ISS’s 2011 policy updates include important policy changes applicable to ISS evaluations of executive pay and other matters during the 2011 proxy season. These evaluations, which ISS uses to formulate voting recommendations on executive compensation and other matters, will carry increased significance this year as public companies begin to implement the new “Say on Pay” and “Say When on Pay” advisory votes required by the Dodd-Frank Wall Street Reform and Consumer Protection Act. This Alert addresses some of the key ISS policy updates that will affect these advisory votes, executive compensation practices in general and other matters, for the 2011 proxy season and beyond.
Effect of New Votes
In prior years, ISS evaluated executive compensation practices mainly to determine whether to recommend voting against reelection of a registrant’s compensation committee members (and in rare cases the entire board). Beginning this year, however, these evaluations will also serve as the basis for ISS’s recommendations on “Say on Pay” votes. ISS’s policy updates also indicate that, in future proxy seasons, a registrant with problematic pay practices will receive a negative recommendation on reelection of compensation committee members if it fails to either (1) include a “Say on Pay” vote in its current proxy statement or (2) address concerns raised by prior “Say on Pay” votes.
With respect to “Say When on Pay” votes, ISS will universally recommend that shareholders vote in favor of holding “Say on Pay” votes annually, as opposed to every two or three years. A registrant’s executive pay practices will have no effect on this recommendation.
Consideration of Prospective Commitments
Subject to limited exceptions, ISS will no longer consider prospective commitments to eliminate or curtail existing pay practices when formulating voting recommendations on matters involving executive compensation. This marks a considerable policy shift for ISS, which previously afforded registrants the ability to either:
- Obtain reversal of a negative voting recommendation by committing to eliminate pay practices that identified as problematic by ISS; or
- Prevent an anticipated negative recommendation by committing to eliminate particular pay practices and disclosing such commitments in its proxy materials.
Beginning this year, however, ISS will not consider prospective commitments to amend existing pay practices, except to the extent that they involve either (1) commitments to bring equity awards within applicable burn-rate caps and total shareholder return benchmarks, since ISS typically establishes these figures late in the calendar year or (2) commitments to modify language in an equity plan, such as its definition of “change in control”, that can be effected through board approval or a similarly expeditious procedure and provide an immediate benefit to shareholders.
New List of Egregious Practices
While ISS has stated that it will continue to evaluate executive compensation holistically, it has issued a revised list of compensation actions which it regards as “egregious practices.” These practices, by themselves, may be viewed by ISS as sufficiently problematic to warrant a negative voting recommendation. These practices include:
- Repricing or replacing underwater stock options without prior shareholder approval;
- Paying excessive perquisites or tax gross-ups, including a gross-up related to restricted stock vesting; and
- Entering into new agreements, or extending existing agreements, with change-in-control provisions that provide for:
- Payments in excess of three times annual salary and bonus;
- Severance payments with “single” or “modified single” triggers (i.e. that are not at a minimum contingent on involuntary job loss or substantial diminution of duties); or
- Excise tax gross-ups on change-in-control payments.
Securities and Exchange Commission rules require public companies to disclose in their proxy statements the names of any directors who attended less than 75 percent of board meetings during the prior fiscal year. Until this year, ISS would consider either public or private disclosure of the reasons for any such director’s absences and make a case-by-case determination of whether to recommend voting against his or her reelection. Beginning in 2011, ISS will not consider privately disclosed reasons for director absences and will take into account only those disclosures included in the proxy statement or another SEC filing. In addition, the 2011 policy updates indicate that medical issues and family emergencies are the only reasons for director absence that ISS will consider acceptable.