ISS’s communications about the metric have been fueling boardroom conversations around compensation, says Sorrentino, who notes that incorporating EVA into corporate incentive plans would be a massive undertaking for companies that don’t already employ the measure. “Board members are asking a lot of questions about what this means for companies if ISS chooses to roll this out,” he says. “It will also be interesting to see what kind of feedback ISS gets from the investment community. Major institutional firms have been developing their own pay for performance assessment methodologies, so it’s an open question as to whether they will they get buy-in or pushback from investors. We should know more in the coming year.”
Director, Compensation in the Spotlight
Another development boards should be aware of heading into 2020 involves the potential for ISS to issue adverse vote recommendations for board members responsible for approving/setting director pay when there is a recurring pattern of “excessive pay magnitude.” Adverse recommendations may result when excessive director pay is identified in two or more consecutive years (i.e., for companies where ISS has identified excessive director pay without compelling rationale in both 2019 and 2020).
Pay outliers are defined as individual director pay figures above the top 2 percent to 3 percent of all comparable directors based on an analysis of director pay totals within the same index and sector grouping. For non-executive directors who serve in board leadership positions, such as non-executive chairs and lead independent directors, the policy will identify outliers as compared to others within the same category of board leadership, index and sector.
Following a quantitative identification of a pay outlier, a qualitative evaluation of the company’s disclosure will determine if concerns are adequately mitigated. In evaluating the company’s disclosed rationale, the following circumstances, if within reason and adequately explained, could mitigate concern around high director pay: onboarding grants for new directors that are clearly identified to be one-time in nature; special payments related to corporate transactions or special circumstances (e.g. special committee service or requirements related to extraordinary need); or payments made in consideration of specialized scientific expertise (e.g. biotech/pharma).
Payments in connection with separate consulting agreements will be assessed case-by-case with particular focus on the company’s rationale. Payments to reward general performance or service will usually not be viewed as compelling rationale.
Driving ESG Initiatives
Also expected to be a focus are environmental, social and governance (ESG) risks and opportunities. “ESG has increasingly been a focus for institutional investors, as well as for ISS and Glass Lewis,” says Sorrentino. “For example, in 2020 ISS will begin recommending against the election of nominating/ governance committee members and chairs at Russell 3000 and S&P 500 companies where there are no women directors, absent a mitigating factor. In the past, they’ve noted it but not issued negative vote recommendations due to a lack of diversity.”
Proxy firms and investors have also been adopting reporting and rating frameworks that seek to monitor and evaluate environmental and social policies. ISS has indicated a need for companies and their boards to report on and address regulatory risks related to climate change and environmental risks to their businesses. Investors such as State Street Global Advisors, T. Rowe Price and Columbia Threadneedle have also developed ESG rating methods, and the Task Force on Climate-related Financial Disclosures (TCFD) has released a framework. The emergence of these ESG-related efforts, coupled with sustainability-focused investor coalitions like the $33 trillion Climate Action 100+, suggests that sustainability will continue to gain momentum as a stakeholder concern.
As 2019 draws to a close, directors can expect to hear more about these boardroom issues in the months ramping up to proxy season 2020. “While no one can say exactly what we’ll see in the next proxy season, signs suggest these three areas will be focal points next year and beyond,” says Sorrentino.
