Regulators Are Back: What to Watch in Compensation Plans

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After taking more than a decade to finalize pay-for-performance compensation rules, the U.S. Securities and Exchange Commission now expects companies to take about six months to comply with them. 

“There will be a lot of computers blowing up in the next several months,” says Todd Leone, a partner at the compensation consulting firm McLagan, an Aon company. “There’s a lot of eye-rolling that we didn’t have much time to do this.” 

Leone was speaking to a group of more than 250 human resources professionals, directors and industry leaders attending Bank Director’s Bank Compensation and Talent Conference, taking place November 8 through 9 in Dallas. The new SEC disclosure rule is one of a host coming down the pipeline for publicly traded companies. Leone says the agency introduced 26 new proposals so far in 2022, the highest it has been in five years. 

“It’s turned into quite a big to-do,” says Susan O’Donnell, a partner at Meridian Compensation Partners, who also spoke about the pay-for-performance regulation on stage. 

After years of little activity finalizing what languished in the Dodd-Frank Act of 2010, regulators under President Joe Biden have taken renewed interest in adopting rules that will impact a broad swath of mostly public companies. In 2015, the SEC first proposed rules to require companies to disclose more about the relationship between executive pay and performance. In August, the SEC adopted the rules, which go into effect for fiscal years ending on or after December 16, 2022. In other words, most public banks will be required to provide the new disclosures starting in the 2023 proxy season. Smaller reporting companies are subject to scaled disclosure requirements. 

“I think that this rule will help investors receive the consistent, comparable, and decision-useful information they need to evaluate executive compensation policies,” SEC Chair Gary Gensler said in a statement at the time. O’Donnell says companies will have to report executive compensation alongside financial performance metrics, including total shareholder return, as well as TSR of a peer group, net income and a financial performance metric chosen by the company. In all, the company will be required to report three to seven financial performance metrics. 

This could cause problems for banks that complete M&A deals, Leone says. Typically, net income falls after an acquisition because of one-time expenses. At the same time, compensation increases, sometimes to motivate the executive team to make the deal a success. He recommends banks include a description in the disclosure that describes why pay and performance may not appear to align.

“Institutional investors aren’t looking at this to tell them anything they don’t already know,” Leone says. “The one area where we’re scratching our heads is what are the plaintiffs’ lawyers going to do. You have to make sure there’s a story behind this and a narrative that you’re telling.” The first year, Leone says companies will have to disclose three fiscal years of compensation metrics, so he advises companies to get started now on 2020 and 2021 calculations. Each year, another year will be added, until companies report five years’ worth of data. 

Companies will have more time to comply with the other recently finalized disclosure rule required by the Dodd-Frank Act, this one having to do with clawing back incentive compensation that was granted in error. Leone referred to the rule as “lovely bedtime reading for those of you with insomnia,” because it encompasses more than 200 pages. 

In October, the SEC finalized the rule that had first been proposed in 2015 requiring companies to disclose their policies regarding clawing back compensation from named executives. Usually, those clawbacks occur due to restatements of earnings or misconduct. Although the rule doesn’t say that clawbacks must occur for misconduct, the rule does require companies to claw back compensation that was based on erroneous calculations, regardless of whether the executive was at fault for the error. Leone expects the rule to go into effect later in 2023. Smaller reporting companies do have to comply with this one. 

And the third disclosure rule coming down the pike for public companies is Nasdaq’s new board diversity rule. Laura Hay, lead consultant for Meridian Compensation Partners, says the exchange will require companies to have at least one diverse director starting in 2023 and two starting in 2025, or explain why they don’t have them. Diversity may include gender or underrepresented minorities, as well as LGBTQ individuals.

The exchange also requires that companies include a diversity matrix in their disclosures, which went into effect in August for the next proxy season.

Pandemic Upends Annual Meetings, Forcing Virtual Plan Bs

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The COVID-19 pandemic has thrown a wrench in a yearly tradition for publicly traded banks: the annual shareholder meeting.

The United States was struck by the coronavirus crisis in the spring and it may drag into the early summer. In addition to halting the economy and throwing bank operations into overdrive, stay-at-home orders and prohibitions on large gatherings have wreaked havoc on the tradition of the annual shareholder meeting. In response, banks are considering virtual options.

Under normal conditions, shareholders of First Bancorp in Damariscotta, Maine, would assemble at the Samoset Resort for an hourlong annual shareholder meeting followed by lobster rolls for lunch, says CFO Richard Elder. But like many states, Maine Governor Janet Mills issued executive orders in March closing nonessential businesses and implementing other social distancing practices. The $2 billion bank lost its venue at the same time as large gatherings were deemed unsafe.

John Spidi, a partner in the corporate practice group at Jones Walker, had bank clients that faced similar predicaments. One bank planned to hold their meeting at a restaurant that’s now closed, another at a hotel and a third in one of its own branches.

“We’ve had to scramble and figure out what our options were,” he says. “That became a little tricky because every state has different rules on these things.”

The U.S. Securities and Exchange Commission issued guidance permitting virtual meetings and allowing companies that had mailed out proxies to update them with a proxy amendment and a press release accessible on the website. But some states initially only permitted hybrid meetings that included an in-person component. Spidi says some of his clients weighed complying with the law against taking their chances and moving to a virtual meeting.

“That was not an approach that I was comfortable with at all,” he says. “I couldn’t recommend it. I was telling the client what the options were, and the clients were basically saying, ‘We’re going to take that risk. We’re not going to get people together.’”

Fortunately, governors have waived these in-person meeting requirements during public health emergencies, sparing his clients. And in Maine, First Bancorp discussed postponing the annual meeting, but encountered bylaw considerations. So they decided to move online.

Banks that have already distributed proxy materials calling their meetings may be in similar situations, Spidi says. Most states require an annual meeting to elect directors, which a bank could feasibly do up until the last day of the year. But most include their proxies with their annual reports from the year prior, which are typically mailed in the first quarter. An option for banks that haven’t sent out their proxy materials is to hold off on calling the meeting until after stay-at-home orders are lifted, he says.

To hold a virtual meeting, First Bancorp’s board needed to sign off on the shift and its basic procedures, though it did not need to update its bylaws. Spidi says other banks may need to call a board meeting to update their bylaws and permit a virtual meeting, and then file a notification with the SEC that the bylaws have been updated.

Elder says First Bancorp briefly considered hosting its own virtual meeting before running into issues around shareholder authentication and voting. They ultimately reached out to Broadridge Financial Solutions, which they use for transfer and proxy services, to organize the event.

Broadridge has offered virtual shareholder meetings for a decade and has seen slow but steady pickup in companies electing the approach, says Cathy Conlon, Broadridge’s head of corporate issuer strategy and product management. Unsurprisingly, demand for virtual meetings has skyrocketed this year, from 326 companies last year 1,500 this year (and counting).

Beyond pandemics, virtual or hybrid meetings make it easier for shareholders to participate, especially if disability, availability or geography is a constraint. The meetings are similar to an earnings call for executives, which shareholders can access through a web address with no required installation or downloads.

“The technology is fairly straightforward,” Conlon says. “This whole situation will allow more and more companies to feel really confident [about virtual meetings], because they’re getting used to this being a virtual world.”

First Bancorp will conduct its first, and potentially only, virtual annual meeting on April 29. Elder says executives have joked about not returning to the resort after the pandemic ends, but adds they might consider a hybrid approach in the future that marries the virtual approach with the lobster roll lunch.

“I think you’ve got to think outside of the box, be open to new ideas and be willing to implement them,” he says. “This just shows when forced to make a change, you can do it.”

Getting Ready for Proxy Season: Changes to Section 162(m)

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proxy-2-17-18.pngThe tax law signed by the president on December 22, 2017, makes a significant change to the ability of public companies to deduct compensation paid to top executives.

Section 162(m) of the Internal Revenue Code limits a public company’s ability to deduct compensation of “covered employees” in excess of $1 million each year, but the old tax law provided a broad exception for certain types of performance-based compensation. A “covered employee” had been defined as any employee who, as of the last day of the taxable year, was the chief executive officer (or individual acting in that capacity) or an employee whose compensation is required to be reported to shareholders in the proxy statement because he or she is one of the four highest compensated officers, other than the CEO. As board members and compensation committee members of public companies are aware, the nuances and exceptions to section 162(m) limits were an important consideration in setting annual and long-term compensation for executives.

Below, we briefly explain the new limitations on the deductibility of executive compensation under Section 162(m), and offer some next steps for boards and compensation committees to consider in the first quarter of 2018. Public boards and compensation committees will need to take action on this before proxy season.

Performance-Based Compensation Exception Repealed
Historically, performance-based compensation, such as stock-option income and compensation paid only on the attainment of performance goals, was excepted from the $1 million deduction limitation. The new law repeals this exception, and may change the approach of compensation committees regarding the mix of salary, bonus, performance awards and equity grants in compensation. Also, some plans that required shareholder approval due to the performance-based compensation exception will no longer require shareholder approval for deductibility.

CFOs Again Subject to Section 162(m)
The new law amends Section 162(m) to specifically include a publicly-held corporation’s principal financial officer as a “covered employee” that is subject to Section 162(m). This corrects an unintended gap that had left CFOs excluded from Section 162(m), due to changes in 2007 to the Securities and Exchange Commission’s executive compensation disclosure rules. For companies that had already included their CFO as a “covered employee,” this will not result in a change. However, for companies which had not included the CFO as a “covered employee,” this change limits the deduction for that executive.

Once Covered, Always Covered
If an executive is a “covered employee” subject to Section 162(m) in 2017 or any later year, the new law provides that he or she remains a “covered employee” for all future periods, including after termination of employment for any reason, including death. This eliminates the ability to deduct, for example, severance payments made after termination of an executive’s employment, to the extent that the severance results in compensation in excess of the limit.

Expansion of Covered Companies
Previously, Section 162(m) applied to a company issuing any class of common equity securities required to be registered under the Securities Exchange Act of 1934. The definition of a publicly held corporation subject to Section 162(m) is expanded by the new law to include any corporation “that is required to file reports under Section 15(d) of [the Securities Exchange Act of 1934]”. This change would subject private corporations with public debt that triggers Section 15(d) reporting to the $1 million deduction limitation.

Limited Grandfathering Rule
The new law grandfathers in compensation provided pursuant to a written binding contract in effect on November 2, 2017, so long as it was not modified in any material respect on or after November 2, 2017.

Next Steps
These rules are complicated and, with the grandfather rules, will require close attention by companies in advance of preparing their 2018 proxy statement. We recommend that boards and, as appropriate, compensation committees, do the following.

  • Educate the compensation committee on changes to the tax code.
  • Review all employment agreements, change in control agreements, severance plans, equity plans and cash bonus plans to determine if they qualify for grandfathering.
  • Evaluate the impact on bonus payment decisions for 2017.
  • Evaluate the non-equity bonus plan design for 2018.
  • Begin to redraft the Compensation Discussion and Analysis (CD&A) and other relevant sections of the proxy statement.
  • Determine which plans will be subject to shareholder approval going forward.

In addition to the changes that will need to be made to proxy statements to reflect the updates to Section 162(m), the SEC’s pay ratio disclosure requirements were not modified by the new tax legislation and are in effect for the upcoming proxy season as well.

Investor Pressure Points for the 2018 Proxy Season

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proxy-2-9-18.pngInvestors need to stay focused on long-term performance and strategy in 2018. So says Larry Fink, the chief executive of BlackRock, the world’s largest asset manager with $6.3 trillion in assets under management, in a recent and well-circulated letter. “Companies must be able to describe their strategy for long-term growth,” says Fink. “A central reason for the risk of activism—and wasteful proxy fights—is that companies have not been explicit enough about their long-term strategies.”

Focusing on long-term success isn’t controversial, but Fink’s letter underlines the fact that proxy advisors and investment management firms are more frequently looking at broader issues—gender diversity and equality, and other cultural and environment risks—that can serve as indicators of long-term performance.

Board composition will continue to be a growing issue. BlackRock, along with State Street Global Advisors, the asset management subsidiary of State Street Corp., both actively vote against directors where boards lack a female member. “[Institutional investors] are tired of excuses,” says Rusty O’Kelley, global leader of the board consulting and effectiveness practice at Russell Reynolds Associates. “Regional banks [in particular] need to take a very close look at board quality and composition.” Fink, in his letter, said that diverse boards are more attuned to identifying opportunities for growth, and less likely to overlook threats to the business as they’re less prone to groupthink.

The use of board matrices, which help boards examine director expertise, and disclosure within the proxy statement about the use of these matrices, are increasingly common, according to O’Kelley. The varied skill sets found on the board should link to the bank’s overall strategy, and that should be communicated to shareholders. Expertise in cybersecurity is increasingly desired, but that doesn’t necessarily mean the board should seek to add a dedicated cybersecurity expert. “Institutional investors view cybersecurity as a risk the entire board should be paying attention to,” says O’Kelley. “They want all directors to be knowledgeable.”

Some investors are pursuing gender equality outside of the boardroom. On February 5, 2018, Bank of New York Mellon Corp. disclosed the pay gap between men and women—the fourth bank to do so in less than a month, following Citigroup, Bank of America Corp. and Wells Fargo & Co. “Investors are demanding gender pay equity on Wall Street, and we have no intention of easing up,” said Natasha Lamb, managing partner at the investment firm Arjuna Capital, in a release commenting on BNY Mellon’s gender pay disclosure. These banks, along with JPMorgan Chase & Co., Mastercard and American Express, rejected Arjuna’s proposals last year to disclose the pay gap between male and female employees, along with policies and goals to address any gap in compensation.

A domino effect can occur with these types of issues. “[Activist investors will] move on to the next bank,” says Charles Elson, director of the Weinberg Center for Corporate Governance at the University of Delaware.

Shareholders are aware that cultural risks can damage an organization. This includes bad behavior by employees—Wells Fargo’s account opening scandal, for example—as well as an organization’s approach to sexual harassment and assault, an issue that has received considerable attention recently due to the “Me Too” movement. “Shareholders are very focused on whether or not boards and management teams are doing a sufficient job in trying to understand what the tone is throughout the organization, understand what the corporate culture is,” says Paul DeNicola, managing director at PwC’s Governance Insights Center. Metrics such as employee turnover or the level of internal complaints can be used to analyze the organization’s culture, and companies should have a crisis management plan and employee training program in place. Boards are more frequently engaging with employees also, adds DeNicola.

Investors are keenly aware of environmental risks following a year that witnessed a record-setting loss estimate of $306 billion due to natural disasters, according to the National Oceanic and Atmospheric Administration. Institutional investors expect boards to consider the business risk related to environmental change, says O’Kelley, particularly if the bank is at greater risk due to, for example, a high level of real estate loans in coastal areas.

Finally, investors will be looking at how organizations use the expected windfall from tax reform. “What will you do with the increased after-tax cash flow, and how will you use it to create long-term value?” said Fink in his letter. It’s an opportunity for companies to communicate with shareholders regarding how additional earnings will be distributed to shareholders and employees, and investments made to improve the business.

In an appearance on CNBC’s “Squawk Box,” Fink explained that BlackRock votes with the companies it invests in 91 percent of the time due to the engagement that occurs before the proxy statement is released. Fink’s preference is that engagement occurs throughout the year—not just during proxy season—to produce better long-term results for the company’s investors.

Engaging with shareholders—and listening to their concerns—can help companies succeed in a serious proxy battle. “If you have good relations with your investors, you’re apt to, in a contest, fair a bit better,” says Elson.

Playing Your Cards Right With Executive Compensation Disclosures

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proxy-season-11-13-15.pngAs the 2015 calendar gets shorter, are you hedging bets that your next Compensation Discussion & Analysis (CD&A) will wow shareholders and ensure a strong say-on-pay vote next year? Or are you hoping to bluff your way through the next proxy season? Between regulatory changes and a high level of public scrutiny, it’s never too early to begin focusing on your executive compensation disclosures. 

Why Communication Strategy Matters More Than Ever
Effectively communicating your compensation plan and its link to the bank’s business and leadership strategies is a growing priority among boards and management teams. As we all know, executive compensation—and the regulation surrounding it—is increasingly complex. A well-planned and artfully delivered disclosure document can improve chances of a favorable say-on-pay outcome and potentially bolster your defenses against shareholder activism. At a minimum, it can help improve overall shareholder engagement and build communication between the board, management and other stakeholders.

The Ante: Emerging Compliance Requirements
Unfortunately, the Dodd-Frank Act’s many provisions are still looming and it’s only a question of time before the final proposals on matters such as the CEO pay ratio, pay-for-performance, and clawbacks are implemented. These fast-changing rules can make it difficult to keep up from a communication perspective. How might these new mandates complicate or conflict with your compensation strategy and how can a public bank ensure they’re fully compliant, while delivering the most effective story to shareholders and employees about the executive pay programs?

Remember—balance is the key. With so many requirements coming, it will be necessary to offset the potential complication of your message with clear details on your compensation design and its alignment with the bank’s business strategy. Within the regulatory context, there’s an opportunity to discuss:

  • How executive compensation supports your business strategy and leadership talent goals;
  • How compensation is defined;
  • How performance is viewed;
  • How sound governance and risk management is practiced; and
  • What you pay your executives and why.

It’s not just public banks that face these issues. While private entities aren’t required to disclose, many feel the resulting public pressure to communicate more and can benefit from the following guidelines.

The Winning Hand: Moving Beyond Compliance to Tell Your Story
Obviously, compliance is important, but companies need to continue shifting program design focus from compliance to a compensation philosophy that supports the long-term business strategy.

Results from Pearl Meyer’s 2015 OnPoint Survey: The New Normal of Annual Compensation Disclosure, offer several points to consider as you begin the CD&A development process. Perhaps most surprising is that ”reader-friendliness” of the CD&A is just as important to compensation committees as technical accuracy. In fact, making the content easier to read/understand ranked as the number one request compensation committees make to staff regarding the CD&A. Survey results also indicate those companies who rate their CD&A as “excellent” or “very good” experience a higher percentage of yes votes for say-on-pay from shareholders than companies who don’t rate their CD&A as high.

There are three ways to ensure you “win the hand” in regards to your pay communications to shareholders:

  1. Take advantage of emerging trends for content and design.  There have been big changes over the past five years in how information about pay is presented within the CD&A. Content needs to be accurate, complete and concise while keeping in mind that shareholders are the target audience. Incorporating elements such as executive summaries and visuals that illustrate year-over-year pay levels, mix of variable versus fixed pay, and realizable/realized pay help organize the story and pull the reader through the document. The survey results show a clear pattern: companies with favorable views of their communication use these methods far more than companies who believe their CD&A is only fair or needs improvement.
  2. Leverage the experts to develop and deploy your message. Using internal corporate communications practitioners, graphic designers, and external writers can be worth the expense. Survey results show that companies who have relied on communication experts to help develop content typically have excellent or very good communication effectiveness and almost 80 percent of these companies are using at least one professional resource.
  3. Adjust your timeframe. The quality of executive compensation disclosure is more important today than ever and the quantity of information required is growing. Therefore, it it’s never too early to get started! Our survey confirmed that those who began working on their disclosures before the close of the fiscal year reported excellent or very good communication effectiveness. It’s a safe bet to follow their lead.

Taking this disciplined approach to communicating the value of your programs should pay off in the long-term and can help your board successfully move ahead with strategy-based design.

Four Topics to Add to Your Summer Compensation Committee Agenda

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7-16-14-article.pngProxy season has recently ended, and the beginning of the third quarter marks the start of a new compensation planning season. The summer meeting of a bank’s compensation committee is an ideal opportunity to reflect on the previous compensation cycle and to consider the next—often by focusing on topics like proxy season trends, pending regulatory/legislative and other emerging compensation issues. However, the summer committee meeting can also be used to focus on issues of more strategic importance to the bank. Consider adding one or more of the following topics to your summer discussions to increase your committee’s effectiveness over the upcoming year.

  1. Succession Planning
    Our experience in working with community banks is that many board members do not view succession planning as a high priority issue. They either don’t view retention of their CEO as a risk, and/or their CEO is still several years away from retirement. As a consequence, many directors cannot articulate what would occur if a CEO’s departure, death or disability left the bank suddenly leaderless.

    Considering that it takes several years to develop and cultivate a CEO successor in the best circumstances, boards should identify potential candidates to succeed the CEO long before he or she retires. High-potential executives are always in demand, and developing your bench will strengthen the team and mitigate the risks associated with unexpected and unwanted executive turnover.

    And even if long-term cultivation of candidates is less of a priority right now, an emergency CEO succession plan should be a requirement for all organizations, to mitigate the business continuity risk should tragedy strike. An emergency CEO succession plan will minimize board deliberations and discussions of interim CEO candidates in crisis situations by articulating a structured process (the timing of internal and external communications and board decisions), as well identifying one or more interim CEO candidates (who could come from the senior leadership ranks or the board).

  2. Pay-for-Performance Analysis
    The most common pay-for-performance analysis retrospectively evaluates historical financial performance and total shareholder return relative to actual compensation received by the CEO (and potentially other proxy executives), compared against the performance and pay of peer companies. Simply put: did the incentive programs deliver appropriate pay for the performance results achieved?

    Summer is an effective time to discuss these pay-for-performance results with the committee, since pay data for peers is publicly available following the end of proxy season. The results may encourage further discussions about the organization’s compensation philosophy, and especially the effectiveness of incentive plans in supporting your business strategy and results.

  3. Compensation Philosophy and Peer Group
    Wholesale changes in compensation philosophy from one year to the next are rare, but as your bank’s business strategy evolves, your compensation philosophy ideally will evolve as well. For example, as a business strategy evolves from growth to profitability (or vice versa), the corresponding compensation philosophy should consider re-weighting incentive plan metrics to more effectively support such a change in priorities.

    Peer group changes are less frequent in banking than in other industries, but your peer group may require re-evaluation if the bank has grown significantly, or changed business focus (for example, geographic footprint, or retail vs. commercial lending). Likewise, continued industry shifts (mergers, business shifts, etc.) require an annual review to ensure that peers are still a good “fit” with the bank.

  4. Committee Meeting Calendar and Agenda
    A compensation committee’s summer meeting tends to include fewer time-sensitive items than most other meetings. It is an ideal time to review your annual committee meeting calendar and standing agenda items relative to the committee charter. Work collaboratively with your executive team and outside advisors to ensure that no key issues are overlooked, and that items are spaced throughout the year to allow enough time for consideration of relevant information and thoughtful deliberation prior to key decisions.

Remember that the purpose of your executive pay programs is to support and reinforce your bank’s business strategy. Proactive planning of your meeting calendar and agenda will ensure your committee is addressing all its compliance-related requirements, while allowing sufficient time to thoughtfully consider strategic implications of compensation design decisions.

To find a full year’s Compensation Committee agenda items for community banks in our recently published document, Managing an Effective Compensation Committee Calendar for Community Banks, go here.

2011 Shareholder Voting Trends – Preparing for 2012 Say on Pay

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vote.jpgStarting with the 2011 proxy season, public companies were required to conduct a non-binding shareholder advisory vote on executive compensation practices at least every three years. Of the more than 3,000 companies disclosing their say-on-pay votes in 2011, only 40 (including one bank) failed to receive majority shareholder support.  While the percentage of failures was not high, we expect that number to increase in 2012 as investors (and advisory firms) have more time and resources to assess pay programs, and in 2013 when smaller reporting companies are required to hold their shareholder vote.

While non-binding, a failed vote can result in negative media attention, pressure on board members and shareholder lawsuits.   Of the 40 companies failing in 2011, seven already face shareholder lawsuits against executives, directors and, in some cases, their consultants.   

2011 Vote Results

While many companies initially recommended votes every three years (triennial), shareholders and advisory firms made clear their preference was for annual votes.  By the end of the 2011 proxy season, shareholders at 76 percent, 1 percent and 22 percent of companies, respectively, voted in favor of annual, biennial and triennial votes.

Many companies’ compensation packages passed when put to a shareholder vote by an overwhelming majority (68 percent passed with more than 90 percent of the vote), while 8 percent of companies received less than 70 percent shareholder support. 

Role of Shareholder Advisory Firms

Shareholder advisory firms such as Institutional Shareholder Services and Glass Lewis & Co. are having a significant impact on proxy vote results.  While these firms have no sanctioned powers, their influence cannot be ignored by boards and companies.  ISS in particular had an impact on 2011 vote results, especially at companies with high institutional ownership.  Overall, companies with an ISS “against” recommendation received an average of 68 percent shareholder support, compared to 92 percent at companies that received ISS support.   Going forward, ISS has indicated they will give extra scrutiny to companies that received less than 70 percent shareholder support in their prior year say-on-pay vote. 

What Factors Influenced the Vote?

Based on our review of ISS and Glass Lewis vote recommendations, a common reason cited for receiving an “against” vote was a pay-for-performance disconnect.  For ISS, this outcome was triggered when a company’s 1- and 3-year Total Shareholder Return (TSR) fell below industry GICS (global industrial classification standard) codes, without a corresponding adjustment in CEO pay.  Poor pay practices such as the use of tax gross-ups and single-triggers on Change in Control benefits also influenced a number of “against” votes.  In some cases, poor disclosure and excessive compensation were cited as contributing factors.

Increasing the Likelihood of  Shareholder Support

Companies can do several things to increase their level of shareholder support for SOP votes in the 2012 proxy season. 

Enhance Proxy Disclosure

The Compensation Discussion and Analysis (CD&A) is the basis of shareholder votes and should be written clearly and presented in an easy-to-read format.  Using tables, graphs and bullets can focus the reader on key points.  While not required, an executive summary allows companies to tell their “story,” reinforce pay-performance alignment and highlight pay practices shareholders will view positively.  The CD&A should plainly discuss incentive plan metrics and payouts, as well as any data, analysis and information considered in the compensation committee’s decisions.  Peer groups will receive increased scrutiny next year, when ISS adds peer data to its vote methodology. 

Understand Shareholder Criticisms

How companies respond to concerns about executive pay programs will be an important factor in future votes.  It is critical to understand the voting policies of major shareholders and any issues raised as concerns, even if they didn’t result in an “against” recommendation.  Compensation committees should discuss these concerns and consider whether to make changes to pay programs.  Companies should provide enhanced disclosure to rationalize  pay programs and decisions in light of investor concerns.

Some changes made by companies include amending employment agreements to eliminate golden parachute tax gross-ups (Disney); adding performance conditions for equity grants (Umpqua, Lockheed Martin, GE); reducing compensation (Key Corp), and changing peer groups (Occidental).

Improve Shareholder Communications

One positive impact of say-on-pay is that it has increased communication between companies and their shareholders. A two-way dialogue with major shareholders throughout the year can increase the likelihood of support for say-on-pay. 

In Summary

Shareholder advisory votes on pay packages were mandated with little notice for the 2011 proxy season, leaving investors and advisory firms with limited resources and time to prepare. As say-on-pay moves into its second year, scrutiny of executive pay practices will continue.  ISS has already changed its methodology for their vote recommendations. Companies that received shareholder support last year are not guaranteed the same result in 2012. 

Overall, monitoring and aligning the pay-for-performance relationship should be an ongoing responsibility and focus of compensation committees.  It is not too late to make well informed decisions, engage shareholders and improve disclosure to increase the likelihood of receiving a positive say-on-pay result in 2012.