to the information presented in the accompanying proxy statement for the annual shareholders’ meeting. Having MSOP votes only every two or three years, potentially covering all actions occurring between the votes, would make it difficult to create meaningful and coherent communication that the votes are intended to provide. Under triennial elections companies, for example, a company would not know whether the shareholder vote references the compensation year being reported or a previous year, making it more difficult to understand the implications of the vote.
Recently, I caught up with a proxy solicitor – Dave Bobker of Phoenix Advisory Partners – to get his analysis of what companies should be considering regarding the frequency of their say-on-pay vote in this podcast, in which Dave addresses:
– What frequency do you think most companies will pick? Least?
– What frequency do you see most investors asking for?
– What would you recommend?
– What factors should companies consider when picking a frequency?
Michelle Lamb recently wrote this interesting piece entitled “Still Flying on the Company Dollar, Just Shorter Flights” for “The Corporate Library Blog.” I would repeat it for you but it has charts and I can’t figure out how to embed them. I wonder how she did it…