Pay decisions are complicated and rest on many factors. Sometimes boards need to depart from “best practices” to compete for talent or reward work on key initiatives, even if it could trigger “against” recommendations and votes under the standard policies of proxy advisors & investors. That might be fine to do for a year or two, but a longer-term pattern eats into director support – and advisors should make sure that boards are aware of that.
According to a recent Semler Brossy memo, a drop in support can come as soon as the next year. An Agenda report based on data from Farient Advisors shows that controversial decisions over a 3-year period can be even more problematic. Here are more details:
– Over the past five years, average Director election vote support at companies that received a Say on Pay vote below 50% in the prior year is six percentage points lower than at companies that received above 70% support.
– Average director support in the year after a 50-70% say-on-pay outcome was about 2% lower than at companies that received above 70% support.
– Where the say-on-pay resolution received less than 85% support for at least 3 years in a row, the companies were 7x more likely to have 3 or more directors receive below 90% support.
This comes at a time when say-on-pay support is declining for large companies – and this latest Semler Brossy SOP update flags a notable spike in S&P 500 failures this year, up to 4.5%. It’s not clear yet whether support will rise as companies catch up to the enhanced investor expectations that are driving this trend – or whether this trend will continue and possibly even shift to companies outside of the S&P 500. None of this changes the fact that directors need to do what they believe is best for the company – but it does up the ante for balancing interests and engaging with different stakeholders. Especially since low say-on-pay results can draw activist attention.
In a separate memo, Farient suggests these action steps:
– Recognizing that the demands of hot talent markets and the quest for good governance are on a collision course, compensation committees still need to consider balanced approaches, particularly to special awards. Rules of thumb include:
– Exclude CEOs from special award programs
– Require performance conditions for earning awards
– Keep awards at reasonable levels
– Be crystal clear as to the rationale for the awards
– State that such awards are intended to be a one-time or infrequent occurrence
– If the company receives a poor SOP vote, the compensation committee should consider how to cure the root causes of the vote and proactively engage with investors on planned changes
– The credo for boards and compensation committees should be “absolutely no surprises.” Investors hate surprises, including one-time mega grants, retention grants, excessive pay, and poor pay-for-performance outcomes. While not all actions can be telegraphed in advance, companies should proactively engage with investors and disclose key changes whenever possible (e.g., discuss anticipated changes with investors before final decisions are made, disclose forward-looking strategies and changes, rather than simply historical ones)
As reported by ESG Today, Hewlett Packard Enterprises is joining a growing group of companies in linking executive pay to climate initiatives. HPE’s sustainability report notes:
Achieving our net-zero commitment will require a complete business transformation for which every leader at HPE will be responsible. In 2022, we will launch a mandatory climate learning program to empower and enable all our executives to contribute toward our climate goals. In addition, as of 2022, climate metrics are linked directly to the compensation of our executive committee.
The accompanying press release says that the climate metrics are part of variable pay and will releate to management of carbon emissions across the value chain.
HPE had already incorporated DEI metrics into executive pay. We’ve blogged that DEI metrics are more common (but still tricky) – and highlighted considerations in implementing climate-related metrics. The new HPE climate metrics appear to tie in to the company’s commitment to reduce its global emissions footprint – including Scope 3 emissions.
The “climate incentive” train appears to be heading our way – and anyone who plans to jump aboard first needs to take foundational steps on socializing climate priorities, tracking data, and preparing for disclosure – especially where the full value chain is involved. We’ve just posted sample annotated climate disclosures for members of PracticalESG.com – based on the proposed rules that the SEC wants to adopt this fall – which will be key to this effort. We’ll be sharing practical step-by-step guidance this October at our “1st Annual Practical ESG Conference” – as well as our “Proxy Disclosure & Executive Compensation Conferences.” You can register online, email sales@ccrcorp.com, or call 1-800-737-1271. Members can also access lots of guidance in our “Sustainability Metrics” Practice Area.
For those who are newer to executive compensation, this blog from Global Shares gives a good overview of the terminology – and the drivers behind components of executive pay. Here’s an excerpt describing types of equity awards:
– Stock Options: Stock options provide an employee with the right to purchase a certain number of shares at an initially agreed price after vesting. (i.e. meeting some requirements – service-based or performance-based or both). Suitable for many companies – early stage, high growth startups and publicly traded companies – who want to issue equity broadly or with a group of selected employees.
– Restricted Stock Units: It is a grant of shares to an employee. He/she usually receives them for free but doesn’t fully own them until a vesting period has passed. Suitable for many established companies who want to offer equity broadly or with a group of selected employees without requiring payment upfront.
– Stock Appreciation Rights: It is an award based on the company stock value (They are not stock but are tied to stock performance). Holders receive a bonus in cash or an equivalent number of shares based on how much the stock value increases over a set period of time. Suitable for many companies who want to offer employees compensation without requiring employees’ upfront payment and issuing a large number of extra shares.
The blog goes on to discuss pros & cons of equity vs. cash compensation, differences in attitudes by country/gender/age, and how publicly held vs. privately held companies differ. Check out our “LTIPs & Annual Incentives” Practice Area for more guidance on structuring equity awards.
Liz previously blogged about how the concern about using ESG incentives to improperly reward executives may not be supported by current data. Another concern investors have had is whether using ESG metrics in executive compensation programs might incentivize companies to greenwash & not actually walk the walk. Here’s a study by Pawliczek, Carter and Zhong with some good news – the paper suggests that say-on-pay voting laws enable investors to demand better ESG performance, and positively impacts companies’ environmental policies. Below is an excerpt of the paper’s abstract:
Investors are increasingly demonstrating a preference for superior ESG performance among their portfolio firms. Concurrently, the use of ESG-related contracting metrics in executive compensation contracts has increased. We investigate these two related issues in the context of the adoption of Say-on-Pay (SOP) voting laws, which provide investors a direct voice about compensation and an additional avenue to express their preferences. Exploiting the staggered adoption of SOP laws around the world, we find that the use of ESG metrics in compensation contracts and ESG performance increase after SOP adoption. Notably, the improvements in ESG performance are concentrated in countries with greater increases in ESG contracting, suggesting that ESG contracting serves as a pathway to facilitate improvement in ESG performance. Additionally, improvements are concentrated among firms with sophisticated owners, in stakeholder countries, and those with CSR committees. Lastly, we show that the improvement in ESG performance contributes to the positive effect of SOP laws on shareholder value.
Investors want more transparency and accountability with ESG metrics & disclosures – and compensation committees increasingly need to consider whether and which ESG incentives are appropriate for their executive incentive programs. The spotlight on ESG metrics isn’t going away, and we’ll be covering this hot topic at our virtual “Proxy Disclosure & Executive Compensation Conferences.” Check out the agendas – 18 sessions over 3 days. Join us for expert insights October 12-14th! And tack on our “1st Annual Practical ESG Conference” for even more valuable information about ESG programs, risks & opportunities that could affect ESG metrics. The Conferences can be bundled together for a discounted rate. Sign up online, email sales@ccrcorp.com, or call 1-800-737-1271.
Over on the Proxy Season blog, Liz previously talked about all the nuggets from Georgeson’s annual proxy season review (which is available for download here). Here are some compensation-related highlights:
– Say-on-pay vote results for 2022 season YTD are witnessing a marginal decline in the average support for Russell 3000 companies, with approximately 90.2% of votes cast in favor (excluding abstentions), compared to 91% support in 2021. As we have been seeing in recent years, S&P 500 companies have garnered slightly lower support, with approximately 87.8% of votes cast in favor YTD, also down slightly from 2021 when they received 88.5% favorable support.
– 35 Russell 3000 companies have failed to receive majority support for their say-on-pay proposals so far in the 2022 season, with 27 failed votes occurring since January 1, 2022. Nearly one-third of these companies are in the S&P 500 index, with 12 failed votes in 2022 YTD and 9 since January 1, 2022…The sizable retention grant to the CEO, which is entirely time-based and also vests after a relatively short period of time, seems to have contributed to significant shareholder opposition.
– In assessing pay for performance alignment in 2022, a common concern for both shareholders and ISS seems to relate to goal rigor of incentive programs, as some companies have lowered targets following challenging business conditions due to the ongoing pandemic.
We’ve been tracking Say-on-Pay results closely for the past few months – and you can always look back to our “Say-on-Pay” Practice Area to re-experience the action. One other point of note from Georgeson’s report: there have been a number of new shareholder proposals (13 so far this year) “leveraging companies’ CEO pay ratio information” – these proposals are requesting that companies take workforce compensation into account when setting CEO pay. Of the three voted on prior to the report, support ranged from ~8-11%.
While these aren’t eye-popping support numbers, Liz previously flagged that universal proxy rules are going to be upon us soon – and the high pay ratio is itself a vulnerability for compensation committee members. We’ll be diving into the latest insights & best practices from top compensation consultants during our “19th Annual Executive Compensation Conference” – happening virtually on October 14th, with Semler Brossy’s Blair Jones, FW Cook’s Bindu Culas, Weil Gotshal’s Howard Dicker and Pay Governance’s Tara Tays. Here are the full agendas for the “Proxy Disclosure & 19th Annual Executive Compensation Conferences” – 18 action-packed sessions over the course of 3 days – October 12-14th. Register today – sign up online, by email sales@ccrcorp.com or call 1-800-737-1271.
A member recently posted this new follow-up to a 2018 question in our “Q&A Forum” (#1259):
After a demotion that triggers a Form 8-K, would any changes in the individual’s compensation or duties be reportable? For example, if a CFO is demoted to a Director of Finance on 12/1/2021, that demotion would trigger a Form 8-K and her comp would be included in the 2022 Proxy. However, if she subsequently enters into a severance agreement on 12/1/2022, would that trigger an 8-K? Even though she isn’t an executive officer, she’s a NEO in the proxy, so would that require disclosure?
Another member responded:
Our position and understanding has been that an 8-K is triggered in this situation, under the bright-line test that it applies to anyone who was an NEO. Of course, it’s only if the change is material. I would view a severance agreement as very likely material to the extent that it’s providing benefits beyond what had previously been disclosed. If the change was just to lower a person’s salary to be in line with what other non-executives are earning, that may not be material.
Remember that our forum is a great place for folks new to executive pay disclosure & governance – as well as senior folks who need a “gut check.” It’s a great place to exchange ideas. Anyone who’s a member can post new threads or respond to other members’ topics – either with attribution or anonymously.
Broc blogged in 2018 about predictions that Elon Musk’s $56 billion incentive compensation package would revolutionize CEO pay at other companies. The pay consisted of a mega-grant of stock options that vested if ambitious performance targets – including market cap growth – were achieved. Despite the litigation that followed, the award remained in place – and due to Tesla’s cult-like following and soaring stock price, most of it has now vested! The company recaps the terms beginning on page 51 of its recently filed proxy statement.
Four years in, we also may be seeing the “Elon Effect” impact pay decisions at other companies, according to this NYT article and related Equilar analysis. Here’s the data from Equilar that traces a big jump in award values back to 2018:
Massive Pay Packages are Becoming More Common. This year’s study saw 12 CEOs receive compensation valued more than $100 million in 2021, an uptick from eight CEOs from last year’s study. In fact, eight of those CEOs were awarded pay packages valued above $200 million, with two landing packages above $500 million. Prior to 2018, there had never been more than two $100 million-plus awards in a given year in the study’s history.
Over the last two years, many companies elected to award their CEOs for staying in their role and guiding their companies through the uncertainty with large stock awards. In 2021, Equilar 200 CEOs were awarded a median $14 million in stock awards — a 14.4% increase from last year’s study where the median stock award was $12.2 million in 2020.
The NYT article notes that the goals that govern recent mega-grants at other companies may not be as aggressive as the ones set by the Tesla board. But, they have been stamped with approval via say-on-pay votes. One company even granted an uncapped equity award – no doubt creating brain teasers for anyone involved with disclosure and plan documents. However, as we head into the second half of 2022, the faltering stock market may put a damper on the rising CEO pay that was the story of 2021.
The Center On Executive Compensation recently published this 16-page guide on the expanded role of the compensation committee – including human capital management, talent strategy, and DEI. The guide acknowledges that each company is unique in how it approaches the evolving compensation committee. Yet, prevailing practices and innovative approaches from leading companies could give other companies ideas about how to move forward.
Here are a few of the forward-looking “best practices” gleaned from the 24 interviews that informed the guide. These relate to “talent management & succession planning below the C-suite” – which is one of the most common “new” responsibilities for committees, along with DEI, culture, pay equity, safety & well-being and retention:
– One company developed a two-page talent scorecard for the Committee. One page was devoted to the entire company’s workforce while the other focused on top talent; both showed statistics around hiring, retention, promotions and diversity.
– Consider the use of “HR Dashboard” including items such as and inclusion progress against goals, results of pulse surveys on engagement, success in hiring with key populations, wellness scores and employee hotline statistics.
– The Committee should consider the changing requirements of critical roles and how that changes their view of the talent pipeline. What will the workforce look like 5-7 years from now? Does the company have the development plans to meet the needs?
The guide also includes 4 sample committee calendars and a sampling of expanded committee names – e.g., Accenture’s “Compensation, Culture and People Committee.” For more analysis, benchmarking and instructions on the comp committee’s growing responsibilities, visit our “Compensation Committees” Practice Area. If you’re a member of TheCorporateCounsel.net, we have also posted a multitude of benchmarking surveys about governance practices in our “Corporate Governance Surveys” Practice Area on that site.
We’ll be diving into the latest steps that compensation committees need to take at our “19th Annual Executive Compensation Conference” – happening virtually on October 14th. Semler Brossy’s Blair Jones, Davis Polk’s Kyoko Takahashi Lin, American Water’s Jeffrey Taylor and Pay Governance’s Tara Tays will be sharing practical insights on “The Evolving Compensation Committee” that you don’t want to miss. Here are the full agendas for the “Proxy Disclosure & 19th Annual Executive Compensation Conferences” – 18 action-packed sessions over the course of 3 days – October 12-14th. Register today – sign up online, by email sales@ccrcorp.com or call 1-800-737-1271.
It has been a difficult hiring market for employers over the past several months, and this is equally true for executive talent. Meridian notes that traditional retention approaches are obsolete, and lists several tasks that may help your company get ahead of the curve on retaining and recruiting executive talent today – below are some of the highlights:
– Structure effective packages for new hires and promotions. Our experience suggests that companies often overpay outside hires to attract the candidate, and underpay internal promotions because the increases are large enough that it is not necessary to come all the way up to the market median. It also is common to focus on the individual packages rather than on broader internal pay relationships and equitability. All of this needs to be avoided.
– Leverage long-term incentives to increase real pay delivery for outperformance. A strong business strategy that provides opportunity for compelling real, earned pay from equity is one of today’s keys to attracting and retaining talent. This is apparent from the growing prevalence of executives leaving secure, long-term employers for startups and IPOs. They see the potential upside leverage as more than offsetting the potential downside risk.
Companies need to review the structure of their long-term incentives in response, especially where there is heavy reliance on restricted stock and performance shares designed to regularly payout in the target range. Such reviews should recognize that there are two ways to enhance potential pay delivery for high performance without increasing the grant value. The first is structuring performance shares with higher maximum payout opportunities than the standard 200% of target shares, with steeper performance curves for outperforming and underperforming against financial (i.e., non-market-based) metrics. The second is setting high-risk goals for relative and/or absolute total shareholder return (i.e., market-based) metrics. This shifts the GAAP valuation of shares/units being granted from face value to Monte Carlo value. Under the Monte Model, the higher the performance risk, the lower the grant value per share and the more shares that can be granted and subsequently earned at a multiple for above-target performance.
– Refine peer groups. Where executive talent-market competition extends to growth companies and successful recent IPOs, these companies should be in the peer groups, if not to directly benchmark executive pay levels, then at least to know their pay practices. For example, it is common sense that established financial services companies should be looking at fintech, and Big Pharma should be looking at drug discovery companies. The fact that there may be exceptions to the standard revenue-size and market- cap thresholds in peer-group selection criteria should not be the determining factor.
I previously blogged about how it may generally be easier to implement diversity, equity & inclusion metrics compared to climate metrics. This Semler Brossy article points out that while nearly 30% of the S&P 500 companies used a DE&I metric in their executive incentive plans last year, these metrics shouldn’t be seen as a quick fix to a hard problem. Excerpted below are some of the common pitfalls companies need to be cognizant of with DE&I metrics:
– Boards may be tempted to focus on the diversity aspect of DE&I, which is the easiest to measure. However, the “E” and “I” are just as critical. Representation of women and minorities may increase, but without a culture of inclusion, companies risk tokenizing groups or gamifying quotas.
– Incentives have limited real estate. Beyond DE&I, other strategic priorities can get crowded out of incentive design if not considered holistically. Rank ordering priorities can help. Some companies may find that other tools effectively reinforce DE&I, such as performance management systems, promotions, and terminations.
– Acquiring an organization with a less diverse population could harm progress toward DE&I goals, yet the deal might still be in the company’s strategic interest. Boards should include allowable adjustments in incentives to anticipate these challenges or design their plans to maintain the legacy business goals separately until the next performance cycle begins.
– Meanwhile, every country has a different mix of ethnicities and legacies. International boards may decide to measure gender globally but race and ethnicity only in the United States. Alternatively, the board could allow each region to set its own goals.
Ngozi previously blogged on PracticalESG.com on steps companies can take to ensure that their DE&I efforts aren’t just performative gestures. While incentives are a powerful tool, it’s just one part of the equation – it’s critical for boards to learn what companies are doing to push the needle on a more diverse and inclusive culture. If you’re a PracticalESG.com member, you can find the replay of our “Using Diversity, Equity & Inclusion Data: Goal-Setting & Reporting” workshop – our panelists talk about the tangible behaviors and practices needed to drive inclusion & what information boards should get to properly monitor DE&I progress.
If you aren’t already a member of PracticalESG.com, sign up online or by emailing sales@ccrcorp.com or calling 800-737-1271. Our “100 Day Promise” allows you to try a subscription at no risk for 100 days – within that time, you may cancel for any reason and receive a full refund!