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Say on Pay: We Got an “A+.” Should We Still Worry?

    Client Alerts
  • April 25, 2012

The unfortunate answer is “Yes.” While results from the first year of mandatory Say on Pay were overwhelmingly positive, the landscape continues to change. Say on Pay will likely always be a “what have you done for me lately” environment and proxy advisors and investors are not going to see a successful vote in one year as reason for giving anyone the benefit of the doubt in the next year.

What Have We Learned So Far?

The first year of Say on Pay came and went with a great deal of fanfare but very few casualties. Investors overwhelmingly supported executive pay practices with an average vote of approximately 92% of votes cast, although some companies did not fare as well. In 2011, Institutional Shareholder Services (ISS) recommended against approximately 11% of the Say on Pay proposals it evaluated and approximately 40 companies failed their Say on Pay vote. In addition, another 170 or so received “gray area” support – more than 50% but less than 80%.

There are several interesting trends to watch:

  • Stockholder engagement has increased. This was a victory for activists that wanted more dialogue with companies on executive compensation. Anecdotal evidence also suggests that many institutional investors are willing to discuss the rationale for certain pay practices and vote with Board recommendations despite ISS recommendations. Many companies now include preliminary key investor communications as part of their proxy preparation timeline.
  • Clear and concise disclosure is more important than ever. Proxy advisors and investors have a heavy workload during proxy season. Effectively advocating for your compensation philosophy and specific pay practices is of paramount importance. Executive summaries in the CD&A, graphic communication of pay for performance and focused rationales for potentially unpopular pay choices are all but mandatory now.
  • Don’t miss a marketing opportunity. In addition to streamlining and focusing your disclosure, don’t be afraid to advocate for your programs. Tell investors why your compensation elements fit your unique situation. Anticipate ISS or other activist arguments and provide your marketing support in your proxy. Not only can this positively influence street voting, but it is also a touchstone for stockholder engagement campaigns ahead of your annual meeting.
  • Taking issue with ISS. More than 100 companies filed supplemental proxy materials rebutting ISS negative recommendations on Say on Pay proposals in 2011, and this practice has continued in 2012. Companies point out factual errors in ISS’s reports, take issue with ISS’s option valuation methodology, object to ISS’s pay for performance methodology or advocate for their pay practices because of considerations or objectives unique to the particular company. In some cases, institutional investors have listened and voted with Board recommendations.
  • Take a longer-term view. One lesson that is becoming clear in the second year is that management and compensation committees must look ahead several years when planning compensation. Companies that grant multi-year awards every third or fifth year are finding that the “off” years are far more forgiving than the “grant” years. The new methodology used by ISS (discussed below) is still not forgiving with respect to the disproportionate impact on grants made in one year that actually result in compensation over time.

The ISS Battlefield

ISS adopted a revised pay for performance evaluation methodology for 2012 that turned out to be more complex, but also less predictable. It focuses more on longer-term total shareholder return, but still does not explicitly address compensation anomalies such as multi-year grants or the impact of unusual market fluctuations on total shareholder return. In addition, the peer groups chosen by ISS for comparative purposes have come under attack.

ISS also announced that it will take a closer look at the election of compensation committee members and Say on Pay proposals for companies that received less than 70% (of votes cast) support. This closer look includes an assessment of the company’s response to the “low” vote, including (i) institutional investor engagement, (ii) how the company addresses specific “problem” areas in its compensation practices, and (iii) other recent compensation actions taken by the company. ISS also considers the ownership structure of the company and will determine if the issues were recurring or isolated events.

ISS also recently formed a Feedback Review Board to increase “transparency, openness and responsiveness” to its “market constituents.” It is clear from both the 2012 methodology change and the new review board that ISS is aware of the criticisms of both its methods and its own constituent engagement. Anecdotal evidence suggests that the sway that ISS and other proxy advisors used to hold with institutional investors may be weakening as both the design and outcomes produced by ISS’s evaluation methodologies have come under attack. Stockholder engagement and effective marketing in your proxy can take advantage of this trend by reaching those institutional stockholders that recognize that when evaluating compensation, one size does not fit all.

Why Tell Me This Now? Isn’t Proxy Season Almost Over?

As evidenced by the changes that ISS made from just one season to the next, companies should expect the landscape for Say on Pay to continue to change as “best practices,” investor sentiment and the disclosure rules themselves evolve. As we move past 2012, it is not too soon to begin preparing for 2013. Remember:

  • Consider scheduling an internal proxy season post-mortem while everything is still fresh. Share any conclusions or process changes with your outside counsel so the team is ready for the next season.
  • Look at compensation with a longer-term view so you are not surprised a year or two down the road.
  • Changing dates and compensation table numbers will not be enough – expect to change your compensation disclosure each year to adjust to the changing landscape.
  • Consider hiring a compensation consultant, especially if you have received negative attention in the past. Their expertise and a fresh set of eyes can reinvigorate your program.
  • Revisit your Compensation Committee structure and how it functions. “Best practices” for this committee is likely to become the expectation in the very near future.
  • Prepare for active stockholder engagement in the event that your vote trends downward – don’t wait to get to 69% before deploying your resources.
  • Review the experiences and disclosure of your industry peers to reveal trends and practices that could be helpful or that might become activist expectations down the road.


Additional Articles from the Spring 2012 Public Company Forum:


Doug's Note: The JOBS Act

"Don't Pay Me, or Else!": Extorted or Culturally Compelled Payments to Foreign Officials

What’s New With Stock Buybacks?

What’s Market? Are Non-Binding Auditor Ratification Votes “Required?”

Dodd-Frank Act Progress Report: Spring 2012