New Governance Factors Consistent with Last Week’s Preview; Data Verification Period From Monday Through November 14
Yesterday, Institutional Shareholder Services released the details of its updated “QuickScore 3.0” corporate governance rating system. The update was previewed in our firm’s publication on October 27.
From 9 a.m. EST on November 3 through 8 p.m. EST on November 14, companies may access the underlying data that ISS will use to construct their QuickScore rating through ISS’s website. New scores will then be released on November 24 and begin appearing in ISS research reports. ISS has indicated that the format of the reports will be revised to show historical scores, data changes and a trend analysis, rather than just a static rating.
Because some institutional shareholders may rely, in part, on a company’s corporate governance ratings to make voting and investment decisions, companies may want to consider taking steps to ensure that the information on which these ratings are based is accurate. Information on QuickScore, including the technical document and information on data verification, is available on ISS’s website at www.issgovernance.com.
In 2013, ISS introduced a new corporate governance metric, referred to as ISS Governance QuickScore, which replaced its Governance Risk Indicators, or GRId. This system provides each covered company with a risk score, from 1 to 10, in each of four governance-related categories or “pillars”: Board (now “Board Structure”); Compensation (now “Compensation/Remuneration”); Shareholder Rights (now “Shareholder Rights & Takeover Defenses”); and Audit (now “Audit & Risk Oversight”), as well as an overall governance risk score. The scoring is such that “1” means lower governance risk and “10” means higher governance risk. The score is based on dozens of factors relating to governance structure. Unlike the GRId system, QuickScore is a relative measure, with the score indicating a company’s rank relative to
New York Washington, D.C. Los Angeles Palo Alto London Paris Frankfurt Tokyo Hong Kong Beijing Melbourne Sydney
other covered companies in its market index and/or geographic region. The weighting of the factors is not fixed but is based on an undisclosed formula measuring each factor’s correlation with various financial metrics. The scores are included in ISS’s proxy analyses and are made publicly available through Yahoo! Finance and Bloomberg. The factors were last updated in January.1
NEW AND AMENDED FACTORS FOR U.S. COMPANIES
For QuickScore 3.0, ISS has made modest changes to the factors for U.S. companies.2 The attached Annex lists the factors for U.S. companies, marked to show changes from QuickScore 2.0.
New factors. The following new factors have been added, both in a new subcategory of the Board pillar called “Board Controversies”:
“Has the board … failed to address the issue underlying majority director [withhold votes]?” This has been added as part of the existing factor assessing board implementation of a shareholder resolution supported by a majority of votes in the prior year. ISS has disclosed that, in general, sufficiency of board response will be based on disclosure in the proxy statement for the annual meeting after the majority withhold vote was received.
“Has ISS’ review found that the Board of Directors recently took action that materially reduces shareholder rights?” ISS has explained that unilateral bylaw/charter amendments that are considered material include, but are not limited to, diminishing shareholder rights to call a special meeting or act by written consent, classifying the board, increasing authorized capital and lowering quorum requirements. Enhancing advance notice requirements and adopting an exclusive forum provision (which ISS’s recent survey of institutional investors and public companies showed to be of lower concern to investors) are not specifically addressed.
Existing factors now applied to U.S. companies. The following factors applied to issuers in other regions and will now be applied to U.S. companies as well:
“Does the company disclose a policy requiring an annual performance evaluation of the board?” Consistent with QuickScore 2.0, this factor looks at not just the existence of an evaluation process but also takes into account the nature of the evaluation (e.g., frequency, individual, outside assessment). The evaluation should consider (a) in the case of the board or a board committee, its charter and (b) in the case of an individual director, the applicable position description(s), as well as the competencies and skills each director is expected to bring to the board.
“Is there a sunset provision on the company’s unequal voting structure?” This factor previously applied only to Canadian companies. Consistent with QuickScore 2.0, the factor does not indicate any particular duration of a sunset provision that will be acceptable.
“Does the company have a controlling shareholder?” For U.S. companies, this factor is a “zero- weight” qualitative factor that does not affect the quantitative score and is merely for informational purposes. This factor, which previously applied only to Japanese companies, looks at “whether the company has a shareholder or shareholders acting in concert and holding a majority of the voting
For a discussion of QuickScore 2.0, see our firm’s publication, dated January 30, 2014, entitled “2014 Proxy Season Developments”. The technical document for QuickScore 3.0 is available at http://www.issgovernance.com/ governance-solutions/investment-tools-data/quickscore-downloads/.
rights” on the basis that “[w]hen there is a controlling shareholder, the minority shareholders may face challenges in matters where their interests diverge from those of the majority shareholder.”
Amended factors. A number of existing factors have been revised, in most cases to reflect more objective metrics:
“What percentage of directors received shareholder approval rates below 80%?” While this factor did not previously specify a percentage (referring instead to approval rates below “industry-index levels”), ISS states that this is a shift from the previous level of 95% shareholder approval.
“Did the most recent Say on Pay proposal receive shareholders’ support below 70%?” Again, the prior factor did not specify a percentage, but referred to support levels below “industry-index levels.” The 70% threshold is in line with when ISS’s policies initiate a review of the board’s responsiveness in considering the next year’s say-on-pay and compensation committee recommendations.
“Does the company’s average 3-year equity grant rate exceed the greater of 2 percent and the average of its industry/index peers?” This factor previously referred to the granting of awards at “an excessive rate,” although the prior measure in QuickScore 2.0 (i.e., the greater of 2% of outstanding shares over the past three years or one standard deviation from the three-year industry mean) appears consistent with how ISS will approach this factor for QuickScore 3.0.
“Has a regulator initiated enforcement action against [the company or a director or officer of the company] in the past two years?” Previously, this factor referred only to securities regulators. In addition to whether a company was subject to enforcement action by a regulator, QuickScore 3.0 will analyze whether the investigation was resolved with a material penalty. In assessing the materiality of any penalties, ISS will consider the nature of the underlying investigation, the size of any monetary penalties (both on an absolute basis and relative to certain financial metrics, including, but not limited to, revenues, earnings, cash flows and market value), as well as non-monetary penalties or requirements. ISS will also consider settlement agreements with regulatory bodies, even if the company denies the allegations underlying the investigation.
Changes in weighting. Gender diversity on the board and the number of audit committee financial experts are now quantitative factors counting towards a company’s Board Structure and Audit & Risk Oversight scores, respectively (they were previously “zero-weight” under QuickScore 2.0). For the latter factor, ISS will look at whether companies have zero, one or two financial experts sitting on the audit committee.
In addition to the factor that looks at whether the company has a controlling shareholder, the following factors are “zero weight” for U.S. companies: board size, presence of former employees and family members on the board, whether the company has a poison pill with a TIDE provision that requires the independent directors to review the pill every three years (this was previously a scored factor), certain pay-for-performance metrics and the length of the CEO’s employment agreement.
Recognizing that certain factors are based on the vote results from the previous shareholder meeting, ISS has stated that, during the period of time from the date the ISS proxy research report is issued for a meeting until after the voting results are available, these factors will also be given a zero-weighting and will show in a company’s QuickScore profile as “pending.”
ANNEX A: QUICKSCORE 3.0 FACTORS (MARKED AGAINST QUICKSCORE 2.0 FACTORS)
The following is a list of the QuickScore 3.0 factors listed as applicable to U.S. companies in the ISS table made available at http://www.issgovernance.com/file/products/qs3-appendix-final.pdf, marked against the comparable list from QuickScore 2.0. The numbers below are part of ISS’s internal numbering system, and tie to the related explanation in the QuickScore technical document published on October 29. Factors with an asterisk are “zero weight” qualitative factors that do not count towards the score and are merely for informational purposes at this time.
AUDIT & RISK OVERSIGHT
1No-udites rpeenthtperenae f otale?
2Didhe udior ue n ae opnin n he ptear?
3Hs he pnyreatedianalsr anyperiodihinhe ptoear?
4Hs he pnyade o-ielyinanaldilreilns inhe ptoear?
Has a securities regulator taken initiated enforcement action against the company in the past two years?
Has a securities regulator taken initiated enforcement action against a director or officer of the
company in the past two years?
Is the company, a director or any officer of its directors and officers, the company currently under investigation by a regulatory body?
8 Has the company disclosed any material weaknesses in its internal controls in the past two fiscal
6 How many financial experts serve on the audit committee?
9 How many directors serve on the board?*
304 What is the number / proportion of women on the board?
10 What is the independent director composition of the Board?
13trooin of o-eeive dierson he bad hs lenghyenue?
14tis e cliatn of e Chan f he oad?
16 Has the company an identified senior a Senior Independent Director or an independent director
205teenge f he oadoiss f imedatemlymbs ofaoiyhaehode, eeuts ad fr eeuts (ihinhe pte ear)?*
206teenge f he oadae omer r rentoees f hempan?*
19 What percentage is the independent status of the nominating committee members are independent based on ISS standards?
25 What is the independent status of the compensation committee members?
31 What is the independent status of the audit committee members?
Does the CEO serve on an excessive number of outside boards? / How many boards does the CEO sit on? (U.S. only)?
38Howmanynoeeuts re onan eener f ouideoa?
45 Did any directors attend less than 75% of the aggregate board and [applicable key]3 committee meetings without a valid excuse?
49 How many directors received withhold/against votes of 50% or greater at the last annual meeting?
3 While the bracketed language has been added to this factor, the QuickScore 3.0 technical document explains that it applies only to Canadian companies. For U.S. companies, this question is not exclusive of key committees only.
312 What percentage of directors received shareholder approval rates below the industry index level
315 What is was the average size of outside directors dir ec tor ’s total compensation as a multiple of the peer median of company peers?
144 Do all directors with more than one year of service own stock?
243 Did any executive or director pledge company shares?
41 Does the company disclose a policy requiring an annual performance evaluation of the board?
46 Does the company disclose board/governance guidelines?
143 Are directors subject to stock ownership guidelines?
244 Does the company have a robust policy prohibiting hedging of company shares by employees?
50teentf he dios ee oed inmaeialR?
51Do he dros ih RPTsiton eyboadmie?
216 Are there material related-party transactions involving the CEO?
99 Has the board failed to implement a shareholder resolution supported by a majority vote, or failed to address the issue underlying majority director WHs?
345 H as ISS’ r ev iew fou nd tha t the Boa rd of D ir ec tor s rec en tly t oo k a ction that materially reduces
SHAREHOLDER RIGHTS & TAKEOVER DEFENSES
54Dos heanyhaeles f k ih dieentotg righ?
55re hee anydies on heboad ho ae notupor eeionbyalllaes f mn hrhole?
Is the r e a s unset pr ov is ion on the c ompa ny’s uneq ual v oting s tr uc tur e?
77 Are all directors elected annually?
83 Is the board authorized to issue blank check preferred stock?
78Dos heanyhae aoon pill(haeoldr rihtspln)ine?
79tis e riggr heholdor he pon pil?
80Dos he oion pillhe anetrison?
81Dos he oion pillhe aTDEpio?*
82Dos he oion pillhe aualifed erla?
91 What is the expiration date of the poison pill?
220 Is the poison pill designed to preserve tax assets (NOL pill)?
222n s he oion pillpend orened?
223Dos hean’s poon pllinlue aodid slow-hd orda-hnd rison?
290 Does the company have a controlling shareholder?*
224 If the company has a majority voting standard, is there a plurality carve-out in the case of contested elections?
89Dos heanyrequre aupmajoiyoteo apreeens o he ar ad
90Dos heanyequre aupmajoiyoteo apremerebies bnain?
97tis e pentae ofre apialnedd o cnenea spialmeein?
98Canhrholes tbyrien en?
52 Does the company have a majority vote standard in uncontested elections?
225re heeateralrriosas o ing r opis o beded,or oehp eelsequred o callheeeig?
226tis e dere of algmntbeeen he an’s mulaie -ear paypeenilera, relae o pe,and s -ear ulae R ra,reate o pe?*
What is the degree of alignment between the company’s cumulative 1-year pay percentile rank,
relative to peers, and its 1-year cumulative TSR rank, relative to peers?*
What is the size of the CEO’s 1-year cumulative pay, as a multiple of the median pay for company peers?
229tis e dere of algmntbeeen he an’s TR andane n CEOayoer he patie ear?
232 What is the ratio of the CEO’s total compensation to the next highest paid active executive?
329 What is the degree of alignment between the company’s annualized 3-year pay percentile rank, relative to peers, and its 3-year annualized TSR rank, relative to peers?
156 Are any of the NEOs eligible for multi-year guaranteed bonuses?
237 What is the ratio of the CEO’s non-performance-based compensation (All Other Compensation) to Base Salary?
129 Do the company’s active equity plans prohibit share recycling for options/SARs?
138 Do the company’s active equity plans prohibit option/SAR repricing?
238Dos hean’s ae euiyplans rohbitopionRah buou?
239Do hean’s aie euiyplans ae anrgen poio?
240Do hean’s aie euiyplans ae alibealCCdniion?
139 Has the company repriced options or exchanged them for shares, options or cash without shareholder approval in the last three years?
130 Does the company grant compa ny’s aver age 3-year equity awards at an excessive grant rate
according to ISS policy exceed the greater of 2 percent and the average of its industry/index peers?
155 Did the company disclose a claw back or malus provision?
What are the minimum vesting periods mandated in the plan documents for executives’ stock options or SARS in the equity plans adopted/amended in the last 3 years? What are the minimum vesting periods mandated in the plan documents, adopted/amended in the
last three years, for executives’ restricted stock/stock awards?
134tis e holdng/etenionperod orok opins(or eute)?
135tis e holdngetenionperod or ericd saeok aads or eeut)?
145 What proportion of the salary is subject to stock ownership requirements/guidelines for the CEO?
113 Does the company disclose a performance measure for the short -term incentive plan (for executives)?
246 What is the level of disclosure on performance measures for the latest active or proposed long -
term incentive plan?
328 Did the most recent say- Say on -pay Pay proposal receive shareholders’ support below the industry index level? 70%?
148 What’s the trigger under the change-in-control agreements?
153 Do equity based plans or other long- term plans awards vest completely upon a change- in- control?
161 What is the multiple of the change pay in control/ the severance paymentagreements for the CEO (upon a change-in-control)?
247 What is the basis for the change-in-control or severance payment for the CEO?
162Dos heanypode eie axgo-psoran-nntrolaen?
163tis e engthf mplomentagementih he CO?*
300Hs ’qualiate eewieniid apa-opromae algnt?
301Hs Sidentid apoblmic paypaie oroliyhatrais or?