For most medium and large public U.S. companies, share ownership guidelines and stock holding requirements have become a tick-the-box exercise. They ask their CEOs to retain five times their base pay in company stock, give them five years to get there, disclose the practice on their proxy statement, and forget about it.
A push may be coming, however, to re-examine the effectiveness of such plans and consider increasing the amount of company stock CEOs are required to hold. In the United Kingdom, for example, stock ownership guidelines and holding periods are becoming hot issues, with shareholders asking CEOs, other senior executives, and board members, to hold more stock and for longer periods of time.
Indeed, changes to stock ownership guidelines for CEOs and other executives were the top governance improvements in the United Kingdom among FTE 350 companies during the first half of 2017, according to a report by Institutional Shareholder Services, a governance monitoring and advisory firm. The ISS found that between January and July of this year, 65 of the 350 increased the shares CEO are asked to retain, 62 increased the amount non-CEO senior executives are required to hold, and 49 increased the period that executives are required to retain shares after exercising stock options or receiving share awards.
“Share ownership guidelines are one of the top ways to align the interests of top executives and shareholders,” says Cimi Silverberg, a managing director at executive compensation advisory firm FW Cook. “The idea is to make them think and act like owners by making them owners,” she says. While they are typically called “guidelines” since most policies are not legally binding, Silverberg says they are, in effect, requirements that executives are expected to meet.
“Share ownership guidelines are one of the top ways to align the interests of top executives and shareholders. The idea is to make them think and act like owners by making them owners.”
Cimi Silverberg, Managing Director, FW Cook
Some U.K. firms are reacting to pressure to increase that alignment. GlaxoSmithKline, for example, has proposed that its CEO Emma Walmsley, be required to increase her stock holding in the company up to six-and-a-half times her base salary. And while it left the requirement for non-CEO top executives to three times base pay, it took the additional step of requiring those ownership levels for 12 months into retirement. Other U.K.-based companies that increased the level of share ownership requirements include Acacia Mining and Aggreko, which doubled the portion of stock that they require their CEOs to hold.
Since governance trends in executive compensation tend to migrate from Europe or the United Kingdom—think “say on pay”—institutional investor advocates may soon be calling on U.S. companies to revisit stock ownership guidelines with an eye toward increasing their levels.
In fact, some investors are already calling for better share ownership policies. In his annual letter to CEOs last year, Larry Fink, CEO of BlackRock (which has $5.7 trillion is assets under management and has been known to side with activist investors), called for companies to find better ways to incentivize executives to think as long-term investors, including using mechanisms in executive compensation plans to do so. “When BlackRock does not see progress despite ongoing engagement, or companies are insufficiently responsive to our efforts to protect our clients’ long-term economic interests, we do not hesitate to exercise our right to vote against incumbent directors or misaligned executive compensation,” Fink wrote.
Last year, a group of heavyweight investors and CEOs—including Fink, Warren Buffet, Bill McNabb of Vanguard, Brian Rodgers of T. Rowe Price, Jeff Immelt of GE, and several others—released an open letter calling for adoption of a set of “Commonsense Corporate Governance Practices.” In the letter, the group called for compensation plans for directors and CEOs that include a substantial portion of pay in stock, performance stock units, or similar equity-like instruments. The group also called for requirements for CEOs to hold those shares. “Companies also should consider requiring directors to retain a significant portion of their equity compensation for the duration of their tenure to further directors’ economic alignment with the long-term performance of the company,” the investors and executives wrote.
WHO OWNS WHAT?
Below is data on stock ownership guidelines from ISS Analytics.
Data going back to 2013 shows that most Russel 3000 companies, and nearly all of the S&P 500, have implemented stock ownership guidelines for their CEOs:
Among large-cap companies, stock ownership guidelines have been the norm for some time—and the outliers who don’t have them seem to be adopting them over the years. Among smaller companies, the adoption rate isn’t as high, but it is steadily increasing year by year.
When looking at how big the ownership guidelines are, put each company that has a stock ownership guideline into one of five buckets, starting with “unusually large” (10x base salary or greater), then into the “robust” category (at least 6x base salary), “standard” (5-6x), “below Standard” (3x-5x), and “low” (
GOING ALL IN
While many public companies are requiring their top executives to own anywhere from five to six times’ their annual base salary in stock holdings, some companies require even more skin in the game, at 10 times base salary. These include:
Activision Blizzard, Inc.
Affiliated Managers Group, Inc.
Fidelity National Information Services, Inc.
General Electric Company
General Mills, Inc.
Intercontinental Exchange, Inc.
Leucadia National Corporation
Lowe’s Companies, Inc.
Northern Trust Corporation
T. Rowe Price Group, Inc.
The Goldman Sachs Group, Inc.
The Southern Company
Under Armour, Inc.
Wells Fargo & Company
Wynn Resorts, Limited
Source: ISS Analytics—the data & analysis arm of Institutional Shareholder Services
Gaining governance credit. Executive compensation experts say, though, that the topic of share ownership guidelines has not been an active governance issue in the United States in recent years. “There hasn’t been a ton of movement in terms of design of these plans,” says Matthew Goforth, senior governance advisor at Equilar, an executive compensation and board governance advisory firm.
Silverberg agrees. “In the United States, there hasn’t been a lot of changes to share ownership guidelines in the last three years or so,” she says. “Companies seem satisfied with CEO ownership levels at five or six times base salary with five years to achieve levels.”
According to research by ISS, there has not been much change during the last four years, but more companies have adopted guidelines, especially smaller public companies. The number of Russell 3000 companies that have implemented stock ownership guidelines for CEOs, for example, increased from 61 percent in 2013 to 68 percent this year. During the same period, such plans became nearly ubiquitous among larger S&P 500 companies, going from 92 percent in 2013 to 96 percent this year.
Companies have also increased the level CEOs must hold, with the most common change going from five times base salary to six times, with 55 percent of companies now setting the level at six times or more. “The old gold standard was five times, but we have seen it migrate to times during the past few years,” says John Roe, managing director and head of ISS analytics at Institutional Shareholder Services.
Time for a Change?
Count ISS’s Roe among those who think it may be time to re-examine stock ownership guidelines for CEOs. He says the problem is that CEO base pay has remained fairly stagnant in recent years, while total compensation, including bonuses and equity awards, has increased. “We haven’t seen a lot of growth in the base multiple, so the current typical guidelines do not motivate a lot of stock ownership,” says Roe. “Are we motivating long-term ownership with these guidelines? The answer is not really,” he says.
Roe suggests that “it might be time to rethink how we put ownership guidelines in place,” and suggests that companies—especially those that pay CEOs a comparatively lower portion of their pay in base salary—might be wise to set stock ownership guidelines as a multiple of total CEO compensation, even one as low as two times base salary.
Indeed some companies have taken the bold step of requiring CEOs to hold ten times their base pay or more in company stock, including Apple, GE, Microsoft, and many others. For some of these companies, however, CEOs already owned a large portion of company stock. “If a long-time CEO already holds a high level of company stock, some companies figure they might as well set the guideline high and earn governance credit from ISS for it,” says Silverberg.
Should holding periods be increased? Another area that could be ripe for reform is how long CEOs, other executives, and directors are required to hold stock after it vests or after they execute stock options. A movement underway in the United Kingdom and Europe is to require executives and directors to hold a certain percentage of equity grants until retirement.
While there is no push currently to put such standards in place at U.S. companies, according to Silverberg, more companies here are requiring CEOs and others to hold 50 percent of equity grants and awards until the stock ownership guidelines are met. Some companies, such as Eli Lilly require the CEO and other top executives to hold all shares from equity payout programs for at least one year.
While such requirements are less common than those that require holding a certain percentage (generally 50 percent) until ownership guidelines are met, Roe says they are a good way to align management and shareholder goals. “Post-vesting holding requirements are a good way to create alignment and have more teeth than plans that require holding only until ownership guidelines are met,” says Roe.
Too much of a good thing. Some governance experts warn that increasing stock ownership guidelines too high can have some unintended consequences. “If CEOs have too much of their personal wealth at stake they might have an incentive to either take too much or too little risk, depending on the situation,” says Equilar’s Goforth.
Goforth points to another problem with setting stock ownership requirements too high: It could become a hindrance to hiring and retaining top executives. “From a talent management perspective, competition for the top executives is intense and no one wants to be an outlier on ownership guidelines,” he says.
Unless pressure intensifies, most companies will take a Goldilocks approach to stock ownership guidelines: not too high and not too low, generally following the 6Xs for CEOs, 4Xs for the CFO, and 3Xs for directors and other top executives. “Most people agree it’s a good corporate governance standard,” says Goforth. “As long as the company does its homework and gets their numbers right and gets their policy design right, there is not going to be a lot of vocal opposition from shareholders and governance experts,” he says.