2020 Executive Compensation Amid Market Uncertainty

by | Mar 30, 2020 | Executive Compensation, Market Trends

Effects of COVID-19 on Executive Compensation

With a global pandemic upon us, the world is a very different place, at least right now. However, just like there is no need to hoard cans of tuna and cases of toilet paper, we at GGA believe that it is not advisable at this juncture, to call off your organization’s executive compensation program plans for 2020. In fact, it is times like these that corporate governance, risk management, technology and innovation and board oversight are imperative to preserving shareholder value, while also and most importantly ensuring the health and safety of our employees. 

What we know from other market crises, is that corporate governance and executive retention are high on the list when navigating black-swan events.  If there ever was a black-swan event, COVID-19 may have now assumed the definition. 

We suggest that as long as the Board and/or the CEO maintains the ability to use their judgment on implementation timing, eligibility, etc., for example, then plans should proceed. There are obvious exceptions to this where an organization may not have the available cash flow due to this ‘black swan’ event (e.g. airlines, tourism companies, etc.).

In the interest of brevity, this piece is meant to cover only high level corporate governance and retaining key talent, but we understand that there are broader considerations when factoring in an organization’s complete workforce as many companies may have to layoff some of their staff due to decreased demand for their products/services and the corresponding decrease in cash flow for the business (as we write this a number of immediate family members and friends have already been impacted directly). While we cannot predict the future, we at GGA can share our observations within the marketplace and areas for consideration as boards make decisions over the next few months relating to corporate governance and executive compensation. So far, within the mining and broader commodity businesses, we have seen some proposed delays in work or a cautious movement forward, as planned. 

Areas for consideration during these difficult times include:

Board Oversight

Businesses are continuing to try to make the best of a bad situation and effective corporate governance needs to continue, within reason, in the same spirit, to ensure effective oversight of the organization. How easily is your board able to meet remotely as opposed to in-person? What decisions can be made via consent resolutions versus requiring a full meeting? Have you stress tested the impact of black swan events on your company’s operations? What plan do you have in place to deal with black swan events in a crisis and who is responsible for what?

Retention of Key Talent

Strategies for attraction and retention of executive talent are critical as even in immediately affected companies, the demands on executive teams are typically extremely high, more so than in normal market conditions, to chart out a path forward. If your board has observed a gap to market from a pay perspective, how are you going to let your executive team know that you recognize this gap, but also are taking into account the current market conditions? Some organizations will choose to “stay the course” and implement any compensation adjustments that were determined at the past meeting. Others may choose a more conservative route and announce salary freezes or even rollbacks, depending on the cash flow concerns of the business. A good middle ground might be to approve compensation adjustments in principle but hold off on formally enacting the adjustments for a few months until market conditions have stabilized and better financial projections can be made. In terms of Long-Term Incentive (LTIP) grants, previous grants may have been made at significantly higher share prices so you must also consider what value, if any, executives still have within their LTIP and what the prospects are for this value to rise over the next few months or even years. If you are only granting Stock Options, is there a chance for underwater options to get back in-the-money or is the probability low? If the probability is low, then executives are a flight risk as competitors will be able to offer them new LTIP grants at significantly lower exercise prices than if they stay with your organization. This may necessitate discussion on the need for new retention grants which can be made at a lower share price and increase the likelihood of long-term value to executives, thus acting as a retention device during this period.

Retention Strategy

While retention LTIP awards seem like a good idea in the current environment, these awards must be balanced with the equity dilution level of the organization under its existing equity compensation plans. At lower share prices, the level of equity dilution can increase dramatically and use up much needed room for LTIP grants in the future. In a time like this, stress testing of the impact on equity dilution levels of proposed grants is an important step that boards must conduct before approving regular or retention-based LTIP grants. If proposed grants are too dilutive then consideration of a fixed number of options or units to be granted, that will allow an organization to retain room for future grants, is something that should be considered in the interim until market conditions stabilize. For many organizations, dilution will also not support additional retention awards, so a board may need to consider a performance cash based award, that is granted outside of the shareholder approved equity plan. At all costs, while option surrender programs continue to be allowed by the regulator, categorically shareholder advisory firms consider this an option re-pricing problematic pay practice.

Performance Evaluation

If performance expectations under the Annual Balanced Scorecard have already been approved, the Board should evaluate the performance expectations set and determine whether those expectations are still reasonable in the ever-evolving environment. If expectations are now deemed to be unreasonable in the Board’s view, consideration of revised performance targets based on the new reality should be discussed to ensure executives are still motivated to achieve important objectives over the remainder of the year.

Remember that while retaining key talent is imperative and in shareholders long-term interests, the board must also give consideration to the shareholders who have potentially lost material amounts of their portfolio.  These executives are tasked with not only mitigating the financial blow in the downward market, but also to generate value when markets return.  Ensure your board is not making compensation decisions in a vacuum during these challenging times.  Seek the independent support necessary to give appropriate back testing and scenario analysis prior to making any potential retention decisions.
 

Contributing Authors:

Paul Gryglewicz, Senior Partner
Arden Dalik, Senior Partner
Peter Landers, Partner

New CBCA Regulations & Diversity Disclosure

by | Dec 30, 2019 | Board Dynamics, Diversity, Regulations

A Summary of Changes and Impact to Shareholders

Earlier this year, the regulations relating to amendments to the Canada Business Corporations Act (“CBCA”) for diversity disclosure at publicly-listed corporations were released, which should have a large impact at TSX Venture Exchange (“TSXV”) and Canadian Securities Exchange (“CSE”) listed companies. These regulations will require all publicly-listed CBCA corporations to provide specific information on board and executive officer diversity policies and statistics beginning in 2020. While many Toronto Stock Exchange (“TSX”) listed companies have already adopted some form of board and executive diversity policy disclosure within their annual proxy circulars, the new regulations go one step further and now apply to TSXV and CSE companies as well.

The new regulations, which have taken over a year to be developed, will come into force on January 1, 2020 and will apply to all 2020 shareholder meetings of publicly-listed CBCA corporations. The information should be provided within the annual shareholder meeting notice or proxy circular and will need to go beyond reporting just on gender diversity. The specifics of the new regulations include:

  • Reporting on Diversity at the Board and Senior Management Level
  • Reporting Not Just on Gender Diversity
  • Application to TSXV and CSE Listed Companies
  • Comply or Explain Still in Effect
  • A Review of the Provisions in 5 Years

Reporting on Diversity at the Board and Senior Management Level

CBCA corporations will be required to annually disclose their term limits, diversity policies and diversity targets (along with any related statistics) for the representation by “designated groups” at the Executive and Board level. Reporting will apply in respect of the Board as a whole, the Chair as well as any Vice Chair of the Board. At the Executive level, disclosure will be required for the President, Chief Executive Officer, Chief Financial Officer, each Vice President of a principal business unit, division or other function (including Sales, Finance and Production) and any other individual who acts in a policy-making capacity.

Reporting Not Just on Gender Diversity

The new disclosure requirements do not pertain only to women, but have been expanded to include other members of “designated groups”. The term “designated groups” is meant to align with the federal Employment Equity Act, which defines “designated groups” as: women, Aboriginal peoples, persons with disabilities and members of visible minorities. Current regulations require disclosure only on gender diversity.

Application to TSXV and CSE Listed Companies

While current disclosure regulations are applicable to TSX-listed issuers only that is not the case under the new regulations. Under the new disclosure requirements, TSXV and CSE listed companies will have to disclose the same types of disclosure information as TSX listed companies, which is a significant change for these companies.

Comply or Explain Still in Effect

The good news for CBCA corporations is that the new regulations do not impose any quotas or specific diversity requirements on companies. Similar to current Canadian securities law, a “comply or explain” regime will be put in place. This means that CBCA corporations will be under no obligation to increase the level of diversity at the Executive or Boardroom level. However, they must disclose the number and percentage of directors and executives who are members of designated groups. In addition, while they are not obligated to adopt a specific policy or quota for diversity, they will be required to disclose whether they have adopted a formal policy or not and if they have not done so explain why that is the case.

A Review of the Provisions in 5 Years

The federal government will review the new diversity disclosure regulations five years after they are enacted, in 2025. At that point in time, if the new regulations do not result in increased diversity at the Executive and Boardroom level, the government will consider whether further amendments to diversity disclosure requirements are required.

The expected impact at TSX-listed companies is lower due to the fact that many TSX-listed companies have already been disclosing the existence of a formal executive and board gender diversity policy at their companies the past couple of years and in the absence of a formal policy, the reason why such a policy has not been adopted. However, the expanded definition of diversity to include all “designated groups” as defined in the federal Employment Equity Act will mean additional reporting on the number and percentage of Aboriginals, persons with disabilities and visible minorities, which will require additional time and effort of staff to ensure adequate disclosure in these areas. That said, this change is more incremental in nature.

At TSXV and CSE-listed companies the impact should be much larger due to the fact that formal diversity disclosure regulations are currently not in effect for companies listed on these exchanges. This will require Boards at these companies to spend some time discussing the issue of diversity and whether the need for a formal policy is warranted at their company. If a formal diversity policy is not put in place, boards will then have to discuss the reasons why a formal policy is not required for their company and be able to explain this to shareholders through the annual proxy circular. Staff time (already stretched as it is at many TSXV and CSE-listed companies) devoted to this issue will also be increased to ensure that adequate diversity disclosure is provided to align with the new regulations. This will increase the soft compliance costs associated with annual disclosure.

Diversity has been an ever-growing issue at public companies in recent years. While some progress has been made, it is clear that the federal government feels this progress is not enough and is hoping that new diversity disclosure regulations will lead to further change. It will be interesting to see which companies embrace this new regulation to spark change in the make-up of their boards and executive ranks and ultimately which companies choose to do the bare minimum.

To review copies of the new regulations please click on the following links:

Regulations Amending the Canada Business Corporations Regulations, 2001

Canada Business Corporations Act

The Impact of Technology for Governance Professionals

by | Dec 2, 2019 | Productivity, Research, Technology

How to Maximize Technology for Corporate Governance Practices

We at Global Governance Advisors just completed work on our 6th annual Report on Governance Professionals Responsibilities & Remuneration, in partnership with the Governance Professionals of Canada (GPC), and observed the ever increasing impact that technology is having on the role of the governance professional in Canada. As part of our survey, we asked governance professionals to rate, on a 1-5 scale, the primary responsibilities in their role. Some of the highest ranked responsibilities included:

  • Keeping of Board/Committee meeting minutes;
  • Setting Board/Committee meeting agendas;
  • Acting as a governance liaison for the Board and management;
  • Reviewing and improving Board effectiveness; and
  • Maintaining corporate records.

Governance professionals also reported spending the most time on Board and Committee meeting preparation and support, liaising with Board members and assisting management in preparing Board presentations.

The areas providing the biggest influence include the review and implementation of corporate governance practices, review and improvement of Board effectiveness and the review and selection of Board portal and other governance support technology or solution providers.

What is a common theme around all of the responsibilities and areas of influence highlighted above? Each of them has been impacted by the greater use of technology in recent years. This observation is further reinforced when we asked governance professionals about their use of technology. 94% reported the use of Board portals with 74% reporting the use of technology in conducting board surveys.

The reason for this is quite simple as technology allows professionals to be more efficient in performing their role and is more secure than following a manual process. What used to consist of physical copies of corporate records in a filing cabinet can now be securely uploaded to a secure document repository for board members to access at any time on their laptop, smartphone or tablet. Meeting agendas can be created in minutes and modified in just a few key strokes based on feedback from the meeting chair with related documents uploaded and tied directly to that meeting for ease of mark-up and review by board members as opposed to mailing out large, heavy board packages weeks in advance. Meeting minutes can be taken directly in the platform and saved, removing the need for shorthand. Built-in transcription capabilities can also act as a way to streamline the meeting minute taking process.

Technology also improves the Board Evaluation process by allowing board members to securely complete their questionnaire online with the reporting of results provided to organizations in real-time. This compares to having to collect physical responses from board members and then manually compiling the results by hand before. Even better, with the right software platform governance professionals can be provided with market leading pre-populated questions that all boards should be asking around their performance so they do not have to start from scratch.

The role of the governance professional is constantly evolving with greater demands on one’s time. Technology can act as a powerful enabler by making transactional responsibilities such as the keeping of meeting minutes, setting of agendas and administration of board evaluations much less time consuming and more secure. The technology adopter is a professional who can play a more strategic role in improving upon an organization’s governance practices and acts as a trusted liaison for the Board and management. This is a win-win for organizations and governance professionals as a whole.

For more information on the results of the 2019 Report on Governance Professionals Responsibilities & Remuneration and to request a copy of the report, please click here.

ISS Releases 2020 Policy Guidelines for Canada

by | Nov 25, 2019 | Governance, ISS, Proxy Guidelines

A Review of Guideline Upates

On November 12, 2019 Institutional Shareholder Services (“ISS”) published their Americas Proxy Voting Guidelines Updates for 2020 for the Americas region, which includes Canada and the United States. While GGA has summarized updates directly affecting U.S.-listed companies in a separate blog post, we are summarizing the key updates affecting Canadian-listed companies as it relates to compensation and governance below. These updates will impact any shareholder meetings held on or after February 1, 2020.

The updates are generally split into four separate categories:

  1. Ratification of Auditors
  2. Election of Directors (several updates)
  3. Equity-Based Compensation Plans for Venture companies
  4. Pay-for-Performance Analysis (use of Economic Value Added or “EVA”)

GGA’s summary of each change is provided below.

Ratification of Auditors (TSX and Venture)

ISS has historically excluded significant one-time capital restructuring events from “Other” fees when calculating whether “Other” fees are greater than Audit and Audit-related fees. Prior to the policy update, only three events fell under this exemption: 1) IPOs, 2) Emergence from bankruptcy, and 3) Spinoffs. ISS has now updated this policy so that these three restructuring events are part of a brief list of examples that fall under the policy. Other similar events not listed here that could fall under this exemption are M&A transactions and re-domiciling of a company. In all cases, ISS will scrutinize the disclosure around “Other” fees when determining whether the carve-out policy should apply.

Election of Directors

Excessive Non-Audit Fees (TSX and Venture)

Aligning with the new “Ratification of Auditors” policy update above, ISS has made it clear that in the event that the “Ratification of Auditors” resolution receives an “Against” recommendation, ISS will also recommend that shareholders vote Withhold for the members of the Audit Committee. This aligns both policies so that significant one-time capital restructuring events can be treated in the same way when making vote recommendations.

Policy Considerations for Majority Owned Companies (TSX and Venture)

ISS clarified that their majority-owned companies policy only applies to non-management directors. This clarifies ISS’ stance that regardless of whether a company is majority owned or not, executive directors should not be serving on the Audit and Compensation Committees.

The policy was designed to recognize that while director nominees that are controlling shareholders or represent controlling shareholders and not considered independent, their interests may still be aligned with other shareholders given the significant equity stake that they represent as controlling shareholder. By clarifying this policy, ISS has the right to support those directors serving on the Audit and/or Compensation Committee despite other policies that would suggest a Withhold recommendation for those directors based on ISS’ director independence requirements.

Director Attendance (TSX Only)

ISS’ director attendance policy relies upon the director attendance record provided by the issuer in order to evaluate whether directors have been fulfilling their commitments on the board. This is taken from a company’s most recent proxy circular with only TSX-listed issuers required to disclose director attendance. ISS clarified within its policy that it will exempt new publicly-listed issuers, recent graduates from a venture exchange to the TSX and director nominees who have not served an entire fiscal year on the board as a complete attendance record will not have been taken. ISS will continue to evaluate whether directors have attended at least 75% of the aggregate of board and key committee meetings such as Audit, Compensation and Nominating Committees held during the year in reviewing the commitment of directors.

Former CEO/CFO on Audit/Compensation Committee (TSX Only)

ISS has now aligned its voting policy for former CEOs and CFOs who sit on the Audit or Compensation Committee with its definition of independence. ISS policy recommends that shareholders vote Withhold for current CEOs or CFOs who sit on the Audit or Compensation Committee. They also deem former CEOs within the past 5 years and former CFOs within the past 3 years as being non-independent. For those former CEOs or CFOs that are deemed non-independent, ISS will now recommend that shareholders vote Withhold if they serve on the Audit or Compensation Committee within the 3 or 5-year non-independence period.

Overboarded Directors (TSX Only)

ISS clarified their policy to state that they will generally not count a board for determining if a director is overboarded, when it is publicly disclosed that the director will be stepping off that board at its next annual meeting. This information must be included within the company’s proxy circular in order to be taken into consideration by ISS. On the flip side, ISS will include any new boards a director is planning on joining even if the shareholder meeting confirming their election to the new board has not yet taken place.

Equity-Based Compensation Plans – Venture Companies

ISS considers companies on either the TSX Venture Exchange (TSXV) or Canadian Securities Exchange (CSE) as Venture companies. While the TSXV requires regular confirmation by shareholders of rolling limit equity plans (e.g. 10% of common shares outstanding) on an annual basis, there is no such requirement for CSE-listed companies. In many cases, this means that rolling limit equity plans for CSE-listed issuers may not appear on an AGM ballot for shareholder re-approval unless there are material amendments to the plan. ISS refers to rolling limit equity plans as “evergreen” plans.

Moving forward, ISS will now recommend a Withhold vote for Compensation Committee members who continue to serve on the committee, if the company maintains an evergreen plan and has not sought shareholder approval in the past two years, and is not seek shareholder approval at the upcoming AGM.

This change provides consistency between ISS’ treatment of TSXV and CSE-listed companies when seeking shareholder re-approval of evergreen plans. The exact voting policy will be enacted starting in 2021, providing CSE-listed companies with a transition period to react accordingly to this policy change and seek shareholder re-approval at the appropriate AGM.

Updates to Pay-for-Performance Analysis

Use of EVA as New Executive Compensation Metric to Replace GAAP-Based Metrics – TSX Companies

Starting in 2020, ISS plans on incorporating a new performance metric (EVA) into the financial performance assessment, replacing the GAAP-based metrics used in 2019. Accordingly, EVA performance will now affect the quantitative pay-for-performance analysis and Say on Pay recommendations for the 2020 proxy season. GAAP-based metrics will continue to displayed within ISS reports for information purposes.

As a reminder, EVA will be calculated as follows by ISS:

EVA = Net Operating Profit after Taxes – (Cost of Capital * Capital)

ISS will look at EVA in four different ways as part of its analysis:

1) EVA Margin – EVA as a Percentage of Sales
2) EVA Spread – EVA as a Percentage of Capital
3) EVA Momentum (Sales) – Annual change in EVA Margin
4) EVA Momentum (Capital) – Annual change in EVA Spread

These four measures will then be weighted and compared to the same overall performance of the selected peer group for an issuer.

Further clarification of these calculations are expected from ISS in the months ahead leading up to the adoption of these changes for issuers with meetings falling on or after February 1, 2020.

Addition of 3-Year Multiple of Median View of CEO Pay for Information Purposes

ISS has also indicated that their research reports will now feature a 3-year Multiple of Median (MoM) view of CEO pay as a measure of long-term pay on a relative basis against an issuer’s ISS peer group. The 3-year Multiple of Median analysis will not be a part of the ISS quantitative screen methodology, but will be displayed in ISS reports for informational purposes only.

GGA continues to monitor the evolving proxy voting guidelines on a regular basis and will be reporting on any further developments as they are confirmed. Companies should be reviewing their compensation and governance practices against these updated guidelines to ensure that their current designs align to the updated guidelines as we move into the 2020 proxy season.

For more details on the ISS 2020 Proxy Voting Guideline Updates for Canada, please click on the following link:  https://www.issgovernance.com/file/policy/latest/updates/Americas-Policy-Updates.pdf

Further information on preliminary changes to ISS’ Canadian compensation policies for 2020 can also be found here: https://www.issgovernance.com/file/policy/latest/americas/Canada-Preliminary-Compensation-FAQ.pdf

ISS 2020 Policy Guidelines for the U.S.

by | Nov 25, 2019 | Executive Compensation, Governance, Regulations

Summary of 2020 Guidelines

On November 12, 2019 Institutional Shareholder Services (“ISS”) published their Americas Proxy Voting Guidelines Updates for 2020 for the Americas region, which includes the United States and Canada. While GGA has summarized updates directly affecting Canadian-listed companies in a separate blog post, we are summarizing the key updates affecting U.S.-listed companies as it relates to compensation and governance below. These updates will impact any shareholder meetings held on or after February 1, 2020. 

The updates are generally split into six separate categories:

  1. Voting on Director Nominees in Uncontested Elections (several updates)
  2. Independent Board Chair Proposals
  3. Share Repurchase Programs
  4. Equity-Based Compensation Plans – Evergreen Provision
  5. Diversity – Gender Pay Gap
  6. Pay-for-Performance Analysis

GGA’s summary of each change is provided below.

Voting on Director Nominees in Uncontested Elections

Exemptions for New Nominees

ISS clarified that they will now consider new director nominees on a case-by-case basis with a “new nominee” being a director who is being presented for election by shareholders for the first time. Vote recommendations for “new nominees” will generally depend on the timing of their appointment to the board and the problematic governance issue in question. This will include whether a director has been on the board long enough to be held responsible for a problematic governance issue at the company. On a related note, this “new nominee” exemption is being moved to the beginning of the Director Election section from Accountability, as it may be applied to other policies in the other ISS evaluation pillars of Independence, Responsiveness, and Composition.

Board Composition – Attendance

ISS also clarified its policy for director nominees who served only for part of the fiscal year. This includes nominees who may have been appointed to the board a few months prior to the first annual meeting that they are to be elected by shareholders at. In these cases, it is to be expected that a nominee would not have attended all meetings throughout the fiscal year and therefore ISS’ 75% attendance threshold should not apply.

Board Composition – Diversity (Russell 3000 or S&P 1500 Companies)

ISS has stated that they will generally vote “Against” or “Withhold” for the Nominating Committee Chair (or other directors on a case-by-case basis) at companies where there are no women on the company’s board. Mitigating factors that could lead to a For vote recommendation include:

  • Until Feb. 1, 2021, a firm commitment within the proxy statement to appoint at least one woman to the board within a year;
  • The presence of a woman on the board at the preceding annual meeting and a firm commitment to appoint at least one woman to the board within a year; or
  • Other relevant factors, as applicable.

The one-year transition period to appoint a female director provided by ISS has now passed, so even making a commitment to appoint at least one woman to the board within the next year will only act as a mitigating factor for 2020 for those companies who have had no women on their board previously.

In addition, for those companies that had at least one woman on their board in previous year, but not the current year, the company will clearly have to acknowledge the current lack of diversity on their board and provide a clear commitment to re-achieve a level of board gender diversity within the next year.

A “firm commitment” is defined by ISS as a plan, with measurable goals, outlining the way in which the board will achieve gender diversity.

Board Accountability – Problematic Governance Structure at Newly Public Companies

ISS has clarified its policy in two areas for newly public companies. One update states that ISS will generally vote “Against” or “Withhold” from directors individually, committee members or the entire board (except for new nominees who should be considered on a case-by-case basis), if prior to or in connection with a company’s public offering, the company or its board adopted the following by-law or charter provisions considered materially adverse to shareholder rights: 

  • Supermajority vote requirements to amend the by-laws or charter;
  • A classified board structure; or
  • Other egregious provisions.

ISS has noted that a reasonable sunset provision (7 or less years at the most) will be considered a mitigating factor when making their vote recommendation. In subsequent years, unless the adverse provision is reversed or removed, ISS will vote case-by-case on director nominees.

ISS’ second update states that for newly public companies, they will generally vote “Against” or “Withhold” for the entire board (except new nominees, who will be considered on a case-by-case basis) if, prior to or in connection with the company’s public offering, the company or its board:

  • Implemented a multi-class capital structure in which the classes have unequal voting rights without subjecting the multi-class capital structure to a reasonable time-based sunset.

They clarify that in assessing the reasonableness of a time-based sunset provision, consideration will be given to the company’s lifespan, its post-IPO ownership structure and the board’s disclosed rationale for the sunset period selected. A sunset period of more than seven years from the date of the IPO will not be considered reasonable.

In subsequent years, unless the problematic capital structure is reversed or removed, ISS will continue to recommend a vote “Against” or “Withhold” their vote from incumbent directors.

Board Accountability – Restrictions on Shareholders’ Rights 

ISS clarified its policy around restricting binding shareholder proposals to state that they will generally vote “Against” or “Withhold” its vote for Governance Committee members if the company’s governing documents impose undue restrictions on shareholders’ ability to amend by-laws. Undue restrictions include, but are not limited to:

  • Outright prohibition on the submission of binding shareholder proposals or share ownership requirements, subject matter restrictions or time holding requirements in excess of SEC Rule 14a-8.

If this restriction is not amended or removed, ISS will recommend an “Against” or “Withhold” vote on an ongoing basis.

ISS has also clarified that submission of management proposals to approve or ratify requirements in excess of SEC Rule 14a-8 for the submission of binding bylaw amendments will generally be viewed as an insufficient restoration of shareholders’ rights. Therefore, ISS will continue to recommend a vote of  “Against” or “Withhold” for Governance Committee members on an ongoing basis until shareholders are provided with an unfettered ability to amend the by-laws or a proposal providing for such unfettered right is submitted for shareholder approval.

Independent Board Chair 

ISS has stated that they will generally vote For on shareholder proposals requiring that the Board Chair position be filled by an independent director when the scope and appropriate rationale for the proposal is provided, in addition to other considerations. They have also clarified that the following factors will increase the likelihood of a For recommendation on the proposal:

  • A majority non-independent board and/or the presence of non-independent directors on key board committees;
  • A weak or poorly-defined lead independent director role that fails to serve as an appropriate counterbalance to a combined CEO/chair role;
  • The presence of an executive or non-independent chair in addition to the CEO;
  • A recent recombination of the role of CEO and chair; and/or departure from a structure with an independent chair;
  • Evidence that the board has failed to oversee and address material risks facing the company;
  • A material governance failure, particularly if the board has failed to adequately respond to shareholder concerns or if the board has materially diminished shareholder rights; or
  • Evidence that the board has failed to intervene when management’s interests are contrary to shareholders’ interests.

This view continues the evolution in North America thinking towards separating the Board Chair and CEO roles, which GGA has observed in recent years.

Share Repurchase Programs 

ISS has added new language relating to share repurchase programs stating that for U.S.-incorporated companies, and foreign-incorporated U.S. Domestic Issuers that are traded solely on U.S. exchanges, ISS will recommend shareholders vote “For” on management proposals to institute open-market share repurchase plans in which all shareholders may participate on equal terms, or to grant the board authority to conduct open-market repurchases, in the absence of company-specific concerns regarding: 

  • Greenmail;
  • The use of buybacks to inappropriately manipulate incentive compensation metrics;
  • Threats to the company’s long-term viability; or
  • Other company-specific factors as warranted.

ISS will also vote case-by-case on proposals to repurchase shares directly from specified shareholders, balancing the stated rationale of the company against the possibility for the repurchasing authority to be misused, such as to repurchase shares from insiders at a premium to market price.

Equity-Based Compensation Plans – Evergreen Provision

ISS has updated its list of overriding factors that will apply under the Equity Plan Scorecard analysis to include plans that contain an evergreen (automatic share replenishment) feature. This means that for those U.S.-listed companies that have historically had an automatic share replenishment feature in their formal plan documents, if that feature is not removed then ISS will recommend a vote “Against” the equity plan proposal.

GGA notes that this could lead to a lot more “Against” vote recommendations from ISS than in the past as we have noted many U.S. companies that include these automatic share replenishment features within their plans, so is something for U.S. companies to be mindful of when putting their equity compensation plans up for a shareholder vote at the annual meeting.

Diversity – Gender Pay Gap 

ISS has stated that it will generally vote on a case-by-case basis on requests for reports on a company’s pay data by gender, race or ethnicity, or a report on a company’s policies and goals to reduce any gender, race or ethnicity pay gap. While gender was included in this policy before, race and ethnicity have been added for 2020 within the policy.

ISS has also included whether the company has been the subject of recent controversy, litigation, or regulatory actions related to race or ethnicity pay gap issues; and whether the company’s reporting regarding race or ethnicity pay gap policies or initiatives is lagging its peers. This is in addition to ISS’ historical inclusion of gender pay gap issues in its considerations as well.

Pay-for-Performance Analysis 

Use of EVA as New Executive Compensation Metric to Replace GAAP-Based Metrics

Starting in 2020, ISS plans on incorporating a new performance metric (EVA) into the financial performance assessment, replacing the GAAP-based metrics used in 2019. Accordingly, EVA performance will now affect the quantitative pay-for-performance analysis and Say on Pay recommendations for the 2020 proxy season. GAAP-based metrics will continue to displayed within ISS reports for information purposes.

As a reminder, EVA will be calculated as follows by ISS:

EVA = Net Operating Profit after Taxes – (Cost of Capital * Capital)

ISS will look at EVA in four different ways as part of its analysis:

1) EVA Margin – EVA as a Percentage of Sales
2) EVA Spread – EVA as a Percentage of Capital
3) EVA Momentum (Sales) – Annual change in EVA Margin
4) EVA Momentum (Capital) – Annual change in EVA Spread

These four measures will then be weighted and compared to the same overall performance of the selected peer group for an issuer.

Further clarification of these calculations are expected from ISS in the months ahead leading up to the adoption of these changes for issuers with meetings falling on or after February 1, 2020.

Changes to Quantitative Pay-for-Performance Thresholds 

ISS has also updated its pay-for-performance thresholds relating to their Relative Degree of Alignment (RDA) and Pay-TSR Alignment test as follows:

 

2019 vs. 2020 Quantitative Pay-for-Performance Thresholds: All U.S. Companies
Measure Policy Year Eligible for
FPA Adjustment		 Medium Concern High Concern
RDA 2019 -28 -40 -50
2020 -38 -50 -60
Pay-TSR Alignment 2019 -13% -20% -35%
2020 -22% -30% -45%

The Multiple of Median (MoM) thresholds will not change in 2020.

Addition of 3-Year Multiple of Median View of CEO Pay for Information Purposes

ISS has also indicated that their research reports will now feature a 3-year MoM view of CEO pay as a measure of long-term pay on a relative basis against an issuer’s ISS peer group. The 3-year MoM analysis will not be a part of the ISS quantitative screen methodology, but will be displayed in ISS reports for informational purposes only.

GGA continues to monitor the evolving proxy voting guidelines on a regular basis and will be reporting on any further developments as they are confirmed. Companies should be reviewing their compensation and governance practices against these updated guidelines to ensure that their current designs align to the updated guidelines as we move into the 2020 proxy season.

For more details on the ISS 2020 Proxy Voting Guideline Updates for the United States, please click on the following link:  https://www.issgovernance.com/file/policy/latest/updates/Americas-Policy-Updates.pdf

Further information on preliminary changes to ISS’ U.S. compensation policies for 2020 can also be found here: https://www.issgovernance.com/file/policy/latest/americas/US-Preliminary-Compensation-FAQ.pdf