The purpose of this post is to highlight compensatory action items that publicly-traded issuers should consider this proxy season. Such considerations include:
- Chase the Say-on-Pay Vote. The most common reason for a negative recommendation from ISS is a perceived pay-for-performance disconnect within the compensation structure. Robust disclosure on this point can help, especially disclosure that clarifies why certain performance criteria were used and explains the degree of difficulty associated with achieving target performance.
- Consider an Annual Equity Grant Policy. Some issuers grant equity awards to executive officers based upon an initial dollar amount that is then converted into shares. If such an issuer has a depressed stock price due to market volatility, then the conversion formula will result in the award having more shares (compared to the situation where the issuer’s stock price had not fallen). Is the issuer ripe for an allegation that the executives are timing the market because equity was granted at a low stock price for the sole purpose of receiving a larger number of shares? To help defend against such a question, issuers should consider having a documented annual equity grant policy. The policy could be formal or informal (with the latter being clearly presented in the CD&A of the issuer’s proxy statement).
- Underwater Stock Options. Underwater stock options generally have no retention value and continue to be a drag on an equity plan’s share reserve. Fixing the problem by repricing the underwater stock options can be expensive because an issuer’s desire to avoid incremental compensation cost (by conducting a value-for-value exchange of the underwater stock options) will often trigger the SEC’s tender offer rules and the necessity for the issuer to file a Schedule TO. Plus, shareholder approval of any repricing is likely required under the terms of the equity incentive plan. The point of this bullet is that this issue could have been avoided if the issuer had included a stock-price forfeiture provision within the award agreement at the time the stock option was granted (i.e., if the stock price falls to a certain price, then the stock option is automatically forfeited and the underlying shares revert to replenish the share reserve of the equity plan). This topic was the subject of a prior post entitled “Tip of the Week: Could a Stock-Price Forfeiture Provision Eliminate the Existence of Substantially Underwater Stock Options.”
- Simplifying Section 162 Administrative Provisions. With the repeal of the performance-based exception to the $1mm deduction limitation under Section 162(m), issuers with non-grandfathered arrangements should consider simplifying compensation administration by eliminating certain procedure requirements that were required under Section 162(m). But do not eliminate performance elements of the awards because ISS is looking for pay-for-performance disconnect!
- Director Pay Disclosure. The focus surrounding non-employee director compensation will continue this proxy season. Consider expanding the narrative that precedes the Director Compensation Table to have a more fuller discussion. Examples of discussion points to consider include: (i) what is the philosophy associated with director compensation, (ii) how is director pay assessed, (iii) what is the frequency of such assessment, and (iv) what is the process associated with benchmarking director pay (if any).
- Shareholder Ratification of Director Pay. To avoid the “entire fairness” doctrine and attain the benefits of a “business judgment rule” defense (the latter making it less likely that a plaintiff’s lawsuit on the issue will survive a motion to dismiss), consider whether it makes sense to seek shareholder ratification of some or all of the compensation paid by the issuer to its non-employee directors. For a more fuller discussion of the topic, see a prior post entitled “Discuss Director Compensation During the Fall 2018 Board Meetings.”
- Increasing Net Withholding Rate in the Equity Plan. Consider whether to revise the net withholding rate within the equity incentive plan from the supplemental rate of 22% to the highest marginal rate. Seems simple enough, but there are a number of issues to consider (e.g., whether an increase to the net withholding rate requires shareholder approval pursuant to the FAQs published by NYSE and NASDAQ, administrative complexities of next day deposit rules, how to effectuate the withholding from an IRS perspective, etc.). We previously touched upon this subject in a prior post entitled “Tip of the Week: 4 Ideas to Ease Tax Obligations When Equity Awards Vest During a Blackout Period.”
- Shrinking Labor Market. The cost of retaining key employees may increase as the baby boomers continue to exit the workforce (i.e., a thinning labor market should become the norm even if there is an economic downturn over the next 12 to 18 months). Consider implementing a compensatory self-assessment across all employee classes in order to close any retention gaps.