Rob Swystun, Pristine Advisers
We’ve already taken a look at what boards can expect during the 2016 proxy season, now we look at what boards should do.
While not to be taken as legal or tax advice, Melissa Bengtson, Louis Lehot, David Lewis, Rita Patel, Douglas Rein, Sarah Ritter, Sanjay Shirodkar and James Smith of DLA Piper have created a list of items that boards should be prepared for in 2016 and what action items they should take, as seen on the JD Supra Business Advisor website.
Here, we look at some of those items.
1. PROXY ACCESS
One of the hottest items from last year, proxy access will continue to be a hot topic this year, the group from DLA Piper says.
Proxy access is when shareholders who hold a certain amount of stock for a certain amount of time want to be able to nominate a certain percentage of new directors for a given company. Commonly, the numbers used in proxy access proposals are the group of shareholders must have held at least 3% of the stock for 3 years to be able to include in the company’s proxy materials director nominees for up to 25% of the board (but these numbers are not mandatory).
Most proxy access proposals address:
- ownership threshold,
- length of ownership,
- maximum number of stockholder nominated candidates,
- calculation of qualifying ownership, including treatment of “loaned” shares,
- stockholder group limit,
- maximum number of access nominees,
- notice deadlines,
- future disqualification of stockholder nominees,
- voting commitments, and
- third-party compensation arrangements.
So, what should a board do in 2016 to make sure they’re ready for a proxy access proposal?
- Education, education, education is what the DLA Piper group recommends. Keep abreast of proxy access developments, educate the board on relevant issues.
- As a preemptive measure, boards should also consider adopting a proxy access bylaw even in the absence of a shareholder proposal. At the very least, they should be prepared in the event a proposal is received.
- Draft and discuss with your board an acceptable proxy access bylaw. Even if you don’t adopt it, having gone through the process will give you an idea of what kind of proxy access bylaw would be the best fit for the company.
2. SHAREHOLDER ACTIVISM
Here is something you’ve heard plenty about by now and you’re going to be hearing plenty more about it in 2016 because while some have predicted that shareholder activism may decrease in 2016, the group at DLA Piper believe it will keep rising.
It is completely possible to win a proxy battle and stop activism dead in its tracks, but it’s even better not to have to go through the process to begin with.
- Articulate the board’s strategy for sustainable long-term growth and communicate it effectively to shareholders.
- Identify risks and vulnerabilities for the company and discuss with legal counsel and financial advisors how best to mitigate these.
- Adopt a robust shareholder engagement policy. Meet them in off-cycles and monitor 13D, F and G positions of top institutional holders, including their investment philosophy, exit horizon, historical cost basis, and parallel trading activity.
- Monitor deadlines for stockholder nominations and shareholder proposals.
3. EXECUTIVE COMPENSATION RULES
Last year, the US Securities and Exchange Commission (SEC) was active when it came to finalizing rules for executive compensation, with the SEC adopting final rules for CEO-to-median-employee pay ratio disclosure and getting the proverbial ball rolling on proposed rules for clawback listing standards, pay versus performance disclosure and hedging disclosure.
Companies with a fiscal year beginning on or after January 1, 2017 and that are required to disclose executive compensation data under Regulation S-K’s Item 402(c)(2)(x) will further be required to disclose for their 2018 proxy reports:
- The median annual total compensation of all employees of the company, excluding the CEO;
- The annual total compensation of the CEO; and
- The ratio of the annual total compensation of the median employee to that of the CEO.
- In preparation for mandatory disclosure for 2018, companies should
- Identify and test possible methodologies for calculating the pay ratio to find the best method;
- Prepare a preliminary estimate of the pay ratio;
- Determine whether data privacy rules will prevent sharing the employee information necessary to calculate and disclose the pay ratio;
- If necessary, get an exemption or other relief or obtain employee consent for the disclosure; and
- Update systems and develop processes to collect the required information.
Clawback rules are a policy requiring the clawback of incentive-based compensation from current and former executive officers in the event of an accounting restatement. The date these policies need to be in place by is still up in the air.
In preparation for the eventual adoption of Clawback Rules, boards should:
- Review and revise existing incentive-based compensation plans and programs to include a general condition that the compensation awards are granted subject to any clawback policy that the company may adopt in the future to comply with Dodd-Frank Act or stock exchange rules.
- Review corporate governance and executive compensation documentation.
- Review bylaws, indemnification policies and committee charters in light of the proposed Clawback Rules.
Registrants with an existing clawback policy should review the policy and consider what additional details about the policy could be required.
Proposed pay-for-performance rules would require a new table in any proxy or information statement comparing “executive compensation actually paid” to the “total shareholder return” (TSR) of the company and its peers, plus a discussion of the relationship between these amounts.
Companies subject to the proposed rule would be required to provide information on the prior three years the first time the new disclosure is provided, with an additional year of information provided in each of the two subsequent annual proxy or information statements, until a total of five years are provided.
- Review the performance metrics used by the Compensation Committee with the proposed rules in mind.
- Prepare a sample table to see how the company’s tabular disclosure would appear, and consider additional disclosures that would need to be made based on that result or on the company’s current compensation metrics.
These proposed rules would require a public company to disclose whether its employees and directors are permitted to hedge or offset any decrease in the market value of company equity securities and whether such securities were granted to such persons by the company as compensation or are otherwise held, directly or indirectly.
- Review existing hedging policy taking into account the proposed rules.
- Review existing disclosure taking into account the proposed rules.
4. SHAREHOLDER ENGAGEMENT AND DISCLOSURE IN PROXY STATEMENTS
Pressure from both activists and proxy advisors for greater board transparency and more of a focus on strategic planning has and will continue to increase.
The National Association of Corporate Directors and large asset managers, have supported measures for increased dialogue and communication between board members and shareholders.
That’s no surprise considering that the easiest and most efficient way to avoid shareholder misperceptions and discontent (and thus avoid the activism that comes with them) is to provide information about the board’s activities and how its decisions align with the business goals of the company.
Added to that is Institutional Shareholder Services’ (ISS) assertion that a say-on-pay vote that receives less than 70% stockholder approval is considered as a failed vote. When this happens, the proxy advisory firm will expect a company to conduct adequate stockholder outreach to identify the causes behind the lack of support and take action to rectify these problems and publish all of this in the subsequent proxy report. The amount of outreach undertaken directly affects what ISS will recommend the next year when it comes to the next say-on-pay vote and the next election vote for the compensation committee members. If the company does perform what ISS deems to be adequate outreach, the firm will consider its recommendations for the next proxy season on a case-by-case basis.
- Improve the design and user-friendliness of the proxy statement, including use of executive summaries in the CD&A, hyperlinked tables of contents, use of graphics and emphasis on design, summary of “what we do” and “what we do not do,” and highlight changes made in response to say-on pay votes from prior years.
- Start shareholder engagement early, including a clear explanation of how shareholders can communicate and engage with the board.
- Consult the guidelines provided in the SDX Protocol to establish a framework for shareholder-director engagements.
- Undertake shareholder outreach for “failed” say-on-pay votes, without selectively disclosing material nonpublic information. Use compensation committee members as part of the outreach, as they will carry greater influence with investors than management representatives or advisors.
- Review the voting standards disclosure in the proxy statement.
By being prepared for the 2016 proxy season, companies and boards of directors can better position themselves to stave off shareholder discontent and prepare themselves for inevitable changes to what is expected of them in the near future.