I blogged a couple of years ago about research showing that high pay ratios might result in low say-on-pay votes. At that time, there weren’t many investor policies that were expressly naming pay ratio as a factor in the say-on-pay analysis, but the data showed that investors might be signaling indirect dissatisfaction and that employees were less productive. Trillium’s say-on-pay voting policy has been an exception. Lynn highlighted earlier this year that the asset manager goes above & beyond the ISS SRI voting recommendations that it typically follows – including by saying that funds will vote “against” pay if the CEO pay ratio exceeds 50:1, which is a policy that’s been in place since 2019.
Now, this blog from As You Sow points out that Trillium is not alone: the pandemic and wage inequality have led more investors to incorporate “fairness” concepts into the say-on-pay analysis. That means that pay ratio caps & other fairness concepts might start to affect say-on-pay votes, especially if your shareholder base includes SRI funds, pension funds, and UK, EU and/or Canadian funds. Here are a few examples from the blog:
– Aviva, a UK asset manager with $414 billion assets under management, says in its global voting policy that “… Fairness and equality need to be more prominent principles in shaping the culture of executive pay. … Boards should also show more restraint in approving significant pay-outs or increases to pay opportunity during periods of low wage inflation, cost cutting initiatives and when there has been a loss in shareholder value.” Among other problematic pay practices, Aviva expressly says that it will not support an “unjustifiable increase in the executive pay ratio relative to the median for the workforce.”
– NEI Investments, a Canadian asset manager focused on responsible investing, says in its proxy voting guidelines, “A disconnect between executive compensation and salaries at lower levels of the company may de- motivate employees, and thus undermine the strategic objective of attracting and retaining talented people. Concerns have also been raised that compensation design and high pay levels for top executives do not take into account how people are actually motivated and lead to needlessly complex pay disclosure in proxy circulars.” NEI votes against pay if the CEO pay ratio exceeds 3:1 or if the CEO or other NEO pay is more than 280x US median household income.
– Northstar Asset Management says in its proxy voting guidelines that it will “only approve executive compensation packages in which equity, stock options, bonuses, and benefits packages for all non-executive employees is equivalent to that of executive officers.”
– Castlefield Investment Partners, another UK asset manager, says in its corporate governance & guidelines that, “Where executive base salary is in excess of between 30-35 times the UK median salary and 60-65 times that of the lowest paid employee, executive pay should be deemed excessive and remuneration should be voted AGAINST. The lower multiple should be enforced where the company in question is not a living wage employer.”
– In connection with the pandemic, T. Rowe Price says in its proxy voting guidelines that, “For our 2021 proxy voting decisions, alongside our traditional assessment of pay-for-performance alignment, pay practices and absolute level of pay, we will also assess pay outcomes through the lens of fairness.”
While these pay ratio caps are not yet widespread, it’s something to watch. Long-term pay arrangements that are approved today could affect the pay ratio several years down the road – and that could be a problem for companies & directors if this trend takes off. Continued scrutiny of wage inequality as a factor in say-on-pay would mean that boards & compensation committees (and those who advise them) may need to give more weight to pay ratio as part of approving executive pay packages. You should also keep the impact of these policies in mind in connection with overseeing workforce compensation & benefits, engaging with investors, and preparing proxy disclosures.
This Bloomberg Law article reports on a recent House bill, “No Bonuses in Bankruptcy Act of 2021,” introduced by Rep. Cheri Bustos. The article notes that while bankrupt companies need court approval to award executive bonuses, there’s a loophole for pre-bankruptcy bonuses. In addition to barring executives making more than $250k a year from receiving bonuses during bankruptcy, the bill would allow the DOJ’s bankruptcy watchdog to claw back bonuses paid within 180 days prior to the bankruptcy filing.
This bill comes on the heels of a GAO report published in September, which showed that 42 companies awarded about $165 million in pre-bankruptcy retention bonuses ahead of bankruptcy filings. The GAO report also notes that nearly all stakeholders GAO interviewed viewed pre-bankruptcy bonuses as problematic (though on the flip side, others have argued that companies need to give bonuses to retain talent during the bankruptcy process).
Bottom line – whether or not in a bankruptcy context, if a company’s executives get hefty sums while employees face layoffs or steep salary cuts, that will likely get a lot of (negative) attention. Companies may want to get started on their pay ratio and compensation narratives now if there’s any chance for public backlash.
On Monday, Glass Lewis announced the publication of its 2022 Policy Guidelines. As always, the first few pages of the Guidelines summarize the policy changes for 2022. This year’s changes seem to focus largely on diversity and SPAC governance, but Glass Lewis clarified its existing policies on several compensation topics, including:
– Linking Executive Pay to Environmental & Social Criteria: We have outlined our current approach to the use of E&S metrics in the variable incentive programs for named executive officers. Glass Lewis highlights the use of E&S metrics in our analysis of the advisory vote on executive compensation. However, Glass Lewis does not maintain a policy on the inclusion of such metrics or whether these metrics should be used in either a company’s short- or long-term incentive program. As with other types of metrics, where E&S metrics are included, as determined by the company, we expect robust disclosure on the metrics selected, the rigor of performance targets, and the determination of corresponding payout opportunities. For qualitative E&S metrics, the company should provide shareholders with a thorough understanding of how these metrics will be or were assessed.
– Short- and Long-Term Incentives: Our guidance related to Glass Lewis’ analysis of the short-term incentive awards has been clarified to note that Glass Lewis will consider adjustments to GAAP financial results in its assessment of the incentive’s effectiveness at tying executive pay to performance. As with the short-term incentive awards, our analysis of long-term incentive grants also considers the basis for any adjustments to metrics or results. Thus, clear disclosure from companies is equally important for long-term incentive awards.
– Grants of Front-Loaded Awards: We have clarified our guidance related to Glass Lewis’ analysis of so-called front-loaded incentive awards. Specifically, while we continue to examine the quantum of award on an annualized basis for the full vesting period of the awards, Glass Lewis also considers the impact of the overall size of awards on dilution of shareholder wealth.
We’re posting memos in our “Proxy Advisors” Practice Area to get you up to speed on what you need to know for the 2022 proxy season.
Here’s BDO’s latest study examining CEO & CFO compensation plans and pay levels of 600 middle-market public companies. Data was collected from proxy statements filed between April 2020 and March 2021 – right in the thick of the pandemic. The study found that total CEO and CFO pay levels for middle market companies rose 12.1% and 10.1%, respectively – these year-over-year increases consisted of salary increases, annual incentives and long-term incentives. Other findings include:
– Further breaking down the year-over-year change, CEO salaries increased by 1.5%, total cash compensation increased by 10.5% and long term incentives by 9.4%. CFO salaries increased by 4%, total cash compensation increased by 8.1% and long term incentives by 8.8%.
– Pay levels for CFOs are approximately 43% of CEO pay for the sampled companies.
– Full-value shares dominate long-term incentives; stock options were only a small fraction of the long-term incentive mix.
– Variable compensation for both CEOs and CFOs increased in tandem with company size.
For all of us securities lawyers who didn’t major in accounting, FW Cook published a 13-page primer covering the most pertinent provisions of accounting for stock compensation under FASB ASC Topic 718. Below are some of the topics covered – junior attorneys in particular might benefit from reading up on the 718 “basics” before proxy season:
– Scope of ASC 718
– Compensation cost for equity and liability awards
– Accounting treatment in clawback provisions and non-compete agreements
– Accounting treatment for modifications to service and performance vesting conditions
Yesterday, ISS announced that for companies with annual meetings between February 1st and September 15th of next year, its peer group review & submission window will open this upcoming Monday, November 15th – and will close at 8pm ET on Friday, December 3rd. ISS opens this window twice per year for companies to provide input (but note that the company-submitted peers are just one factor in the ISS determination process). Here’s more detail:
Companies that have made no changes to their previous proxy-disclosed executive compensation benchmarking peers, or companies that do not wish to provide this information in advance, are under no obligation to participate. For companies that do not submit any information, the proxy-disclosed peers from the company’s last proxy filing will automatically be factored into ISS’ peer group construction process.
Additional information on the ISS peer submission process, including links to ISS’ current recent peer selection methodology for the U.S., Canada, and Europe is available on the ISS website.
Participation in this window has been more relevant the last couple of years, because the changing business environment means that industry & market competitors – and overall competition for talent – is shifting. This Longnecker blog explains why creating & maintaining an appropriate peer group is an important exercise with both proxy disclosure and human capital implications, and walks through 5 factors to consider.
Insurance companies are facing a new accounting standard for “long-duration contracts” that will go into effect for fiscal years beginning after December 15th of next year. That may seem far off, but if you’re in that industry, you need to start preparing now for how it’ll affect your existing & future incentive awards. This Willis Towers Watson memo explains:
Among other changes, LDTI requires that assumptions used for calculating accounting values be updated annually (or more frequently) for all products, whereas current generally accepted accounting principles (GAAP) standards use “locked-in” assumptions throughout the life of a policy for many types of products. This change could drive increased volatility and complexity in financial measures commonly used in incentive plans (including income-based and return measures). Of particular importance for incentive planning, financial reporting for fiscal year 2023 and beyond will not be directly comparable to pre-2023 reporting, and any financial goals set prior to 2023 might not be relevant.
In the near term, companies might want to consider possible approaches to 2022 long-term incentive plan (LTIP) awards that address the challenges caused by the accounting changes. In-progress LTIP grants with performance periods carrying into fiscal year 2023 will also need to be cared for. More generally, companies will want to revalidate whether current incentive designs remain appropriate and whether measures, performance periods, goal setting, and use of adjustments or discretion need to be reconsidered.
The memo goes on to outline steps to take beginning this quarter, as well as in the medium- and longer-term timeframes. It recommends partnering closely with finance & HR and keeping executives & directors informed of the rule & potential incentive approaches before submitting changes for approval. As always, you’ll also want to have a robust change management & communications strategy so that people understand what’s happening and aren’t caught by surprise.
The annual “Corporate Governance & Executive Compensation Survey” of the 100 largest companies from Shearman & Sterling is out! Last year, I blogged about perquisites – and airplane use is covered again on pg. 64 of this year’s survey. In light of the SEC reopening the comment period on its “clawbacks” proposal, I was particularly interested in the benchmarking on existing clawback policies that begins on pg. 59. The survey says that 95 of the top 100 companies disclose that they have a financial-related clawback policy, and that clawback triggers include:
– Financial restatement (77) – and within that, 45 companies require fraud or misconduct related to the financial restatement and 32 do not
– Fraud or misconduct relating to financial statements (11) – these companies don’t require a restatement to trigger a clawback, but do require fraud or misconduct
– Materially inaccurate financials (8) – again, no restatement required
– Employee subject to the recoupment engaged in fraud or misconduct (52)
The survey also says that 14 of the companies expressly say that the clawback policy applies to former employees or executives, as well as current. Most companies (55) apply the policy to all executives, while a handful limit it to NEOs or Section 16 officers only. 23 companies apply the policy to all employees (or all participants in the plans subject to the policy). And, 79 out of the top 100 companies apply the policy to both cash & equity awards.
When it comes to non-financial related clawbacks, 79 companies maintain a “detrimental conduct” policy. Here are the most common triggers for that:
– General fraud or misconduct (45)
– Violation of restrictive covenants (non-competes, confidentiality, etc.) (24)
– Acts resulting in reputational, financial or other harm to the company (20)
– Violation of company policy (e.g., code of conduct) (19)
– Termination for “cause” or misconduct (16)
– Violation of law (e.g., embezzlement, theft & bribery) (14)
Late last week, ISS released 33 pages of proposed benchmark policy changes. Companies, investors and others can submit comments on the proposals until 5pm ET next Tuesday, November 16th, by emailing policy@issgovernance.com. ISS expects to release the final changes to its voting policies within the next month – and those will generally apply to meetings held on or after February 1st.
Dave Lynn blogged this morning about the other voting policy changes that are most likely to affect US companies if they come into effect. Those cover the topics of:
– Board gender diversity at smaller companies
– Unequal voting rights (including multi-class share structures)
– Board accountability for greenhouse gas emissions
– Say-on-climate proposals
Even though the policy survey results that ISS posted last month indicated some interest in ESG metrics in executive pay and a longer-term perspective on the pay-for-performance screen, ISS didn’t highlight any proposed changes to executive pay policies for US companies in these draft policies. That doesn’t mean that ISS won’t change any of its pay policies – just that it isn’t seeking comments on those topics as part of this “proposed policy” stage. In addition, ISS is proposing a few pay-related changes for other countries that are worth watching:
2. Continental Europe – proposing a policy that would take into account whether there is clear disclosure about limits to deviations from stated pay programs
3. Continental Europe, UK & Ireland – proposing to add language to clarify that the relevance and stringency of non-financial ESG metrics in compensation plans will be assessed similarly to financial metrics
Liz recently blogged about the SEC reopening the clawback policy comment period (on Day 3 of our recent conferences no less!) — as a reminder, the 2015 SEC clawback proposal would direct the stock exchanges to require listed companies to implement clawback policies. This Keith Bishop blog raises an interesting issue: can these stock exchange listing rules preempt state and employment labor laws? He notes in his original post that:
California law, for example, may prohibit incentive compensation pursuant to Section 221 of the Labor Code (“It shall be unlawful for any employer to collect or receive from an employee any part of wages theretofore paid by said employer to said employee.”).
We’ll need to see how this plays out in the courts. In the meantime, as companies review their clawback policies in anticipation of the new SEC rules, they should look to see whether there are any state law recoupment limitations that might make their policies moot. Given all of the different obstacles a company faces in defining and enforcing clawback policies, we may slowly see a rise in adoption of pay deferral policies.
Liz Gartland at Fenwick touched upon wage and hour law limitations and other clawback policy drafting tips during our Executive Compensation Conference too, and you can still access all of her great clawback policy talking points by accessing the video archive & transcript of that session. Register now for access if you missed the Conference – here’s an agenda of all the sessions you can learn from.