The DOs and DON’Ts when rethinking incentive plans

Why have 75% of first-time say-on-pay votes failed in 2019? A large number of negative votes can be attributed to incentives. Companies need to rethink their incentive plans and make sure metrics truly benchmark performance.

Seventy-five percent of first-time say-on-pay (SoP) votes failed in 2019, and a large number of these negative votes focused on incentives.

There is an increasing need for companies to fully rethink their incentive plans, as the CGlytics whitepaper “How to take the testing of equity-based compensation plans into your own hands” points out.

“It is imperative that companies design their equity pay plans to ensure they receive shareholder approval first time, every time. In order to meet investor expectations, companies need to understand how they, and the proxy advisors they rely on, evaluate equity plans and make voting decisions.”

Marc Ullman, a partner with Meridian Compensation Partners explains what to do and what not to do in rethinking incentive plans.

First of all, companies need to fully rethink their compensation plans, and not to just tweak them. Making just a few cosmetic changes will not suffice to ensure that incentives are effective. At least every two years, a real restructuring is needed.

Often shareholder pushback will incite a rethink, but even with shareholder support, benchmarking for effectiveness is critical as priorities change and the business climate evolves. The plan must reflect the new realities the business faces.

Or the incentive plan may simply become too complicated to be useful, as continually including more metrics and other add-ons makes application confusing. This often happens as businesses try to simply tweak the plan instead of really rethinking it.

 

Here are the do’s and don’ts to achieve as near optimal alignment between pay and performance as possible:

– If you need a full-scale rethink, don’t settle for a mere tweak. Make sure that what you do matters, don’t nibble around the edges. Make sure the metrics truly benchmark performance.

– But don’t overdo it. Pick out the key metrics and focus on that; don’t try to transform the whole structure unless you really feel that you have to.

– As the rethinking process is underway, take note of the solid rationale that stems from the business model. This will be something to communicate at the end of the process, and one that can be used for grounding the basis of your thinking.

– Make sure you include all the right people: Finance, HR, Corporate leadership, corporate leadership and the business unit. Everyone should buy in to the metrics and the targets that are being set.

– Make sure your plan pays something in year one. After a big rollout you need to make sure that design provides results. Otherwise it could hurt your credibility.

– Take advantage of feedback from shareholder outreach. More and more companies are actively talking to shareholders, and their points of view should at least be considered as the design is taking shape. Consider investor relations and investor perspective and proxy advisors like ISS and Glass Lewis.

– Communicate internally and externally. You have multiple audiences internally.

 

Predict Shareholder Approval with Glass Lewis’ Equity Compensation Model

 

The Glass Lewis Equity Compensation Model (ECM) allows you to instantly test and review your incentives plan using the same key criteria and scoring system as leading proxy advisor Glass Lewis. The ECM supports testing of 4,300+ publicly-traded U.S. firms including the Russell 3000 and exclusively available via CGLytics.

With the ECM you can confidently engage, knowing the strengths and weaknesses of your current and future equity plans. Ensure you get the votes to legally grant equity compensation to your executives, board members and staff.

Click here to learn more about the ECM application or request a no-obligation demonstration.

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Pressure from stakeholders brings about change

In an increasing number of companies, remuneration based on short-term results is giving way to a remuneration structure based on long-term performance. Companies should be able to indicate how the CEO’s remuneration contributes to long-term value creation, and be prepared to discuss their performance in this area.

It is an undeniable trend: in an increasing number of companies, remuneration based on short-term results is giving way to a remuneration structure based on long-term performance. The remuneration of executive directors is one of the most important governance issues for companies. Companies should be able to indicate how the CEO’s remuneration contributes to long-term value creation, and they should be prepared to discuss their performance in this area.

Supervisory and remuneration committees are expected to have assessed whether the remuneration is in perspective, both in relation to comparable roles, but also with respect to relationships within the company itself. In various countries, legislation that forces companies to explain how the remuneration of a top executive relates to the salaries of average employees within the organization is now under consideration.

Losing ground

The long-term focus in remuneration structures is also reflected in our data. For example, excessive severance payments, golden parachutes (a prior agreement on the level of severance pay) and substantial signing bonuses are becoming less and less common. In some countries, this kind of remuneration is now even prohibited. In addition, companies are increasingly using performance criteria that are in line with the long-term development of the company’s value. For example, generated cash flow as a criterion for the remuneration of executive pay is losing ground. Instead, the executive director’s performance is measured against metrics that say something about long-term value development, such as earnings per share.

Especially in financial sector

In the Netherlands, these developments can be seen mainly in the financial sector. In recent years, several listed financials have wholly or partly converted variable remuneration for executives and management into fixed remuneration. Moreover, this fixed remuneration more often consists of a combination of cash and shares of the company. With remuneration in shares, there is a direct connection between the remuneration of the executive director and the performance of the company. A similar development, but on a much larger scale, can be seen in the United States. Companies in a wide range of sectors are opting for a remuneration policy that combines cash and shares. These shares account for an average of 55 to 60 percent of the total remuneration package.

Stakeholder pressure

So the Netherlands has not got as far as the United States yet. But the trend has been set and it is irreversible. Greater attention to reasonable pay is in line with the focus in society and the business community on sustainable growth. Not all companies make the turnaround on their own initiative.

Not uncommonly, it takes pressure from stakeholders − such as major shareholders or employees − to start a discussion in the boardroom about a more sustainable remuneration policy. Large investors in particular − pension funds and insurers − are driving the change in remuneration. CGLytics data show that they are increasingly exercising their control to influence remuneration proposals. Not only are they expressing an explicit opinion on management board remuneration, but they also discuss the structure of the remuneration policy itself and the performance metrics used. Investors are calling for a sustainable and socially responsible remuneration policy by including ESG statistics (with environmental, social and governance variables). Shell sets short-term targets to reduce CO2 emissions and ties executive pay to these targets. Other groups have to keep up with such trends. If they do not do so proactively, they expose the company to financial and reputational risks.

Long-term focus

More than ever before, executive and supervisory directors need to strike a good balance between corporate strategy, remuneration of talent and the interests of shareholders. So the question is not whether Dutch companies should focus their remuneration policy more on long-term value creation, but when.

For more information about how CGLytics’ executive compensation data and tools informs companies of how they compare to their peers reumuneration practices click here.

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Good corporate governance begins with good data

Effective corporate governance starts with having the right information. In an ever-changing corporate governance landscape of continually increasing, publicly available information, shareholder involvement, activism, ongoing media campaigns and continual changes to governance regulations, having the right information from the start can be the difference between success and ongoing shareholder revolt.

Effective corporate governance starts with having the right information. In an ever-changing corporate governance landscape of continually increasing, publicly available information, shareholder involvement, activism, ongoing media campaigns and continual changes to governance regulations, having the right information on a timely basis from the start can be the difference between success and ongoing shareholder revolt.

This article first appeard in Ethical Boardroom, the premier subscription based magazine and website that is trusted for its in-depth coverage and analysis of global governance issues. Click here to access the original article.

Boardroom diversity, fair executive compensation, compliance to regulatory requirements, how companies compare against their peers and competitors and how they are perceived by investors and proxy advisors, needs to be thoroughly understood by boards of companies to stay ahead.

With heightened scrutiny of governance practices in the post-financial crisis era, it is now more important than ever for companies’ boards and their executives to be fully prepared, with the same data and information as investors and proxy advisors, before beginning engagement to avoid reputational and governance risk.

CGLytics, the leading provider for global corporate governance data analytics, provides real time data and a suite of powerful benchmarking tools to help companies and their boards with data- driven insights for sustainable practices and effective oversight. These tools support boards in making smarter, more timely and better-informed decisions.

The great debate of executive compensation

Investors over the past 12 months have continued to pay attention to, and even asked more questions about, the pay practices of companies and rewards offered to their CEOs and directors. Add to this the requirements set out in the revised European Shareholder Rights Directive (SRD II) to increase transparency of the company’s pay practices, including CEO to average employee pay ratios, CEO pay relative to company’s performance and extended say on pay rights of shareholders, companies should be sitting up and paying close attention.

During the last proxy season, executive pay was heavily and effectively challenged. Shareholders repeatedly voted down advisory remuneration reports and questioned short-term remuneration plans, urging companies to bring pay into line with performance. Many remuneration-related resolutions were voted down on the grounds of misalignment.

The UK, in particular, was at the forefront of shareholders concerns over excessive pay. To address these concerns, the Financial Reporting Council (FRC) issued a Revised Corporate Governance Code in July 2018, which encouraged directors to exercise independent judgement and discretion when authorising remuneration outcomes, by taking into account company and individual performance along with other circumstances.

Executive compensation data available in the CGLytics application

CGLytics carried out a proxy review with data from its extensive, global governance database of FTSE 100 companies and their pay practices. The study revealed that in 2018, 33 companies in the index sought a binding shareholder approval for their remuneration policies. Generally, investors questioned the earning potentials in short-term incentive plans, for example Rentokil Initial plc’s decision to increase the annual bonus from 100 per cent to 150 per cent cost the board a dissent of around 25 per cent on their remuneration policy. In addition, shareholder revolts were seen regarding remuneration reports where there was not enough clarity about contractual entitlements, as seen in the case of Royal Mail’s retiring CEO Moya Greene and new CEO Rico Back.

In other markets, shareholders became increasingly involved in company strategy, as seen in the Dutch AEX study carried out by CGLytics. Of the past years’ proposals to amend executive and supervisory directors’ remuneration, the majority encountered criticism and some were withdrawn prior to the AGM, or resulted in a large number of votes against.

“WITH HEIGHTENED SCRUTINY OF GOVERNANCE PRACTICES IN THE POST-FINANCIAL CRISIS ERA, IT IS NOW MORE IMPORTANT THAN EVER FOR COMPANIES’ BOARDS AND THEIR EXECUTIVES TO BE FULLY PREPARED”- Aniel Mahabier, CEO of CGLytics

To increase transparency and truly understand how stakeholders, including proxy advisors, are viewing executive compensation and predicting how they are going to vote, companies and their boards need access to, not only information, but also data and tools that allow them to instantly compare their company to their industry peers’.

CGLytics’ extensive database hosts more than 10 years of global compensation data and is driving good corporate governance practices by increasing CEO pay transparency and helping companies to be more prepared than ever before.

Using the same solution as leading proxy advisors and institutional investors, companies can replicate the peer groups of proxy advisors and investors with CGLytics’ customisable peer group modeler and easily perform a pay-for-performance alignment review. This empowers boards to know exactly what investors are looking at and scrutinising prior to engagement, be proactive with their reporting and make sure there are no hidden surprises come AGM time.

Diversity in the boardroom: where are all the women?

With companies, their boards, investors and governmental stakeholders all agreeing that goals that promote long-term value creation are imperative to corporate governance health, the issue of diversity comes into play. Why? Because having a diverse board is linked to long-term value creation.

A diverse board of directors with different ages, genders, nationalities, cultures, skills, experiences, tenure and backgrounds certainly creates new and interesting dialogue around best practices for long-term value creation and brings fresh ideas to the table.

With the speed of change happening today, driven by technology innovations, a variety of ideas, perspectives and knowledge is mandatory to keep up and make the best decisions by taking into account worldly happenings. And government and regulatory bodies are taking note. In particular, during the past year, the US has seen strict regulation changes in some states to even out the gender imbalance in corporate boardrooms.

California was the first state to legally require female representation on boards with the California Senate Bill 826 being passed. The law requires the appointment of at least one female to a company’s board of directors by 2019 and between one and three by 2021, depending on the size of the company. A fine of $100,000 can be expected for not complying. This was shortly followed by New Jersey , which mimicked California’s approach of at least one female director by 2019.

Earlier this year, using CGLytics’ software solution that provides extensive boardroom composition data and analytics, a review was carried out to evaluate the progress made in the US market and likelihood of achieving greater diversity in the coming years. By taking a deep dive into the board composition of S&P 500 companies, it was revealed that even though there is a push from investors for more diverse boards in order to maximise returns, change is not happening as fast as desired.

In CGLytic’s S&P 500 Diversity report it shows that from 2017 to 2018 total female representation on boards grew marginally, reaching 24 per cent, up just one per cent from 2017. In response to engagement with the investor community, as well as the new regulatory requirements, the number of women on boards rose from two in 2017 to three in 2018, showing only a slight increase in efforts being made. However, despite the slow growth in overall female representation, six of the seven companies that lacked at least one female director in 2017 corrected this in 2018.

The report also revealed that bringing younger directors into the boardroom does not only add value in terms of unique perspectives and improved innovation, but also impacts company performance. The findings show that there  is a clear and positive correlation between the number of younger board members and the total shareholder return (TSR).

As many investors continue to encourage and push for boardroom diversity for long-term value creation, it is now crucial for companies to, firstly, see how their boardroom composition, including skills, expertise, age and gender diversity is seen by the outside world. And, secondly, see how their company stacks up against their peers and competitors (see graph below).

Source: CGLytics Data and Analytics

Companies using the CGLytics software-as-a-service platform now have access to boardroom intelligence and can see exactly what their investors and proxy advisors see. Using this intelligence, which includes a skills and expertise matrix of more than 5,500 listed companies across the globe, boards are better preparing for AGMs, implementing effective succession plans and, at the same time, reducing their risk to reputational damage and activist investors.

In addition, having access to 125,000-plus global executive biographies in the CGLytics solution, including more than 20,000 female profiles (both existing as well as upcoming directors), with detailed information of skills, experience, compensation, interlocks and connections, nomination committees can lever new ways of scanning the market for talent, understanding corporate networks and work smarter with their search and HR firms when it comes to succession planning and recruitment. It really is helping companies to look beyond the standard practices and information available by leveraging technology to drive and implement good corporate governance practices and sustain a competitive advantage.

Why data, tools and smart technology are mandatory in the challenging times ahead

As we continue to see regulatory requirements to increase transparency of governance practices, such as CEO pay (through implementation of SRD II) and improve diversity (through legislation not only in the US but worldwide), a trend is emerging of investors becoming increasingly knowledgeable and sophisticated.

Not only are leading proxy advisors and institutional investors choosing to use data and analytics delivered to them from CGLytics, but some are building their own systems to stay informed and take advantage of investment opportunities. Companies need to have access to the same information as proxy advisors and investors, with the same sophisticated tools, in order to assess risks, better prepare for shareholder engagement and avoid potential activism. With knowledge being power, and transparency becoming a mandatory requirement, in the near future companies will have no choice but to use systems, such as those offered –by CGLytics, to keep up with investors and improve their reporting practices.

Board insights available in the CGLytics application

The need to keep up with intel on governance risk exposure was evident during the 2018 proxy season. The season saw record levels of shareholder activism, with some high-level campaigns – notably those of Elliott Management and Icahn Partners – hitting the headlines. Changes to board composition and M&A were the primary aims of these campaigns. A recent study performed by Lazard, shows that activists won 161 board seats in 2018, up 56 per cent from 2017 and continue to name accomplished candidates, with 27 per cent of activist appointees having public company CEO/CFO experience. The message is clear: boards must regularly review their governance vulnerabilities to minimise their exposure to activists, and to review vulnerabilities they must have access to the analytics and tools in platforms such as CGLytics’.

And themes that were established in the 2018 season are likely to continue. Shareholder activism will increase with institutional investors playing a more active role and driving change. It also seems likely that US activists will launch campaigns focussed on European companies. Forcing European companies to have access to global data for instant comparison of not just their country peers, but their industry peers and competitors globally.

To prepare effectively for shareholder engagement and anticipate response, companies and their boards must also be looking at past voting habits and patterns, and resolutions from other AGMs during the season. By looking at the trends of past shareholder voting and keeping abreast of happenings during the current proxy season, boards can spot patterns and predict the outcomes of shareholder voting resolutions.

CGLytics’ platform hosts an extensive database of N-PX filings with voting proposals and resolutions from 2004 onwards, covering 4,000-plus investors with more than eight million data points. With this information on hand, plus the benefit of receiving up-to-date alerts of shareholder voting outcomes, boards remain on top of voting trends and can easily identify investors for a proactive engagement.

The next era in corporate governance intelligence

The pressure on companies and their boards to increase transparency of executive compensation and pay practices, improve age and gender diversity, and constantly assess their board quality and effectiveness will not go away.

As investors and their proxy advisors gain greater insights and intelligence by use of data and smart solutions, companies will need to do the same. Boards need to ensure they are on top of their exposure to governance risks in order to avoid activism at all costs and any possibility of reputational risk – and they need to do this efficiently.

Would you like to learn more about how, you too, can have instant insights into more than 5,500 globally listed companies’ board composition, diversity, expertise and skills? As well as access the same executive compensation data used by Glass Lewis in their Proxy Papers? Click here to learn more.

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SRD II and the ramifications for disclosure obligations

With the proxy season fast approaching SRD II is top of mind. Learn about the implications SRD II will have on disclosure of executive pay and corporate goverannce.

With the next proxy season fast approaching the Shareholder Rights Directive (SRD) is top of mind. Extensive disclosure obligations are part of the second iteration and reliable information is key to ensuring requirements are met.

 

This article is part of the featured news report by governance.co.uk on SRD II. Click here to download the full article.

With the EU directive requiring transposition into domestic law in all Member States by September 2020, companies have a limited window to comply with the new requirements and ensure they have aligned their company’s structure in a way that encourages shareholder engagement long term.

The directive’s main aims involve long-term thinking and practices, transparency and increased engagement. However don’t think that this doesn’t also have implications for institutional investors, asset managers and proxy advisors. 

The new regime involves institutional investors and asset managers having to disclose their engagement  policies, and intermediaries to make sure they facilitate the transmition of information to shareholders in a transparent manner. This includes publicly disclosing what they charge for these services.

In short, the SRD II is aimed at reducing short-termism and excessive risk taking by EU companies, plus increasing transparency all-round.

The problem of pay

With executive pay being heavily scrutinized over the past few years, it comes as no surprise that SRD II calls for change to pay disclosures. Creating a better link between pay and performance of company directors, and bringing an end to short-term targets as a measure of success. With this aim brings requirements of providing greater detail and information to support pay policies, including what metrics are being used to measure executive performance. Decisions will have to be rationalized and justified in detail, and without data and facts showing exactly why these decisions were made, companies put themselves at risk of non-compliance.

For companies and investors to meet the requirements of SRD II and as they become effective in the 2020 proxy season (and for intermediaries to be fully compliant) there is no doubt that they need access to accurate and reliable data. CGLytics is already helping many companies, investors and intermediaries get up to speed with meeting obligations, including providing Glass Lewis with data for their Proxy Papers, and you can be fully prepared too.

If you would like to know more about the impact SRD II will have on your company or firm, click here to download the full article

Or reach out to us at CGLytics and receive a free explanation and assessment on how it’s likely to affect you. Click here

Aniel Mahabier SRD II quote

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How can innovations in information technologies support the role of the board of directors?

How far should we go in terms of sophisticated algorithms in order to complement the usual dashboards? What type of data processing tools boards need while avoiding a big data overload? How can a board leverage data and AI for effective oversight and to make better governance decisions?

6 November 2019  14.00 – 15.00 Brussels time     

Companies have to monitor their environment according to defined objectives and integrate the collected data into real strategic and operational information. Business intelligence is there to support not only the management but also board members in making better decisions. In a more demanding environment, board members have to understand the drivers of value creation and develop the right metrics to articulate value. Actionable and real-time insights are therefore becoming even more critical for board members. How far should we go in terms of sophisticated algorithms in order to complement the usual dashboards? What type of data processing tools boards need while avoiding a big data overload? How can a board leverage data and AI for effective oversight and to make better governance decisions?

Our speakers will provide their input to the debate:

  • Aniel Mahabier, CEO at CGLytics;
  • Deepak Krishnamurthy,  Executive Vice President and Chief Strategy and Transformation Officer at SAP;
  • Michael Hilb, Entrepreneur, Board Member and Professor;
  • Rytis Ambrazevičius, Baltic Institute of Corporate Governance, President;

 

The webinar will be moderated by Suzanne Liljegren, ecoDa Communication Adviser.

Download the invitation here

ecoDa and CGLytics webinar

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Equity Incentive Schemes: Examining the rationale behind shareholder rejection

Two historical examples of organizations that have had their stock option plans rejected by shareholders include Red Lion Hotels and HomeAway. How could they have reduced the likelihood of rejected plans? Read to find out

The approval for equity-based incentive plans, or amendments to current plans, is a critical part of many organizations strategies to acquire and retain premium talent. Opposition or even rejection by shareholders can derail these efforts.

In this article we look at two historical examples of organizations that have had their equity incentive plans rejected and explore the reasons behind and impact of shareholder opposition.

When Red Lion Hotels was punished for lack of clear strategy

In 2019, Red Lion Hotels Corporation’s (NYSE: RLH) shareholders delivered a blow to the company by voting overwhelmingly (70% opposed) against the proposed amendment to the 2015 stock incentive plan.

Shareholders were troubled by, what they perceived, as the board’s continued inability to fulfil its obligations and the absence of a clear strategy (Vindico Capital LLC – letter to the board). Flat performance of the stock over time and significant underperformance against the market and industry peers were particular points of concern for shareholders.

When HomeAway was sent packing

In 2015, HomeAway (NASDAQ: AWAY) had their amended equity incentive plan rejected. Investors felt equity awards continued to be granted despite diminishing returns for investors over time. While the Market Capitalization of HomeAway had remained relatively steady over two years, the rest of the index saw significant gains. Total Shareholder Return was perceived as minimal in this context and the equity awards were seen to be rewarding poor performance. Ultimately HomeAway was acquired shortly afterwards and incorporated into one of the largest travel industry players, Expedia.

Trends in the opposition

When shareholders are considering the impact of diluting their holdings, they require that any potential value lost by the equity incentive plan is offset by the value the business gains by meeting the qualifying KPIs. Whether this is Market Capitalization, Total Shareholder Return, EBITDA or free cashflow, there has to be a compelling strategic rationale for the award of equity. Further, the remuneration committee must ensure that the organization behaves is a prudent manner, even after the plan is agreed to.

Test your equity compensation plans with Glass Lewis’ Equity Compensation Model

Reduce the likelihood of shareholder rejection on your stock option plans and proposals with Glass Lewis’ new  Equity Compensation Model (ECM) application. Now available exclusively via CGLytics. Providing unprecedented transparency to the U.S. market in one powerful online application, both companies and investors can use the same 11 key criteria as the leading proxy advisor to assess equity incentive plans.

Click here to experience Glass Lewis’ new application.

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