Shareholder and Governance Matters

Around the globe, regulators are requiring fuller disclosure of not only the level of executive remuneration, but also the policies on which it is based.  Regulators are requiring companies to show evidence of the link between pay and performance.  This article outlines the key recent reforms in the US, UK and Singapore.

Under the Say-On-Pay rules introduced in 2010 by President Obama in the US, all public companies subject to federal proxy rules must provide shareholders with an advisory note on executive compensation, on the desired frequency of say-on-pay votes and on compensation arrangements relating to larger merger transactions.

As with Australia, shareholder votes in relation to executive remuneration are starting to impact the design and structure of executive remuneration, company communication with shareholders and proxy advisors and now listing rules.

On 20 June 2012, the US Securities and Exchange Commission adopted rules to implement Section 952 of the Dodd-Frank Act, requiring stock exchanges to adopt listing standards that:

  • Impose independence requirements on compensation committee members
  • Authorise compensation committees to retain independent advisers, and
  • Require compensation committees to assess the independence of any consultant, legal counsel or other adviser that provides advice to the compensation committee, other than in-house counsel.

Stock exchanges have 90 days from the date the SEC’s rules are published in the Federal Register to propose listing standards that comply with the SEC’s rules, and the listing standards must be finalised and implemented no later than one year after the SEC’s rules are published in the Federal Register.

The SEC also adopted a rule that requires companies to assess whether any work performed by a remuneration consultant that was retained to provide advice on executive or director reward raised any conflict of interest, and if so, to disclose the nature of the conflict and how it was addressed. This rule applies to proxy and information statements for an annual meeting at which directors will be elected occurring on or after January 1, 2013.

The Say-On-Pay rules now cover a range of issues:

Say
Companies must include a resolution in their proxy statements asking shareholders to approve, in a non-binding vote, the compensation of their named executive officers.

Compensation Committee and Adviser Independence
Stock exchanges must adopt listing standards providing that the members of the compensation committee meet enhanced independence standards comparable (but not identical) to what is required for audit committee members under the Sarbanes-Oxley Act.

Enhanced Compensation Disclosure
Disclosure is required of the relationship of the compensation actually paid to executives versus the company’s financial performance.

Clawbacks
Stock exchanges must adopt standards requiring that listed companies develop and implement policies providing for the recoupment of compensation in the event of an accounting restatement.

Other Governance Provisions
Disclosure is required of the reasons why the company has chosen to have one person serve as Chairman and CEO, or to have different individuals serve in those roles.

US: Impact of Say-on-Pay legislation

From the commentary on the Say-on-Pay legislation, it would appear that the first phase of Say-on-Pay did not produce dramatic results, with fewer than 2 percent or only about 45 of approximately 3,000 corporate executive-compensation plans receiving “no” votes through shareholders’ Say-on-Pay. With part year data available for 2012, it looks like twice as many public companies will have failed their Say-On-Pay votes during the ongoing 2012 proxy season compared with 2011.

As the numbers grow, debate continues on which issues are of most concern to shareholders and proxy firms as they vote on pay proposals. Even though the Say-On-Pay vote is non-binding, about a dozen of those companies receiving no votes in 2011 also faced Say-on-Pay related shareholder lawsuits.

As the new era of Say-on-Pay unfolds, there has been a focus of directors on striking the right balance between designing an effective executive remuneration program that supports the company’s strategic business objectives, and one that is sensitive to shareholder perspectives. Boards are working to create a transparent link between pay and performance. As a direct consequence, remuneration programs have become more performance-based.

Companies have found that successfully establishing and demonstrating the pay-performance linkage is paramount to gaining majority shareholder support for the pay program. Both shareholders and proxy advisors expect companies to identify key measures of the company’s success, show how performance is being assessed and how pay outcomes for executives are related back to these two factors.

It would seem that boards have also strengthened the pay-performance linkage by minimising non-performance-based pay and reinforcing shareholder alignment. Directors who critically evaluate the business rationale for non-performance-based pay (such as perquisites and tax gross-ups) and use shareholder alignment tools (like share ownership guidelines and anti-hedging policies) are signalling to shareholders that the company takes pay for performance seriously.

According to Equilar research of all companies in the Standard & Poor’s 500 index, companies have started giving more bonuses in restricted stock than in cash, with the median amount of stock awarded to C.E.O.’s rising 10.7 percent from 2010 to 2011, with cash awards falling 6.8 percent.

Proxy advisory company Glass Lewis has recently commented that companies are taking the Say-on-Pay provisions on board and have improved plan design considerably as a result.

UK: Binding votes?

After a review of the disclosure of executive remuneration in the UK, in part mirroring the review carried out in Australia, Business Secretary Vince Cable announced plans in June for shareholders to have a binding vote on executive pay every three years. In what are being referred to as the most ‘comprehensive reforms of boardroom pay for a decade’, during his announcement in the House of Commons, Cable outlined that they will:

  • Give shareholders binding votes on pay policy and exit payments, so they can hold companies to account and prevent rewards for failure;
  • Boost transparency so that what people are paid is easily understood and the link between pay and performance is clearly drawn; and
  • Ensure that reform has a lasting impact by empowering business and investors to maintain recent activism.  

Under the proposed arrangements, companies will have to set out their proposed pay policy, including potential payments and the performance measures that will be used. They will also have to set out their policy on how exit payments will be calculated. Once approved by shareholders, companies will be required to act within the pay policy and will not be able to make payments outside the scope of that policy.

Shareholders will continue to have a say on payments made to directors through an annual advisory vote on the implementation of pay policy, including actual sums paid in the previous year.

To see the full coverage of the UK announcement on executive remuneration disclosure click here.

Singapore: Pay and performance links

Under revisions to the Code of Corporate Governance in Singapore made on May 2, 2012 and effective for all annual reports from November 1, 2012, there is an increased focus on the practices and disclosure of remuneration paid to company directors as well as executives.

Key guidelines and their rationale include the following:

Alignment of remuneration with long-term interest and risk policies
Such an alignment will serve to attract and motivate the directors to provide good stewardship of the company and key management personnel to successfully manage the company. Companies should however avoid paying more than is necessary to achieve this purpose. Performance related remuneration should ultimately be aligned with the interests of the shareholders and promote the long term success of the company, at the same time taking into account the risk policies of the company.

Contractual provision to reclaim incentive components of remuneration
Included to encourage companies to consider the use of contractual platforms and provisions to enable the company to reclaim incentive components of remuneration from directors and key management personnel in exceptional circumstances. This would include instances involving misstatement of financial results or misconduct resulting in financial loss to the company.

Independence in appointment of remuneration consultants
The existing relationships, if any, between the company and the appointed remuneration consultants must not affect the independence and objectivity of the remuneration consultants. For greater transparency, companies should disclose the names and firms of the remuneration consultants in the annual remuneration report and include a statement on whether the remuneration consultants have any such relationships with the company.

Disclosure on the link between remuneration and performance
Requirement for companies to disclose more information on the link between remuneration paid to executive directors, CEOs and key management personnel and performance. The annual remuneration report should set out a description of performance conditions to which entitlement to short-term and long-term incentive schemes are subject, an explanation on why such performance conditions were chosen, and a statement of whether such performance conditions were met.

Enhanced disclosure of remuneration
Report to the shareholders each year on the remuneration of the directors, the CEO and at least the top five key management personnel (who are not also directors or the CEO) of the company; disclosing the remuneration of each individual director and the CEO on a named basis. Additionally, the company should disclose in aggregate the total remuneration paid to the top five key management personnel (who are not directors or the CEO).

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