Tips on Using the Remainder of 2017 to Prepare for the 2018 Proxy Season
September 18, 2017
With the 2017 proxy season over for most companies, attention now turns to preparing for 2018. There are a number of compliance "musts" to focus on, as well as items that can be addressed in 2017 to make the 2018 proxy season easier.
Review Shareholder Engagement Efforts and Plan for the Rest of 2017 and 2018
Conduct an "after-action review" of shareholder engagement efforts so far in 2017. In particular, focus on the feedback from shareholders related to corporate governance and executive compensation practices, as well as any feedback received from shareholder advisory services, such as ISS and Glass Lewis. Changes in voting patterns at your 2017 annual meeting compared with those at the 2016 and 2015 annual meetings (for example, a meaningful increase in votes against the election of one or more directors) also can be informative. Synthesize this information for the board and compensation committee and provide them an unvarnished view of shareholder perspectives. With shareholder engagement now a year-round priority, inform the board of the shareholder engagement plan—including a timeline—for the rest of 2017 and the preliminary plan for 2018. Reflect any input from the board in the plan.
Prepare "What We Heard, What We Did" Charts and Summaries
Many registrants now include "what we heard, what we did" charts and summaries in their proxy statements. These describe the nature of shareholder feedback received over the course of the year and detail how the registrant responded to that feedback. Even if this disclosure ultimately is not included in the proxy statement, it can be very helpful for framing discussion with the board and compensation committee about shareholder concerns.
Consider Any Appropriate Responses to Shareholder Feedback
As appropriate, implement responses to shareholder feedback. As a reminder, ISS generally will recommend votes against (or withhold votes from) directors if the board fails to act on a shareholder proposal that received majority support the prior year.
Thoughtfully considering and implementing responses to shareholder feedback takes time and should be started as early as possible. In order to make informed decisions, plan sufficient time to vet alternatives. In addition, input from key shareholders may be required, as well as approvals from the nominating and governance committee, the compensation committee, and the board.
It is always important to keep in mind that what some consider a "best practice" from a governance perspective may not be the right practice for your company. If this is true, be prepared to explain to the board and shareholders why the practice was not appropriate and was not adopted, particularly if it was recommend by shareholders.
Proxy Statement Drafting
Enhance Board Composition and Diversity Disclosure
Continuing on the themes raised by many institutional shareholders over the last several years, Scott Stringer, the New York City comptroller who manages the New York City Pension Funds, recently announced a new initiative focused on engagement with companies over board diversity. More specifically, Stringer sent letters to the boards of 151 public companies seeking answers to questions about: (1) director refreshment, tenure, skills and experience; (2) the procedures used for director evaluations; (3) director search firms and procedures as to sourcing "women and people of color"; and (4) establishing a "structured process" for the New York City Pension Funds and other institutional investors to propose director candidates. Included with the letter is a proposed director skills and experience matrix that Stringer would like included in proxy statements.
Stringer's actions are likely to be very influential and his is an important voice in corporate governance. A 2014 initiative that Stringer spearheaded resulted in numerous companies adopting proxy access and an increasing recognition of proxy access as a governance best practice.
Even if a letter from Stringer is not received, take a fresh look at your board diversity and refreshment disclosure—both in comparison to your peers and to governance leaders. Although there are varying views on the utility of including a director skills matrix, they are used by many registrants to highlight board diversity and to illustrate graphically the skills of each director.
Board diversity—and having a thoughtful and publicly disclosed approach to it—is a topic of increasing importance for all public companies. The proxy statement serves a primary role in communicating the board's approach.
Environmental, Social, and Governance (ESG) Disclosure
For several years, shareholders have engaged with companies regarding environmental, social, and governance (ESG) issues and sustainability. Many companies already do some form of corporate social responsibility/sustainability reporting as part of or outside of their normal reporting process. However, shareholders have been increasingly vocal about their expectations for transparency and reporting on these issues. In 2017, 331 asset owners, investment managers, and service providers in the U.S. and 1,753 worldwide signed the Principles for Responsible Investment, a set of investment principles that offer a menu of possible actions for incorporating ESG issues into investment practice. Further, Vanguard recently announced its intention to take more public positions on select governance topics, including climate risk and gender diversity. Finally, the Sustainability Accounting Standards Board continues to develop sustainability accounting standards to help companies disclose sustainability information to investors in mandatory filings. It also provides education and resources that may provide helpful guidance with respect to disclosures.
As with governance generally, there is no one-size-fits-all approach to ESG disclosure. Registrants should engage with shareholders to understand their priorities. In addition, consider proxy disclosure enhancements regarding the actions already being taken.
Consider Proxy Statement Enhancements
Review your proxy statement to see if there are areas for readability improvements. In particular, focus on areas where pictures, charts, and graphs could tell the story more easily or more convincingly than text. Also take a fresh look at how you are describing your voting standards to be sure that it aligns with your organizational documents, as this is an area of renewed focus for the U.S. Securities and Exchange Commission (SEC).
Many registrants are including an "executive summary" at the start of their proxy statements. Institutional investors often say that a tailored summary—that appropriately focuses on the key metrics, particularly around executive compensation—greatly enhances their ability to review a proxy statement.
Emerging Growth Company Considerations
Transition from Emerging Growth Company Status1
If a registrant's status as an emerging growth company will terminate as of the end of its current fiscal year, next year's proxy statement will require several enhancements, including full compensation information for five named executive officers and a full compensation discussion and analysis (CD&A) section. Further, a registrant is required to hold a say-when-on-pay vote the first year in which it is no longer an emerging growth company. It is recommend that the registrant's first say-on-pay vote be held at the same time, even if the registrant can take advantage of a longer transition period (due to being an emerging growth company for less than two years). Registrants also should note that pay ratio disclosure will apply for the first full fiscal year that a company ceases to be an emerging growth company. For example, if a calendar year registrant ceases to be an emerging growth company at the end of 2017, pay ratio disclosure will be required in 2019 with respect to fiscal year 2018.
Continue to Prepare for Pay Ratio Disclosure
The pay ratio disclosure rules adopted by the SEC in August 2015 require proxy disclosure in 2018 for most registrants. Registrants should continue to prepare for pay ratio disclosure, with appropriate updates given to the board and compensation committee regarding the status of preparation. Please refer to our previous WSGR Alerts2 for additional information. If you have a complex multi-country workforce, it will take some time to make sure that you can get the information to prepare the necessary disclosure in a timely manner. If less than 5 percent of your employees are outside of the U.S., there are some great tricks that you can rely on to make this process much easier.
Begin Preparing the 2018 CD&A
Prepare key business milestones to support executive compensation decisions and payouts. As compensation decisions are made in the next few months, consider how they will be described and explained in the 2018 CD&A and begin preparing draft disclosure.
Review 2018 Peer Group Selection
With the compensation committee, review your industry peer group for appropriateness and any changes (including as the result of mergers and bankruptcies). Use any views expressed by proxy advisory firms as to the appropriateness of your current peer group as one input in setting the 2018 peer group. Once you have picked a peer group, take note of the deadlines for submitting your selected peer group to each of ISS and Glass Lewis so that they can use it in their analysis. ISS and Glass Lewis will open a window for submitting peer groups for 2018 in the next few months (likely in November).
Think About Section 162(m) Compliance
Section 162(m), which limits the deductibility of compensation over $1 million paid to certain officers, is a significant potential compliance issue. Section 162(m) disclosures are also attracting the attention of the plaintiffs' bar.
Some things to consider:
- If your company is newly public, you should determine when your transition period ends. Remember that you must also consider Section 162(m) with respect to your pre-IPO compensation plans. Consider whether switching to granting restricted shares instead of restricted stock units might provide additional relief from the Section 162(m) rules.
- If you do not have a shareholder-approved compensation plan that qualifies as exempt from the Section 162(m) limitation on compensation deductibility, consider adopting one.
- If you have a shareholder-approved plan already:
- Has it been approved for Section 162(m) purposes by shareholders in the last 5 years?
- Do you have robust processes in place to ensure that you are operationally complying with the Section 162(m) rules?
- Have you considered moving operationally to a "plan within a plan" concept for your cash compensation (for example, funding the plan fully based on a target, but allowing the compensation committee to use other metrics to choose to pay lower amounts)? This provides more flexibility for your compensation committee while still preserving deductibility.
Equity Plan Checkup
- There are sufficient shares in your equity plans for planned grants in 2017 and 2018.
- All equity plan shares have been registered on a Form S-8 registration statement and appropriate filings have been made with the applicable stock exchange (shares count against a Form S-8 registration statement on a gross basis and not a net basis).
- All forms of award agreements have been filed.
Additional Compensation-Related Items to Consider
Given the litigation environment surrounding director pay, consider having shareholders approve limits on director pay. This can be done by including limits in a compensation plan that shareholders are being asked to approve or by presenting a separate proposal for shareholder approval. There are a number of cases that have held that if shareholders have approved meaningful limits on director pay, then director decisions about their pay within those limits will be assessed under a more favorable standard of review.
For several years, many companies have received demand letters from plaintiffs claiming that share withholding or net settlement is not exempt from being matched as a disposition under the Section 16 short swing profit rules. The theory on which the demand is based is weak, but there are prophylactic measures that you can take to ensure that you are in the clear if you receive one of these demands.
For more information about the 2018 proxy season or any related matter, please contact any member of the corporate governance or employee benefits and compensation practices at Wilson Sonsini Goodrich & Rosati.
A registrant becomes a large accelerated filer as of the end of the first fiscal year when it (1) has an aggregate market value of voting and non-voting common equity held by non-affiliates of $700 million or more as of the last business day of the registrant's most recently completed second fiscal quarter; (2) has been a public reporting company for a period of at least 12 calendar months; (3) has filed at least one annual report on Form 10-K; and (4) is not a smaller reporting company.