ISS QuickScore 3.0

David A. Katz is a partner at Wachtell, Lipton, Rosen & Katz specializing in the areas of mergers and acquisitions and complex securities transactions. The following post is based on an article by Mr. Katz and Sabastian V. Niles.

Yesterday evening, Institutional Shareholder Services (ISS) announced its third iteration of the Governance QuickScore product, with QuickScore 3.0 scheduled to be launched on November 24, 2014 for the 2015 proxy season. Companies will have from November 3rd until 8pm Eastern time on November 14th to verify the underlying raw data and submit updates and corrections through ISS’s data review and verification site. ISS currently plans to release the new ratings on November 24th for inclusion in proxy research reports issued to institutional shareholders. Ratings should be updated based on companies’ public disclosures during the calendar year.

Listed in Annex A are the individual factors ISS currently plans to assess for the U.S. market in QuickScore 3.0 (which was preceded by QuickScore 2.0, QuickScore 1.0, the GRId Governance Risk Indicators and the original CGQ Corporate Governance Quotient). At present, the topics addressed in this latest iteration will address at least seven new items:

  • (1) “Does the company disclose a policy requiring an annual performance evaluation of the board?”
  • (2) “Has the board failed to address the issue underlying majority director WHs (withhold votes)?”
  • (3) “Has ISS’ review found that the Board of Directors recently took action that materially reduces shareholder rights?”
  • (4) “Is there a sunset provision on the company’s unequal voting structure?”
  • (5) “Does the company have a controlling shareholder?”
  • (6) “Does the company’s average 3-year equity grant rate exceed the greater of 2 percent and the average of its industry/index peers?”
  • (7) “How long is the notice period for the CEO if the company terminates the contract?”

With respect to continuing factors, Board-Level Gender Diversity, which had previously been disclosed in the QuickScore report for informational purposes but did not impact ratings, is now expected to be scored and weighted for the first time. Other new factors from QuickScore 2.0 that impacted scoring, such as “lengthy” director tenure, low director approval rates relative to average industry levels of support, low say-on-pay support levels relative to average industry levels, measures of outside director compensation and levels of alignment between pay and TSR – will continue to affect rankings. Regulatory investigations have also historically impacted scoring, and QuickScore 3.0 is expected to address regulatory matters, including materiality of penalties, in greater detail under the “Audit and Risk Oversight” category (the specifics of how this will be done have yet to be released). Notably, perhaps in a nod to concerns that the longstanding “snapshot in time” approach is inadequate, the QuickScore 3.0 reports will include data on historical scores and changes made by a company, as well as directional graphics conveying whether and how scores have improved, stayed the same, or declined over time.

We remain concerned by attempts to reduce the complex realities of corporate governance into easily digestible, but inherently misleading, “scores,” particularly ones based on unproven and opaque methodologies. For example, ISS has previously failed to disclose the specific weightings and balancing among the quantitative and qualitative factors in its scoring model, and we hope that ISS will take the opportunity presented by QuickScore 3.0 to provide greater transparency into its methodology and measurement system.

No single metric or bundle of metrics can substitute for the informed business judgment of a well-advised board as to what is necessary and appropriate in dynamic, real-world circumstances. We continue to urge companies and boards to see QuickScore for what it is—a data point generated by an artfully marketed product, rather than a target or an ideal—and to consider their individual circumstances in establishing and evaluating appropriate corporate governance practices and compensation policies for their companies.

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