ISS Releases Additional Executive Compensation COVID-19 Related Guidance

By Greg Gautam

As we previously reported in prior S&W Benefits Updates (links below), the executive compensation related challenges presented to management and corporate boards from COVID-19 are significant. Among other considerations, companies might adjust 2020 performance goals, delay compensation decisions or change the mix of equity awards by making more full-value grants. In recent months, proxy advisors Institutional Shareholder Services (“ISS”) and Glass Lewis have published guidance with respect to these and other governance issues (summarized here, here and here).

To provide further clarity with respect to executive compensation issues, ISS released a set of Frequently Asked Questions (“FAQs”) on October 15 to provide additional guidance on how it will analyze COVID-19 related pay decisions this upcoming proxy season. The full set of FAQs is available here and we offer a brief summary of the FAQs below. We encourage you to read the FAQs in their entirety.

• Salary Reductions: In ISS’s view, base salary makes up a small portion of total executive compensation and reductions will be given mitigating weight if they decrease total compensation. Salary reductions will be more meaningful to ISS if the reduction also reduces an executive’s target incentive opportunity.

• Evaluation of COVID-19 Changes to Annual Incentive Programs and Related Disclosures: ISS anticipates that many companies will adjust annual incentive programs, including changes to performance targets and measurement periods. In extreme cases, companies may suspend incentive programs and provide replacement one-time discretionary payments. Such actions might be considered problematic under “normal circumstances,” but given this downturn, ISS may view such modifications are reasonable so long as there is clear disclosure of the justification/rationale for such actions and that the resulting outcomes appear reasonable.

  ISS will review such modifications to annual incentive plans on a case-by-case basis and recommends the following non-exhaustive list of key disclosure items to help investors evaluate the modifications to the annual incentive program: (i) the specific challenges faced as a result of the pandemic and how those challenges rendered the original incentive program obsolete; (ii) if a company makes mid-year changes vs. one-time discretionary awards, the company should explain why a particular approach was taken and how it furthers shareholder interests; (iii) one-time discretionary awards should carry some performance-based criteria and there should be disclosure (non-generic) of such criteria; (iv) how the resulting payouts appropriately reflect individual executive and company performance and a comparison of how the resulting payouts compare with what have been paid under the original program design (noting that above-target payouts will be closely scrutinized); and (v) if the compensation committee has already designed the 2021 program, ISS encourages disclosure of positive information, which could mitigate ISS’s evaluation of 2020 compensation decisions.

• COVID-19 Results in Financial/Operational Targets Lower than Prior Year’s Performance: ISS understands that the pandemic might warrant financial/operational performance targets that are lower than last year’s performance. In such cases, disclosure of how the compensation committee considered corresponding payout opportunities should be provided, particularly in cases where payout opportunities are not commensurately reduced to reflect lower performance.

• Evaluation of COVID-19 Changes to In-Flight Equity/Long-Term Incentive Performance Cycles: Changes to in-flight performance cycles for equity/long-term incentive awards will generally be viewed negatively, particularly for companies that exhibit a quantitative pay for performance disconnect.

• Evaluation of COVID-19 Changes to Equity/Long-Term Incentive Performance Cycles Beginning in 2020: In the absence of fundamental changes to business strategy, ISS does not expect to see drastic changes in long-term incentive plan design and, along these lines, dramatic changes (e.g., shift to predominately time-based awards or shorter performance periods) will be viewed negatively. Modest adjustments to cycles beginning in 2020 may be viewed as reasonable and if there are changes, clear disclosure of the compensation committee’s rationale should be provided.

• Evaluation of COVID-19 Retention or other One-Time Awards and Replacement Awards for Forfeited Incentives: Any one-time awards, including retention awards, should be accompanied with disclosure of the rationale for the award (including magnitude and structure) as well as an explanation of how granting the award is in the best interests of the company’s stockholders. Award magnitude should be reasonable, vesting conditions should be long-term, performance-based and linked to the concerns the award aims to address. These awards should not be granted as a mere replacement for forfeited incentives and companies that grant one-time awards in consideration of forfeited incentives, for fairness and for lower realizable pay will need to explain how the one-time award does not simply insulate management from lower pay.

• Generally No Changes to Equity Plan Scorecard, Repricing Policies and Problematic Pay Practices: ISS’s policies relative to problematic pay practices and option repricing programs will remain consistent with prior years guidance.  For 2021, the passing score for the Equity Plan Scorecard for S&P 500 companies will increase to 57 points, the passing score for Russell 3000 companies will increase to 55 points and the passing score for all other companies will remain 53 points.