In preparing for the 2016 proxy season, you should be aware of some regulatory changes and institutional investor guidance that may impact disclosure to and interactions with your shareholders. This update highlights what is new in the 2016 proxy season.
What's New in Institutional Investor Commentary
Glass Lewis & Co. (Glass Lewis) and Institutional Shareholder Services (ISS), two companies that advise institutional investors on how to vote at shareholder meetings, have each released Canadian guidelines for the 2016 proxy season. We provide the following highlights from these guidelines.
Director “overboarding” is considered to occur when an individual is appointed as a director to an excessive number of boards.
For 2016, Glass Lewis continues to recommend withholding votes from (i) a director that serves on three public company boards who is also an executive officer of a public company or (ii) any director that serves on six public company boards.
However, Glass Lewis will note as a concern instances where (i) a director serves on two public company boards and is also an executive officer of a public company or (ii) any director serves on five public company boards. Beginning in 2017, Glass Lewis will recommend withholding votes from a director on this basis.
ISS has not changed its policy for 2016 and continues to recommend withholding votes from a director who has attended less than 75% of his or her respective board and committee meetings held in the past year without a valid reason and is either (i) a CEO of a public company that also serves on two outside public company boards or (ii) any director that serves on six public company boards. However, ISS will note either of these instances as a concern regardless of the director’s record of attendance.
For 2017, the foregoing recommendation by ISS will be maintained except that the permissible number of outside boards for a CEO will be reduced from two to one and for a non-CEO will be reduced from six to four.
It should be noted that the foregoing recommendations by ISS and Glass Lewis do not apply to TSX Venture Exchange (TSXV) issuers and it should also be noted that, in the case of directors who are also executive officers, the recommendations with respect to the number of board appointments would only apply to outside companies, not the company for which the director also serves as an executive officer.
Equity Compensation Plans - TSX
ISS has adopted a "scorecard" model to be used in its 2016 evaluation of the positive and negative practices and features related to equity compensation plan proposals by TSX-listed companies. The factors which will be considered are divided into three main categories: plan cost, plan features and grant practices.
Plan cost is the total estimated cost of the company’s equity plans relative to industry/market cap peers. It is measured by the company's estimated Shareholder Value Transfer (SVT) in relation to peers considering both SVT based on new shares requested plus shares remaining for future grants and outstanding (unvested/unexercised) grants, and SVT based only on new shares requested plus shares remaining for future grants.
ISS’s analysis of the plan features will consider the plan’s change-in-control (CIC) provisions, whether financial assistance is provided to plan participants for the exercise or settlement of awards; if public disclosure of the full text of the plan document has been made; and whether the share dilution from equity plans is reasonable relative to market best practices.
Grant practices which will be considered include the three-year average burn rate relative to market best practices; meaningful time vesting requirements for the CEO’s most recent equity grants; the issuance of performance-based equity to the CEO; clawback provisions applicable to equity awards; and post-exercise or post-settlement share-holding requirements.
ISS recommends voting case-by-case on equity based compensation plans using the "scorecard" and voting against a plan proposal if the overall scorecard indicates that the plan is not in the shareholders' interests.
Externally-Managed Issuers (EMIs) – TSX and TSXV
EMIs pay management fees to outside firms in exchange for management services and executives are compensated by the external management firm. Issuers typically disclose the aggregate management fees which are paid to the external management firm but specific information about the management services agreement and executive compensation is usually not disclosed.
ISS has developed a framework for reviewing board accountability at EMIs and will issue voting recommendations on a case-by-case basis regarding say-on-pay resolutions and on director and committee member nominations. ISS has stated that “because advisory votes on compensation are voluntary in Canada, the effect of this policy will more likely be evident in recommendations on the election of directors”.
Glass Lewis clarified their approach to companies that are listed on multiple exchanges which may seek shareholder approval of certain proposals. The following factors will be considered to determine which Glass Lewis country-specific policy should be applied: the corporate governance structure and whether the structure is unique to a particular market; nature of the proposal; location of the company's primary listing; regulatory/governance regime that the board is reporting against; and the availability and completeness of the company's proxy filings.
Environmental & Social Risk Oversight
Glass Lewis codified their evaluation policy regarding a company's risk exposure based on its management of environmental and social risks. Glass Lewis recommends that shareholders withhold votes from directors that are responsible for risk oversight in cases where the board or management has failed to identify and manage environmental or social risk which has or could have negatively impacted shareholder value.
Proxy access is an important mechanism which provides shareholders with the opportunity to nominate directors to management’s proxy. Glass Lewis revised their guidelines to clarify its approach in evaluating proxy access proposals and will consider a number of factors in evaluating such a proposal, including the specified minimum ownership and holding requirements for shareholders to nominate one or more directors, as well as company size, performance and responsiveness to shareholders.
Exclusive Forum Provisions
Glass Lewis recognized that companies limit the risk of frivolous lawsuits by adopting exclusive legal forum provisions. However, Glass Lewis does not support charter or bylaw provisions that limit a shareholder's choice of legal venue as they may effectively discourage the use of shareholder claims. Therefore, shareholders are recommended to vote against any by-law or charter amendment seeking to adopt an exclusive forum unless the company provides a compelling reason.
Audit Committee Over-Commitment – TSXV Companies
Glass Lewis generally considers three audit committee memberships to be a reasonable limit or four memberships for a director with financial experience. While Glass Lewis will ultimately determine the commitment level of a director on a case-by-case basis, it has specifically relaxed its general threshold for audit committee members of companies listed on the TSXV by changing it to four audit committee memberships or five for directors with financial experience.
Amendments to Quorum Requirements
Glass Lewis has supplemented its general view on quorum requirements. Regardless of the number of shareholders present at a meeting, Section 139 of the CBCA provides that a majority of shares entitled to vote, whether in person or by proxy, shall constitute a quorum. However, a company may stipulate a lower quorum requirement in the articles of association, as long as the company has received shareholder approval.
When a company seeks shareholder approval to lower the quorum requirement, Glass Lewis will generally support a reduced quorum of at least 33% of shares entitled to vote, in person or by proxy, but will evaluate the proposal in consideration of the facts and circumstances of the company. When a company adopts articles with a quorum requirement of at least 25%, Glass Lewis will support the adoption only if the new quorum represents an increase from a previous level or if the level remains unchanged.
With respect to meetings of the board, Glass Lewis considers a quorum consisting of a majority of the directors to be acceptable.
Glass Lewis has restated its opinion for assessing audit committees. Glass Lewis is skeptical of the effectiveness of audit committees that lack relevant expertise and is therefore more likely to recommend withholding votes from a member of an audit committee that does not have expertise as a certified public accountant, CFO, corporate controller, or similar experience, particularly where such expertise is lacking and a problem such as a restatement has occurred.
Glass Lewis recommends withholding votes from all members of the audit committee:
- who served on the committee at the time of the audit, if audit and audit-related fees total less than 50% of the fees billed by the auditor;
- who sit on an excessive number of public company audit committees;
- who served at a time when the company failed to report or have its auditors report material weaknesses in internal controls;
- who served at a time when financial statements had to be restated due to negligence or fraud;
- if the company has repeatedly failed to file its financial reports in a timely fashion;
- if the committee re-appointed an auditor that Glass Lewis no longer considers to be independent for reasons unrelated to fee proportions;
- who served at a time when accounting fraud occurred in the company;
- if recent non-audit fees have included charges for services that are likely to impair the independence of the auditor;
- if non-audit fees include charges for tax services for senior executives of the company, or include services related to tax avoidance or tax shelter schemes;
- if options have recently been backdated, and: (i) there are inadequate internal controls in place, or, (ii) there was a resulting restatement and disclosures indicate there was a lack of documentation with respect to option grants; or
- who served since the date of the company's last annual meeting and, since the last annual meeting, the company has reported a material weakness that has not yet been corrected or the company has an ongoing material weakness from a prior year that has not yet been corrected.
Glass Lewis recommends withholding votes from the chair of the audit committee if:
- the company has not disclosed a breakdown of fees paid to the auditor for the past fiscal year;
- the committee did not put the selection of the auditor up for a shareholder approval;
- there is not at least one member who is financially literate, as required by the CSA; or
- the audit committee consisted of fewer than three members for the majority of the fiscal year, subject to exceptions for venture firms.
Nominating & Governance Committee
Glass Lewis restated its belief that the nominating and governance committees should consider diversity when nominating directors and that shareholders are best served when the board is diverse in experience, age, race, gender, ethnicity, geographic knowledge, industry experience, board tenure and culture.
Glass Lewis may recommend withholding votes from the chair or all members of the nominating committee in the following circumstances:
- all members of the nominating committee when the committee nominated or re-nominated an individual who had a significant conflict of interest or whose past actions demonstrated a lack of integrity or an inability to represent shareholder interests;
- the nominating committee chair if the nominating committee did not meet during the year;
- the nominating committee chair and/or all members of the committee when the number of directors on the board is more than 20 or fewer than five directors (or four for venture exchange listed issuers);
- the nominating committee chair of a venture firm when there are fewer than two independent directors on the board;
- the nominating committee chair, when a director who did not receive support from a majority of voting shares in the previous election was allowed to remain on the board, and, further, the issues that raised shareholder concern were not addressed; and
- the chair of the nominating committee where the board’s failure to ensure the board has directors with relevant experience, either through periodic director assessment or board refreshment, has contributed to a company's poor performance.
Glass Lewis may recommend withholding votes from the chair or all members of the governance committee in the following circumstances:
- the governance committee chair when the chairman is not independent and an independent lead or presiding director has not been appointed;
- all members of the governance committee who served at a time when the board failed to implement a shareholder proposal approved by the shareholders with a direct and substantial impact on shareholders and their rights;
- all members of the governance committee when the board fails to adopt a majority voting policy;
- the governance committee chair when the board has provided poor disclosure on key issues, such as the identity of its chairman, related-party transactions or other information necessary for shareholders to properly evaluate the board; and
- the governance committee chair when the board has failed to disclose detailed voting results from the previous annual meeting.
Reminder of Previously Reported CSA Updates
Gender Diversity Disclosure
As described in our 2015 proxy season update, rule changes required issuers to include additional information in their corporate governance disclosure relating to term limits/board renewal, as well as gender diversity on boards and in executive management. These additional disclosures were contained in 2015 proxy circulars.
On September 28, 2015, the CSA published the findings from their review of the required new corporate governance disclosure in CSA Multilateral Staff Notice 58-307 - Staff Review of Women on Boards and in Executive Officer Positions-Compliance with NI 58-101 Disclosure of Corporate Governance Practices. The notice provides some useful statistics on how Canadian issuers of different sizes are managing board renewal and gender diversity issues. The notice also identifies some areas where disclosure deficiencies are common, including descriptions of how issuers are considering the representation of women on boards and in executive management. The notice provides some guidance on how to improve this disclosure by giving some examples of processes and practices that may be used in order to effect this consideration.
New Venture Issuer Disclosure Regime
As described in our securities client update of May 13, 2015, in order to streamline the continuous disclosure obligations of venture issuers, the CSA implemented a new disclosure regime available to venture issuers effective June 30, 2015, which reduces the regulatory and disclosure burden on venture issuers.
Among the changes for venture issuers:
- a simplified “quarterly highlight” format MD&A which will kick in for Q1 of 2016 for companies with a December 31 year end;
- reduced executive compensation disclosure in this year’s proxy circular from 5 to 3 executives, and from 3 to 2 years; and
- reduced audit committee composition requirements effective January 1, 2016.