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Proxy Advisers Make Changes to Voting Guidelines for 2013

Joseph McCafferty | December 7, 2012

The two major proxy advisory firms, Glass Lewis and ISS, recently issued updates to their U.S. proxy voting guidelines for 2013. These are the yardsticks by which they measure corporate practices to determine how they should recommend institutional shareholders vote their ballots on a host of governance and shareholder proposal topics.

As has been the case for the last several years, compensation issues still dominate the discussion on the guidelines proxy advisory firms use to influence their vote recommendations. Last year, ISS caused a stir by shifting the way that it views executive pay plan comparisons to other companies. ISS decided it would compare the relationship between a company's executive compensation and  shareholder return over the short and long term, as well as how the company stacks up to its peers during those timeframes. ISS also decided it would select peer groups based on revenue levels and market capitalization, as well as by industry.

The change caused a kerfuffle, since ISS peer groups typically don't match the ones companies have been using for their own benchmarking. That's because company peer groups often have an aspirational element. Companies may think they run with a different crowd than ISS does, often a bigger, better-looking crowd that can push pay levels up when they are used to influence compensation decisions. The move caused some companies, like Disney and Actuant, to lash out against ISS after they blamed the peer-group analysis change for negative vote recommendations on their pay plans.

This year, there are no major changes in the updates to the proxy voting guidelines from either firm on the scale of ISS's peer group analysis change. Still, there are some specific changes that companies need to factor into their 2013 proxy season planning.

Compensation Analysis

At the top of the list is an adjustment to that peer group analysis that ISS began last year. Perhaps due to the backlash, ISS is making the policy somewhat more company friendly, by incorporating information from the company's self-selected pay benchmarking group into its model. ISS is also relaxing size requirements, especially for particularly large and small companies, with the intention of selecting more representative peer groups, and will use revenue instead of assets for certain financial companies.

ISS will add a measure of "realizable pay" to the reports for large companies when evaluating compensation relative to performance, recognizing a trend toward the increased use and disclosure of realizable pay metrics by companies. ISS will include in realizable pay actual equity awards earned, or target values for ongoing awards, calculated using the company's stock price at the end of the performance period. For stock options and stock appreciation rights, ISS will re-value them using the Black-Scholes model. The addition of realizable pay is also more company friendly since it strips out some equity awards and other compensation structures that may not be realized for a long time, if ever.  

At Glass Lewis, the biggest change to its proxy voting guidelines in the compensation area comes to how the proxy adviser evaluates the board's reaction to getting a relatively high percentage of votes against the compensation plan. At companies that got more than 25 percent of the vote in opposition to their say-on-pay proposal this year, Glass Lewis says it will look for evidence in the proxy statement and other public filings that the compensation committee is responding to the prior year's vote results, including by engaging with large shareholders to identify their concerns. Companies that received poor say-on-pay votes and then don't actively engage shareholders could see recommendations by Glass Lewis to hold compensation committee members accountable for a failure to respond. It will also consider the level of the vote against and the severity and history of the compensation difficulties.

Board Responsiveness

In fact, the 25 percent threshold is a new tripwire that Glass Lewis is setting up. It expects the board to kick into gear when a shareholder issue gets more than a quarter of the votes. Glass Lewis recommends that any time at least 25 percent of shareholders vote against management recommendations or for shareholder proposals the board should demonstrate some level of engagement and responsiveness to address shareholder concerns. At this threshold, Glass Lewis will examine the issues and consider whether the board reacted sufficiently after the vote. This includes instances when 25 percent or more of investors withhold or vote against a director nominee.

ISS made changes to how it will view board responsiveness too, including how it measures majority support. The firm will now consider a proposal to have gained majority support if it wins a majority of shares cast, not just a majority of shares outstanding. That's a significant change, since many shareholders never cast their votes. ISS says it will recommend a vote against or withhold vote if a shareholder proposal received the support of a majority of shares cast during the prior year and one of the two previous years and the board failed to act on it.

ISS also updated its guidelines on director attendance. The firm says it will recommend that shareholders vote against directors who attend less than 75 percent of the total board and committee meetings for the prior period, unless there are special circumstances, such as an illness, family emergency, or the board held too few meetings to make a valid judgment on attendance.

Both firms made changes to how they view directors who sit on too many boards, especially sitting CEOs. Glass Lewis says it will recommend that shareholders vote against directors who serve as CEOs and sit on two other boards. ISS has had that policy in place as well as a policy against serving on more than six public company boards for non-CEOs. However, it is changing its view on public company subsidiaries, and will now count them as separate boards.

While neither firm is making any groundbreaking changes, there are enough new wrinkles that companies will want to study the new guidelines to see if any of their policies or practices could raise red flags at the two proxy advisory firms. Companies that do will want to get out in front of the issues and communicate to large shareholders about why they shouldn't be judged by the proxy firms' set standards. And expect more companies to push back on ISS's and Glass Lewis's analysis.