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Shaun BismanPartner [email protected] 212-921-9365 Grace Tan
Analyst [email protected] 646-568-1162
ISS recently published updates to their pay-for-performance mechanics and proxy voting guidelines, which will go into effect for annual meetings held on or after February 1, 2024. Additionally, ISS issued Frequently Asked Questions (FAQs) documents related to compensation policies, equity compensation plans, and peer group selection. This article will highlight notable changes that will impact ISS’ voting recommendations for the 2024 proxy season.
Pay-for-Performance Mechanics
Quantitative Testing for Pay-For-Performance (PFP) Alignment
ISS may potentially modify a company’s Overall Quantitative Concern level if the company has a poor/strong Financial Performance Assessment (FPA) result. ISS adjusted the thresholds for the FPA Eligibility screen, which determines if a company is eligible to have their concern levels modified:
- On the Relative Degree of Alignment (RDA) test, the threshold was changed from -40 to -39.
- On the Multiple of Median (MOM) test for non-S&P 500 companies, the threshold was changed from 1.84x to 1.82x.
ISS’ concern thresholds for each test for 2024 are presented below:
Quantitative Concern Threshold |
|||
Measure |
Eligible for FPA Adjustment |
Medium Concern |
High Concern |
Relative Degree of Alignment |
-39 |
-50 |
-60 |
Multiple of Median (Non-S&P 500) |
1.82x |
2.33x |
3.33x |
Multiple of Median (S&P 500 only) |
1.69x |
2.00x |
3.00x |
Pay-TSR Alignment |
-25% |
-30% |
-45% |
These changes apply to meetings starting February 1, 2024.
Americas Policy Updates
Shareholder Proposals on Severance/Golden Parachutes
ISS released a policy update that codifies a case-by-case approach for analyzing shareholder proposals that require shareholder ratification of executive severance arrangements. The updated policy harmonizes the factors used to analyze both regular termination severance and change-in-control (CIC)-related severance and clarifies the key factors considered, including the company’s existing severance provisions and whether the company has already implemented adequate safeguards against the potential for problematic and excessive severance.
Factors that will be considered include:
- Any preexisting features in severance or CIC arrangements that ISS has identified as problematic, such as excessive payouts, single triggers, and excise tax gross-ups.
- Preexisting severance policy that already requires shareholder ratification of severance payouts above a certain level.
- Any recent severance-related controversies.
- Whether the proposal is overly prescriptive, e.g. requiring shareholder approval of severance that is within market norms.
Compensation Policy FAQs
Company Actions Taken in Response to ISS’ Pay-Related Concerns
In ISS' annual research reports, ISS flags companies with pay practices that raise concern. If a company makes changes to its pay practices after receiving a comment or a negative vote recommendation from ISS, these actions must be disclosed in a public filing to be considered by ISS.
ISS clarifies that in response to a company’s updated disclosure, ISS may publish a proxy alert to update the analysis and change their say on pay recommendation as warranted.
Disclosure of Adjustments to GAAP Metrics
ISS explicitly indicates that companies are expected to provide clear disclosure and rationale on adjustments to performance results whether the metrics used are GAAP or non-GAAP, and to provide the dollar or percentage impact on the payout, especially if payout was increased. Per ISS, proxy disclosure of reconciliation of non-GAAP items to GAAP results is considered best practice. ISS noted that failure to provide this disclosure, as well as making adjustments that appear to insulate executives from low performance – especially for companies that exhibit misalignment in their quantitative pay-for-performance tests – are practices that will be viewed negatively by ISS.
Evaluation of Change-In-Control (CIC) Arrangements
Historically, ISS has viewed a new or materially amended executive agreement that provides for CIC severance without requiring a qualifying termination (i.e., single or modified single trigger) as a problematic pay practice.
However, ISS clarifies that this is distinguishable from a bona fide incentive award that becomes payable upon a CIC transaction. For example, if the severance agreement provides for a CIC transaction bonus linked to an acquisition premium, this would be analyzed as a CIC incentive award and not as problematic single trigger severance.
Equity Compensation Plans FAQs
Changes to the Equity Plan Scorecard (EPSC) Framework
ISS updated their EPSC modeling tool for evaluating stock-based incentive plans to incorporate the latest quarterly data download as of December 1, 2023.
ISS adjusted the pillar weightings for their S&P 500, Russell 3000, and Non-Russell 3000 models. Specifically, the weighting of the Plan Features pillar increased while the weighting of the Grant Practices pillar decreased. For the S&P 500 and Russell 3000 models, ISS also decreased the weighting of the Plan Cost pillar and decreased the weighting of the Shareholder Value Transfer (SVT) – A+B+C Shares factor used in evaluating Plan Cost.
EPSC Model Pillar Score Changes
ISS changes to the “maximum pillar score” for the Plan Cost, Plan Features, and Grant Practices pillars for certain models are presented below:
Maximum Scores by EPSC Model and Pillars |
||||
Pillar |
Model |
Prior Maximum Pillar Score |
New Maximum Pillar Score |
Year-Over-Year Change |
Plan Cost |
S&P 500 |
45 |
43 |
-2 |
Russell 3000 |
45 |
43 |
-2 |
|
Plan Features |
S&P 500, Russell 3000 |
17 |
22 |
+5 |
Non-Russell 3000 |
27 |
29 |
+2 |
|
Grant Practices |
S&P 500, Russell 3000 |
38 |
35 |
-3 |
Non-Russell 3000 |
28 |
26 |
-2 |
ISS did not change any weightings for the Special Cases – Russell 3000/S&P 500 or Special Cases – Non-Russell 3000 models. ISS did not change any factor definitions or threshold passing scores.
Updated Value-Adjusted Burn Rate (VABR) Benchmarks
ISS updated their VABR benchmarks for assessing company burn rate for 2024 for each Global Industry Classification Standard (GICS) code. The VABR benchmarks and de minimis thresholds can be found in the Appendix of the FAQs and are also presented below this article.
Peer Group FAQs
ISS did not make any material changes to the peer group FAQs for 2024.
***
This article highlights changes to ISS’ pay-for-performance methodology, changes in policies as published in the 2024 Americas Policy Updates, and material changes to questions in their compensation policies, equity compensation plans, and peer group selection FAQs; the article is not intended to be exhaustive.
For information related to ISS voting policies, please visit ISS Proxy Voting Guidelines Updates for 2024. The full 2024 proxy voting guidelines have not been released to date.
The ISS Pay-For Performance and FAQ documents can be found here:
As noted by ISS, there may be additional updates to the FAQs published by the end of January 2024.
2024 Value Adjusted Burn Rate Benchmarks by Segment:
S&P 500 |
||
GICS |
Description |
Burn Rate Benchmark* |
10 |
Energy |
0.85% |
15 |
Materials |
0.77% |
20 |
Industrials |
0.77% |
25 |
Consumer Discretionary |
1.05% |
30 |
Consumer Staples |
0.77% |
35 |
Health Care |
0.86% |
40 |
Financials |
0.86% |
45 |
Information Technology |
1.99% |
50 |
Communication Services |
1.55% |
55 |
Utilities |
0.77% |
60 |
Real Estate |
0.77% |
* A de minimis threshold of 0.77% was established for the S&P 500 index.
Russell 3000 (excluding the S&P 500) |
|||
GICS |
Description |
Burn Rate Benchmark* |
|
1010 |
Energy |
2.18% |
|
1510 |
Materials |
1.48% |
|
2010 |
Capital Goods |
1.71% |
|
2020 |
Commercial & Professional Services |
2.28% |
|
2030 |
Transportation |
1.61% |
|
2510 |
Automobiles & Components |
1.87% |
|
2520 |
Consumer Durables & Apparel |
2.21% |
|
2530 |
Consumer Services |
2.37% |
|
2550 |
Consumer Discretionary |
3.01% |
|
3010,3020, 3030 |
Consumer Staples |
1.89% |
+ |
3510 |
Health Care Equipment & Services |
3.61% |
|
3520 |
Pharmaceuticals, Biotechnology & Life Sciences |
5.24% |
|
4010 |
Banks |
1.05% |
|
4020 |
Financial Services |
3.36% |
|
4030 |
Insurance |
1.56% |
|
4510 |
Software & Services |
5.95% |
|
4520 |
Technology Hardware & Equipment |
4.03% |
|
4530 |
Semiconductors & Semiconductor Equipment |
3.23% |
|
5010 |
Telecommunication Services |
3.08% |
|
5020 |
Media & Entertainment |
4.89% |
|
5510 |
Utilities |
1.05% |
|
6010 |
Equity Real Estate Investment Trusts (REITs) |
1.05% |
|
6020 |
Real Estate Management & Development |
2.85% |
* A de minimis threshold of 1.05% was established for the Russell 3000 less the S&P 500 index.
+ Benchmark based on all companies in the 2-digit GICS due to insufficient number of companies to analyze within the 4-digit GICS.
Non-Russell 3000 |
|||
GICS |
Description |
Burn Rate Benchmark* |
|
1010 |
Energy |
4.21% |
|
1510 |
Materials |
4.11% |
|
2010 |
Capital Goods |
4.23% |
|
2020 |
Commercial & Professional Services |
4.68% |
|
2030 |
Transportation |
3.76% |
|
2510 |
Automobiles & Components |
4.32% |
|
2520 |
Consumer Durables & Apparel |
3.41% |
|
2530 |
Consumer Services |
4.52% |
|
2550 |
Consumer Discretionary |
7.29% |
|
3010,3020, 3030 |
Consumer Staples |
8.32% |
+ |
3510 |
Health Care Equipment & Services |
8.72% |
|
3520 |
Pharmaceuticals, Biotechnology & Life Sciences |
7.39% |
|
4010 |
Banks |
1.23% |
|
4020 |
Financial Services |
4.45% |
|
4030 |
Insurance |
1.90% |
|
4510 |
Software & Services |
9.19% |
|
4520 |
Technology Hardware & Equipment |
5.65% |
|
4530 |
Semiconductors & Semiconductor Equipment |
4.83% |
|
5010, 5020 |
Telecom & Media |
6.00% |
+ |
5510 |
Utilities |
2.86% |
|
6010 |
Equity Real Estate Investment Trusts (REITs) |
2.21% |
|
6020 |
Real Estate Management & Development |
3.82% |
* A de minimis threshold of 1.23% was established for the non-Russell 3000 index.
+ Benchmark based on all companies in the 2-digit GICS due to insufficient number of companies to analyze within the 4-digit GICS.