November 28, 2017
The two most influential proxy advisory firms—Institutional Shareholder Services (“ISS”) and Glass, Lewis & Co. (“Glass Lewis”)—recently released their updated proxy voting guidelines for 2018. The key changes to the ISS and Glass Lewis policies are described below along with some suggestions for actions public companies should take now in light of these policy changes and other proxy advisory firm developments. An executive summary of the ISS 2018 policy updates is available here and a more detailed chart showing additional updates to its voting policies and providing explanations for the updates is available here. The 2018 Glass Lewis Guidelines are available here.
On November 16, 2017, ISS updated its proxy voting guidelines for shareholder meetings held on or after February 1, 2018. These updates impact ISS policies for the United States, Canada, the United Kingdom, Ireland, Europe, the Nordics Region, Japan, China, Hong Kong, and Singapore. This client alert reviews the major U.S. policy updates in ISS’s 2018 proxy voting guidelines, which are used by ISS in making voting recommendations on director elections and company and shareholder proposals at U.S. companies.
ISS plans to issue a complete set of updated policies on its website in December 2017. ISS also indicated that it plans to issue updated Frequently Asked Questions (“FAQs”) on certain of its policies in December, and it has already issued a set of Preliminary FAQs on the U.S. Compensation Policies, which are available here. In January 2018, ISS will evaluate new U.S. shareholder proposals that are anticipated for 2018 and update its voting guidelines as necessary.
1. Director Elections
Non-Employee Director Pay
ISS has adopted a new policy on “excessive” non-employee director pay, although the policy will not impact voting recommendations for 2018. Under the policy, ISS will recommend votes “against” board or committee members responsible for approving or setting non-employee director compensation when there is a recurring pattern (which ISS defines as two or more consecutive years) of “excessive” pay without a compelling rationale or other mitigating factors to justify the compensation. While ISS does not define what constitutes “excessive” pay, it notes that it has identified “cases of extreme outliers relative to peers and the broader market.”
For 2018, ISS will continue to rely on its current policy to guide its vote recommendations. Under this policy, patterns of excessive compensation may call into question directors’ independence and result in ISS including cautionary language in its proxy analysis. After 2018, negative voting recommendations would be triggered only after ISS identifies a pattern of excessive pay in consecutive years.
Pledging Company Stock
In prior years, ISS has addressed pledging of company stock through its “governance failures” policy. Under this policy, ISS issued negative voting recommendations for members of the committee charged with risk oversight based on “significant” pledging of company stock. For 2018, ISS has implemented an explicit policy on problematic pledging that reflects its current approach to this issue. Under this policy, ISS recommends votes “against” the members of the committee responsible for overseeing pledge-related risks, or the full board, where a “significant” level of executive or director pledging raises concerns. In making its voting recommendations, ISS will consider the following factors:
ISS applies four fundamental principles when determining its votes for director nominees: accountability, responsiveness, composition, and independence. ISS expanded its “composition” principle to include a specific statement about the benefits of boardroom diversity, which states that “[b]oards should be sufficiently diverse to ensure consideration of a wide range of perspectives.” In addition, ISS stated that it will not consider a lack of gender diversity in making voting recommendations, but it will highlight in its voting analysis if a board has no female directors.
ISS significantly updated its policy for poison pills in an effort both to simplify the policy and reinforce its views that shareholders should timely approve poison pills. Under the updated policy, ISS will recommend votes “against” all board nominees, every year, at a company that has a “long-term” poison pill (a pill with a term greater than one year) that was not approved by shareholders. This policy reflects several changes. First, commitments to put a newly-adopted long-term poison pill to a vote at the following year’s annual meeting will no longer be considered a mitigating factor that would exempt directors from negative voting recommendations. Second, the frequency of adverse recommendations will increase. Under its current policy, at companies with annual director elections, ISS only recommends “against” all board nominees every three years, while ISS will now recommend votes “against” all board nominees every year. Third, companies with 10-year poison pills that were grandfathered into the current policy will no longer be grandfathered and will receive adverse voting recommendations. According to ISS, this will impact about 90 companies. With grandfathering gone, ISS has also removed its provisions for pills with deadhand and slowhand provisions since the few remaining deadhand/slowhand pills are not shareholder-approved and would be covered by the updated policy.
ISS is maintaining its current policy for short-term poison pills (pills with a term of one year or less). ISS will assess these on a case-by-case basis and focus its review on the company’s rationale for adopting the poison pill (instead of its governance and track record), as well as other relevant factors such as a commitment to put any renewal to a vote.
ISS’s current policy on renewals and extensions of existing pills remains unchanged. These will not receive case-by-case analysis, but rather, will result in adverse voting recommendations for all directors.
2. Shareholder Proposals
Gender Pay Gap
ISS adopted a new policy focused on shareholder proposals that target the gender pay gap by requesting reports from companies on either (i) their pay data, by gender, or (ii) their policies and goals aimed at reducing existing pay gaps (if any). ISS did not previously have a policy on this issue, and the new policy is intended to provide more clarity about ISS’s approach, given the expectation that the number of shareholder proposals on this subject will grow. The new policy reflects a case-by-case approach to these proposals and will consider the following four factors:
Climate Change Risk
ISS has also updated its policy on shareholder proposals relating to climate change risk, in light of recommendations from The Task Force on Climate-Related Financial Disclosures (“TCFD”) that were finalized in 2017. Under its current policy, ISS generally supports shareholder proposals asking that a company disclose information on the risks it faces related to climate change, and the policy provides examples of those risks. According to ISS, the updated voting policy “better aligns” with the TCFD recommendations, which seek transparency around the roles of the board and management in assessing and managing climate-related risks and opportunities. In this regard, the updated policy applies not only to shareholder proposals seeking disclosure about “financial, physical, or regulatory risks” that a company faces related to climate change, but also proposals addressing “how the company identifies, measures, and manages such risks.”
3. Executive Compensation
Beginning in 2018, ISS will incorporate the Relative Financial Performance Assessment into its quantitative pay-for-performance analysis. This metric compares a company’s rankings to a peer group with respect to Chief Executive Officer (“CEO”) compensation, and financial performance in three or four metrics, each as measured over three years. The Preliminary FAQs on the U.S. Compensation Policies identify the metrics that ISS plans to use for each industry and how the metrics are weighted. ISS intends to provide further specifics on the updated quantitative analysis in a white paper, but has indicated that the Relative Financial Performance Assessment would operate as a secondary quantitative screen that could move a company from “medium” to “low” concern or from “low” to “medium” concern. The 2018 updates also clarify that the multiple of the CEO’s total pay relative to the peer group median is measured over the most recent fiscal year, which is consistent with ISS’s current policy.
Board Responsiveness to Advisory Votes on Executive Compensation
When a company receives support below 70% of votes cast on its last say-on-pay proposal, ISS will continue to make voting recommendations on a case-by-case basis the following year both for the say-on-pay proposal and the election of compensation committee members. One of the elements that ISS currently considers is the board’s response to investor concerns, including disclosure of engagement efforts with major institutional investors on the reasons for their low support of the proposal. For 2018, ISS has expanded the factors it will consider in assessing whether the board’s response to investor concerns was sufficiently robust. In particular, ISS will consider disclosures about the timing and frequency of engagements with shareholders, and whether independent directors participated. In this regard, the voting policy updates explicitly state that “[i]ndependent director participation is preferred.” ISS will also consider disclosure about specific concerns voiced by shareholders that voted against the say-on-pay proposal, as a way of assessing whether subsequent changes made by the company were in fact responsive to those concerns. Finally, in addition to considering whether the company made any changes in response to shareholder concerns, ISS will also consider the nature of those changes and whether they were meaningful.
4. Other Changes
The voting policies also include the following updates:
On November 22, 2017, Glass Lewis released its updated proxy voting policy guidelines for 2018 in the United States and Canada and for shareholder proposals. This client alert reviews the major updates to the U.S. guidelines, which provide a detailed overview of the key policies Glass Lewis applies when making voting recommendations on proposals at U.S. companies and on shareholder proposals. The key changes in the 2018 guidelines are summarized below.
1. Board Diversity
Glass Lewis has added a new section to its voting guidelines on how it considers gender diversity on boards of directors. Glass Lewis affirmed that, as in prior years, it will continue to review board composition closely, and it may note as a concern instances where it believes the board lacks diversity, including those boards that have no female directors. For 2018, Glass Lewis will not make voting recommendations solely on the basis of a board’s diversity, although this will be one of several factors Glass Lewis considers when evaluating a company’s oversight structure. This will change in 2019, however, when Glass Lewis will begin recommending votes “against” the nominating/governance committee chair at companies with no female directors. In those instances, Glass Lewis may also recommend votes “against” other nominating/governance committee members as well, depending on factors such as the company’s size, industry, and governance profile.
The voting guidelines also state that Glass Lewis will “carefully review a company’s disclosure of its diversity considerations” in making voting recommendations. Glass Lewis may not recommend votes “against” directors when the board has provided a “sufficient rationale” for the absence of any female board members or there is disclosure of a plan to address the board’s lack of diversity.
2. Dual-Class Share Structures
Glass Lewis has also added a new section to its voting guidelines on how it will consider dual-class share structures—different classes of stock that may differ in voting or economic rights—in analyzing various aspects of a company’s governance. In this section, Glass Lewis explicitly states that dual-class voting structures “are typically not in the best interests of common shareholders” and that “[a]llowing one vote per share generally operates as a safeguard for common shareholders by ensuring that those who hold a significant minority of shares are able to weigh in on issues set forth by the board.”
Consistent with these principles, Glass Lewis “generally considers a dual-class share structure to reflect negatively on a company’s overall corporate governance.” It will typically recommend that shareholders vote in favor of recapitalization proposals to eliminate dual-class share structures and “against” proposals to adopt a new class of common stock.
For companies that have done an IPO or spin-off in the past year, Glass Lewis has not changed its overall approach, which is that it generally refrains from making voting recommendations based on a company’s governance practices for the first year the company is public. However, Glass Lewis evaluates newly public companies to determine whether the rights of shareholders are being “severely restricted indefinitely” based on a list of factors and may recommend votes “against” directors where it determines this is the case. The 2018 voting policy updates add the presence of a dual-class share structure to this list of factors.
The discussion on dual-class share structures also addresses how Glass Lewis will assess board responsiveness to a significant shareholder vote (discussed in the next section).
3. Board Responsiveness to Significant Shareholder Votes
Under Glass Lewis’s current policy on board responsiveness, Glass Lewis evaluates the board’s response on a case-by-case basis in situations where 25% or more of a company’s shareholders vote contrary to the company’s recommendation on any proposal, including the election of director nominees, company proposals and shareholder proposals. For 2018, Glass Lewis is reducing this threshold to 20%, because it believes a 20% threshold is significant enough to warrant consideration of board responsiveness, especially when a proposal addresses compensation or director elections. Accordingly, when 20% or more of the votes cast (excluding abstentions and broker non-votes) on a proposal (including the election of directors) are contrary to management’s recommendation, Glass Lewis will evaluate whether or not the board responded appropriately following the vote. As under the current policy, the 20% threshold alone will not automatically generate a negative voting recommendation from Glass Lewis on director nominees or future proposals. However, it may be a contributing factor to Glass Lewis’s recommendation to oppose the board’s voting recommendation.
For companies with dual-class share structures, Glass Lewis will review with care the approval or disapproval levels of shareholders that are unaffiliated with the company’s controlling shareholders when making a determination as to whether board responsiveness is warranted. Boards are expected to exhibit an “appropriate” level of responsiveness to voting results where a majority of unaffiliated shareholders either supported a shareholder proposal or opposed a company proposal.
4. Virtual Shareholder Meetings
Recognizing that the number of companies adopting virtual-only meetings is “small but growing,” Glass Lewis has adopted a new policy on virtual meetings. Glass Lewis considers virtual meeting technology “a useful complement” to in-person shareholder meetings because of its ability to expand the participation of shareholders that cannot attend those meetings in-person (resulting in a “hybrid meeting”). At the same time, Glass Lewis states that virtual-only meetings could curb shareholders’ ability to have meaningful discussions with company management.
In 2018, Glass Lewis will not make voting recommendations solely on the basis that a company has chosen to hold a virtual-only meeting. Instead, when analyzing the governance profiles of companies that hold virtual-only meetings, Glass Lewis will look for “robust” proxy statement disclosure that makes clear that shareholders will have the same ability to participate in the virtual-only meeting that they would have at an in-person meeting. This policy will change in 2019. Beginning in 2019, Glass Lewis will generally recommend votes “against” the members of the nominating/governance committee where the company intends to have a virtual-only shareholder meeting and fails to provide the disclosure described above.
5. Overboarded Directors
Glass Lewis did not change its director overboarding policy for 2018, but did clarify how the policy will apply to directors who are serving in executive roles but are not CEOs. Under Glass Lewis’s policy, it generally recommends a vote “against” (i) any director that serves as a public company executive officer while also serving on more than two total public company boards and (ii) any other director serving on more than five total public company boards.
In determining whether to issue a negative voting recommendation, Glass Lewis considers whether service in excess of these limits may impact a director’s ability to devote sufficient time to board duties based on a number of factors, such as the size and location of the other companies where the director serves on the board and the director’s board duties at those companies. For directors who are executives—but not CEOs—of public companies, the 2018 policy updates clarify that Glass Lewis will evaluate the specific duties and responsibilities of the executive’s role.
6. CEO Pay Ratio
Beginning in 2018, Glass Lewis’s Proxy Paper reports will include a company’s CEO pay ratio as an additional data point. However, Glass Lewis notes in its 2018 voting policies that although the pay ratio can provide investors with more insight when assessing the pay practices at a company, pay ratio will not be a determinative factor in Glass Lewis’s voting recommendations at this time.
7. Pay for Performance
Glass Lewis’s pay-for-performance model, which ranks companies using a grade system of “A,” “B,” “C,” “D,” and “F,” did not change this year and will continue to be used to guide Glass Lewis’s evaluation of the effectiveness of compensation committees. Where a company has a pattern of failing Glass Lewis’s pay-for-performance analysis, Glass Lewis will generally recommend a vote “against” that company’s compensation committee members. The voting policy updates for 2018 provide clarification on the grading system by adding more detail on each of the grades. Specifically:
8. Shareholder Proposals
Glass Lewis has expanded its policy on shareholder proposals relating to climate change. Glass Lewis will generally recommend “for” shareholder proposals seeking disclosure of information about climate change scenario analyses and other climate change-related considerations at companies in certain extractive or “energy-intensive” industries that have increased exposure to climate change-related risks. Glass Lewis generally supports the disclosure recommendations of The Task Force on Climate-Related Financial Disclosure (“TCFD”), but will conduct a case-by-case review of proposals requesting that companies report in accordance with these recommendations. When evaluating proposals asking for increased disclosure, Glass Lewis will evaluate:
“Fix It” Proxy Access Shareholder Proposals
Glass Lewis has expanded its voting policy on proxy access shareholder proposals to address “fix it” proposals. Shareholders have submitted “fix it” proposals to companies that already have proxy access in an effort to change specific terms of existing proxy access bylaws, such as the number of shareholders that can aggregate their shares to submit a proxy access nominee.
Glass Lewis will evaluate these proposals on a case-by-case basis and will review a company’s existing bylaws in order to determine whether they “unnecessarily restrict” shareholders’ ability to use proxy access. In cases where companies have adopted proxy access bylaws that “reasonably conform with broad market practice,” Glass Lewis will generally oppose “fix it” proposals. Where a company has “unnecessarily restrictive” provisions, Glass Lewis “may consider support for well-crafted ‘fix it’ proposals that directly address areas of the company’s bylaws that [Glass Lewis] believe[s] warrant shareholder concern.”
Dual-Class Share Structures
Glass Lewis has codified its position on shareholder proposals asking companies to eliminate their dual-class share structures and will generally recommend that shareholders vote “for” these proposals.
The following Gibson Dunn lawyers assisted in the preparation of this client update: Ronald O. Mueller, Elizabeth Ising, Lori Zyskowski, Gillian McPhee and Lauren Assaf.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have about these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, or any of the following lawyers in the firm’s Securities Regulation and Corporate Governance or Executive Compensation and Employee Benefits practice groups:
Securities Regulation and Corporate Governance Group:
Elizabeth Ising – Co-Chair, Washington, D.C. (+1 202-955-8287, email@example.com)
James J. Moloney – Co-Chair, Orange County, CA (+1 949-451-4343, firstname.lastname@example.org)
Brian J. Lane – Washington, D.C. (+1 202-887-3646, email@example.com)
Ronald O. Mueller – Washington, D.C. (+1 202-955-8671, firstname.lastname@example.org)
Lori Zyskowski – New York (+1 212-351-2309, email@example.com)
Gillian McPhee – Washington, D.C. (+1 202-955-8201, firstname.lastname@example.org)
Maia Gez – New York (+1 212-351-2612, email@example.com)
Julia Lapitskaya – New York (+1 212-351-2354, firstname.lastname@example.org)
Executive Compensation and Employee Benefits Group:
Stephen W. Fackler – Co-Chair, Palo Alto/New York (+1 650-849-5385/+1 212-351-2392, email@example.com)
Michael J. Collins – Co-Chair, Washington, D.C. (+1 202-887-3551, firstname.lastname@example.org)
Sean C. Feller – Los Angeles (+1 310-551-8746, email@example.com)
Krista Hanvey – Dallas (+1 214-698-3425, firstname.lastname@example.org)
© 2017 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.