CalPERS Is Voting Against Directors Over Compensation – Will Others Follow?

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The message seems clear: find a way to better align executive pay with performance or have your re-election to the board opposed at the annual meeting.

The $410 billion California Public Employees Retirement System (CalPERS) is sending a message to members of corporate boards: find a way to better align executive pay with performance or have your re-election to the board opposed at the annual meeting. For such a large institutional shareholder to take such a stance is significant because it could encourage other large investors to do the same.

Executive compensation is becoming a volatile topic on corporate board agendas as companies and shareholders reassess how the impact of the Covid-19 pandemic should factor into director and CEO pay. During the 2020 proxy season, CalPERS voted against 2,716 directors who sat on board compensation committees because the institutional investor felt the executive compensation plans put forth didn’t accurately reflect the performance of the company. According to a report from Pensions & Investments, CalPERS voted against 52 percent of the 2,256 say-on-pay votes on executive compensation that were cast as of June 30 this year. Since shareholders typically approve more than 90 percent of the say-on-pay votes each year, CalPERS appears to be urging boards to take a closer look at the compensation models they are using.

In a year where well-known companies such as Neiman Marcus, J.C. Penny, 24 Hour Fitness, Lord & Taylor, Hertz, Brooks Brothers, Sizzler USA and others have filed bankruptcy largely due to the pandemic, many shareholders will likely ask, “what do you pay the CEO and board for that?” Those companies that have been battered this year but have survived will likely be asked “How do you justify awarding executive pay increases when the company is laying off employees and losing revenue?” These questions and more will likely confront boards as we move into next year if investors believe they have been presented with pay plans that don’t fully account for the negative financial impacts caused by Covid-19 and other factors.

The investor approval rate for say-on-pay votes on executive pay has consistently been above 90 percent each year since the practice was implemented, and some have viewed that as proof that shareholders generally approve of the compensation their top executives receive. However, with ideas like stakeholder capitalism being promoted by The Business Roundtable and others, executive pay is likely to come under greater scrutiny now. In recent years it’s been proven that many female and minority workers have been underpaid for years, so arguing for higher pay for top executives that aren’t paying employees fairly will likely receive backlash.

As You Sow, a nonprofit ESG shareholder advocacy group, produces The 100 Most Overpaid CEOs list each year; the group estimates that the median pay for an S&P 500 CEO is $10 million which seems excessive in an environment where millions of workers are losing their jobs. Any company on the As You Sow list or held by CalPERS should prepare to answer questions about their compensation plans.

In general, all boards should at least review their compensation plans to see if there is any way they can create better pay-for-performance alignment. It might be a good idea to set up meetings to discuss compensation with large shareholders, just to see what people are thinking about the effects of Covid-19 on the marketplace and how that should affect compensation. Better to have these conversations on friendly terms before shareholders confront you. When large shareholders complain about executive compensation, it often leads to larger questions about quality of leadership, effectiveness of corporate strategy and decisions that can foster future growth. Underneath the complaint about compensation is the question, “Are we really getting the most for our money?”

As executive compensation continues to rise, boards will have to answer that question more and more. CalPERS has already grown frustrated with the situation and is voting against directors on compensation committees. Boards should be on the lookout to see if other investors follow their lead.

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