Say-on-Pay - More Bark Than Bite?
Two proxy seasons have taken place since Dodd-Frank became law, and while it is true a board may ignore the advisory vote, experience now shows the board does so at its own peril. In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act became law. As part of that voluminous legislation, the Securities and Exchange Commission adopted final rules implementing Dodd-Frank section 951’s requirement that SEC-registered issuers provide shareholders with a separate, non-binding say-on-pay vote over the compensation of the chief executive officer, the chief financial officer and the company’s three other most highly compensated officers at least once every three calendar years. How the board takes into account the outcome of the vote must be reported in the Compensation Discussion and Analysis section of the proxy statement. Because the votes are not binding, a criticism is the boards do not need to honor the vote.
In 2011, shareholders rejected executive pay packages at 37 companies. That equates to approximately 1.5 to 2 percent of the advisory say-on-pay votes failing to secure approval of a proposed executive compensation package. In the second proxy season after Dodd-Frank, there was a modest increase in shareholders “no” votes that resulted in approximately 2.5 percent or 51 rejections of executive compensation packages. This relatively small uptick in the percentage confirms what appears to be a
pattern – shareholders are willing to approve executive compensation in an overwhelming majority of votes.
So, are there common reasons for rejecting executive compensation packages? Yes. Perhaps the most common reason shareholders reject an executive compensation package is the attention-grabbing issue of “pay for performance.” Where it appears executive compensation is not appropriately linked to performance, shareholders are more inclined to voice dissent. One early example of this contentious issue is the 65 percent “no” vote shareholders registered against Umpqua Holdings Corp. in April 2011. The loudest portion of the Umpqua “no” vote was largely premised upon the board’s suggestion that executive compensation should rise over 60 percent in 2011, despite Umpqua’s sagging stock price and low shareholder return.
In the April 2012 proxy season, the game changing “no” vote at Citigroup again reflected shareholders dissatisfaction with an executive compensation plan that failed to tie pay to performance. At Citigroup, 55 percent of shareholders rejected a board-recommended, $14.8 million CEO compensation package after Citigroup’s stock fell 44.3 percent in 2011. Shareholders rejected the
executive compensation package and Citigroup’s board ousted the CEO citing mismanaged operations, leading to setbacks with regulators and a loss of credibility with investors.
A much-debated subset of the “pay for performance” inquiry is how to select “peer groups” to benchmark executive compensation. It is argued a well-constructed peer group can significantly improve the relevance and accuracy of a pay-for-performance comparison. Critics contend these groups are easily manipulated into artificially inflating compensation across the C-suite, and the composition of these peer groups is a source of contention with companies and their shareholders.
Although the results of two proxy seasons may not establish a trend, they are enough to suggest when shareholders speak, boards are listening. Boards are paying attention to how proxy advisors like ISS and Glass Lewis react to pay packages. Many boards that received “no” votes, like HP and Nabors Industries, have eliminated the practices that riled investors. The say-on-pay
provisions of Dodd-Frank were intended to guide corporate compensation policies and when shareholders reject a compensation package, the “no” vote has greatly impacted the design and magnitude of pay packages moving forward.
