Results of a study published in April 2019 by the executive compensation consulting firm Pearl Meyer suggest that Russell 3000 companies which have not yet received an “Against” Say-on-Pay (SOP) recommendation will likely receive one down the road. The firm states that “it’s reasonable to expect that at some point in the future, more than 80% of companies will have fallen victim to a negative vote recommendation at least once.”
Relevance. Management’s SOP proposals give shareholders a precatory or nonbinding vote on compensation packages for the company’s top executives. While the underlying regulation permits some leeway on the frequency of holding these votes, many companies opt to do so annually.
Major proxy advisory firms issue recommendations on how shareholders should vote on each SOP proposal in the U.S. market. The effect that these recommendations have on voters and vote results has long been debated. While the average percentage of shareholder support of SOP proposals at Russell 3000 companies has usually exceeded 90%, some governance experts have found, to differing degrees, that a negative recommendation from a major proxy advisory firm adversely impacts the percentage of shareholder approval. For example, in a report dated March 23, 2019, Semler Brossy wrote that for SOP, “the average result for [Russell 3000] companies that received an ISS ‘Against’ recommendation is 31% lower than for companies that received an ISS ‘For’ recommendation.” Regardless of whether the negative recommendation ultimately has a negative effect on the vote outcome, when a negative recommendation is issued, management and members of the compensation committee spend substantial time and resources trying to minimize its effect.
What Pearl Meyer found. The firm found that 43% of Russell 3000 companies in 2018 had received at least one “Against” vote recommendation on SOP from Institutional Shareholder Services (ISS) since 2009. In addition, the firm noted that 18% of Russell 3000 companies in 2018 had more than one ISS “Against” recommendation on SOP since 2009. Other proxy advisory firms like Glass Lewis were omitted from the study due to insufficiency of available data.
Although most companies started instituting SOP in 2011 after the 2010 enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act, Pearl Meyer also included 2009 and 2010 in the study to reflect SOP votes held by financial institutions in conjunction with the terms of receiving capital under the Troubled Asset Relief Program.
The firm also found that 49% of Russell 3000 companies in 2018 had one SOP vote result of less than 85% in shareholder support since 2009. The percentage of shareholder support matters because, although a shareholder proposal may pass, it may not meet standards set by the major proxy advisory firms. ISS requires at least a 70% vote result whereas Glass Lewis expects at least 80% to avoid heightened requirements by such firms in the following year. Specifically, when SOP shareholder support falls below these thresholds, it can cause negative repercussions such as the proxy advisors scrutinizing CEO performance more closely or issuing negative recommendations in connection with director elections in the following year, particularly for compensation committee members and, in some cases, the entire board. Low SOP shareholder support can also draw the attention of activists and some large institutional investors.
Using a series of bar charts, Pearl Meyer depicts four SOP historical trends reflecting the “build” for Russell 3000 companies from 2009 through 2018. For each year, the firm provides the cumulative number of companies that (1) received at least one “Against” vote recommendation from ISS, (2) received at least one vote result that was less than 85% in shareholder support, (3) received multiple “Against” vote recommendations from ISS, and (4) received multiple SOP results below 85%. Based on its findings, the firm believes that if the trend continues, “the vast majority of public companies will eventually receive an ‘Against’ vote recommendation” before the numbers level off.
The firm also states that, on a cumulative basis since 2009, Russell 3000 companies with the highest occurrence of SOP vote results of less than 85% have been large caps in the healthcare, energy, and communication services sectors.
Relevant resource. Our prior client memorandum provides an overview on the SOP evaluation processes of ISS and Glass Lewis, as well as strategies companies may want to consider when responding to a negative SOP recommendation.