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E-MailStuart H. Gelfond is a partner in the Corporate Department at Fried, Frank, Harris, Shriver & Jacobson LLP. This post is based on a Fried Frank publication authored by Mr. Gelfond, Amy L. Blackman, Donald P. Carleen, and Jared Heady.
Recently, Institutional Shareholder Services Inc. (“ISS”) released the results of its global policy survey for 2015-2016 (the “Survey”). [1] The Survey reflects the results of 421 responses from a combination of institutional investors, corporate issuers, asset managers, pension funds, mutual funds, endowments and others. Each year, ISS typically considers the results of its annual global policy surveys when formulating proposed amendments to its Proxy Voting Guidelines. Below, we discuss some of the highlights of the Survey which may be a prelude to changes to be made by ISS to its Proxy Voting Guidelines in its next update.
Externally Managed Issuers
This topic focused on proposed say-on-pay resolutions at externally managed issuers (“EMIs”), such as externally managed REITs. Where the resolutions proposed by EMIs contained minimal or no disclosure about the EMIs’ compensation payments or practices, 71% of investor respondents to the Survey indicated that ISS should recommend a vote “against” the proposed resolution, 13% of investor respondents stated that an “abstain” vote would be appropriate, and 9% of investor respondents thought a “for” vote would be appropriate, absent some other significant pay-related concerns.
Use of Adjusted Metrics in Incentive Programs
Questions on this topic were designed to solicit the respondents’ views on the use of adjusted (non- GAAP) metrics to measure performance for the purpose of incentive compensation plans. In response, 61% of company respondents, and 81% of investor respondents, indicated that the use of adjusted measures were acceptable sometimes, depending on the nature and extent of the adjustments, while 37% of company respondents, and 8% of investor respondents, indicated that using board-determined adjusted metrics were always acceptable. Of the investor respondents who indicated that the use of adjusted metrics were sometimes acceptable, 66% considered such metrics to be acceptable as long as the proxy statement clearly discloses and reconciles performance goals and results with comparable GAAP metrics, as well as adequately explains the reasons for the adjustments.
Equity Compensation for Non-Executive Directors
The Survey asked respondents about the types of equity compensation, if any, that they consider to be appropriate for non-executive directors. In response, 71% of investor respondents, and 73% of non-investor respondents, indicated that granting shares in lieu of cash for retainers or meeting fees would be appropriate, and 52% of investor respondents, and 83% of non-investor respondents, indicated that granting time-vesting restricted stock would be appropriate. However, nearly 70% of investor respondents replied that granting stock options and stock appreciation rights to non-executive directors would not be appropriate, and 63% of investor respondents, and 69% of non-investor respondents, indicated that granting performance-vesting restricted stock is not appropriate. Varying from investor respondents, about 51% of non-investor respondents thought that it would be appropriate to grant stock options to non-executive directors. It was reported that some respondents suggested deferred share units that would vest after the director completes his or her board service may be a more appropriate form of compensation for non-executive directors.
Unilateral Bylaw Amendments
The Survey asked respondents about the appropriate measure to take in the event a board unilaterally (without a shareholder vote and approval) amends the company’s bylaws in a manner that materially diminishes shareholder rights. With respect to investor respondents, 57% indicated that it would be appropriate to hold the directors accountable for taking such unilateral action until the time that the diminished rights were restored, while 18% felt such directors should be held accountable the first time each incumbent director is next up for re-election, and 8% thought that only the directors on the ballot at the annual meeting following the unilateral action should be held accountable.
In addition, the Survey revealed that, of the investor responders who thought directors should be held accountable until the time diminished rights were restored, or who responded that the length of accountability for such action depends on the situation, 92%, 89% and 85% felt that (a) an amendment classifying the board, (b) establishing supermajority vote requirements for bylaw and charter amendments and (c) diminishing shareholder rights to call special meetings or act by written consent, respectively, warranted holding the board accountable until such rights are restored.
Pre-IPO Bylaw Amendments
In addition to the foregoing inquiry, ISS asked respondents to evaluate how a board should be held accountable for bylaw amendments adopted prior to a company’s IPO that materially diminish shareholder rights. Of investor respondents, 48% felt that boards should not adopt bylaw or charter amendments that negatively impact the rights of shareholders prior to an IPO, while 18% thought that the board should be free to adopt any bylaw or charter provisions prior to an IPO, as long as shareholders will be able to subsequently repeal such provisions without requiring a supermajority vote to do so. Nearly one-third of the investor respondents supported permitting boards to adopt any bylaw or charter provision, as long as it is disclosed clearly and timely to potential investors in the IPO.
Material Restrictions on Proxy Access
The Survey asked respondents what types of restrictions should be considered problematic enough to call into question a board’s responsiveness and potentially warrant “withhold” or “against” votes for directors in the event that a shareholder proposal to provide proxy access is supported by a majority of shareholders, but the board ultimately adopts proxy access with material restrictions not proposed by the shareholders. Of investor respondents, 90% indicated that it would be problematic and warrant a negative vote if an ownership threshold in excess of 5% or an ownership duration in excess of three years is adopted, while 72% found it problematic if an ownership threshold in excess of 3% is adopted.
Overboarding
The Survey asked about the maximum number of boards on which respondents consider it appropriate for a director to sit. With respect to directors who are not active CEOs, 34% of investor respondents felt that four total board seats is an appropriate limit, 18% indicated that a limit of five board seats is appropriate, and 20% thought that a limit of six board seats is appropriate. With respect to directors who are active CEOs, 48% of investor respondents indicated that two board seats (i.e., the CEO’s own company board and one other) is an appropriate limit, and 32% felt that a limit of three board seats (including the CEO’s own company board) is appropriate.
Director Independence and Cooling-Off Periods
Currently, ISS considers a former executive, other than a former CEO, serving on the company’s board to be independent after a “cooling-off” period of five years from the time that person last held an executive position at the company, assuming no other factors indicate such person should not be considered independent. With respect to investor respondents, 46% indicated the “cooling-off” period should begin to run only if the executive both leaves their executive position and is not a member of the board of directors during the “cooling-off” period, while 26% felt that it is sufficient for the former executive to simply have not held an executive position with the company for five years.
Controlled Companies
The Survey also asked participants for their thoughts about controlled companies. With respect to investor respondents, 56% indicated that, when making investment and/or voting decisions, they distinguish between controlled and non-controlled companies, and 96% responded that they do not engage more with controlled than non-controlled companies.
Conclusion
While helpful to consider, company directors and management should not replace their judgment with ISS recommendations. Companies should weigh their specific circumstances in establishing or changing policies in light of their unique situation and their overall corporate governance structure.
Endnotes:
[1] The Policy is available in its entirety at: http://www.issgovernance.com/file/publications/ISS2015-2016PolicySurveyResultsReport.pdf.
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