The 2023 AGM season is here. Remuneration reports will be out soon. Proxy advisors will recommend, and investors will vote on your remuneration reports and equity grants. An effective engagement can maximise the chances of investors supporting your remuneration votes.

If you want to hear directly from proxy advisors what they think, check out our article summarising a director briefing with Martin Lawrence of Ownership Matters (See HERE). In addition, if you are a director, contact us to attend this month’s director briefing with Philip Foo of Glass Lewis.

The following is a checklist for directors to test against their companies’ issues.

Fixed pay increases

Significant fixed pay increase will raise red flags for shareholders. Given the high inflation and high salary increases for other employees, there may be reasoning to increase CEO and executive fixed pay.

Inflation and good performance may not be sufficient to justify above market adjustments in fixed pay. Some investors will want to know the extent to which fixed pay increases for executives reflect increases for the rest of the company. This is particularly important to some UK and European investors.

Others, and the proxy advisors, will want to compare remuneration to market rates. Beware that the way they do evaluate market relativity will almost certainly vary from the way you do it. So be prepared to go into detail as to how you have assessed this. An independent benchmarking can determine the appropriate level of fixed pay for executives.

Some will also consider total shareholder return (TSR). Low or negative TSR does not bode well for support. Arguments that executives have not seen an increase for years will not succeed if the company is a serial TSR underachiever.

Even then, one of the proxy advisors will not support significant fixed pay increases even if there is the threat of executive turnover because pay is significantly under median levels.

Pay for performance

With the inflation and a general downturn in the global economy, companies should be particularly concerned with the alignment of executive remuneration to performance. Proxy advisors are always concerned with payouts occurring when performance has been poor. Investors are going to expect that outcomes for executives are aligned with outcomes for shareholders.

If executive pay outcomes (for STI and LTI) do not reflect performance of the company, by TSR, be sure to have a justification ready. This year’s results will see many companies’ financial results diverging from TSR. The former are retrospective measures of performance, while TSR reflects investors’ expectations of future financial performance. A structure that has a bet each way (financial and TSR performance) will have a balance that most investors support. But loading an incentive framework on either one or the other may require a bit more explanation.

Questions about whether malus should have been, and to what extent will be implemented may come up. Modern remuneration frameworks should give boards the right to reduce/eliminate incentive payments. Investors expect it to be considered.

Non-Financial performance measures and ESG

Investors are increasingly concerned with non-challenging and non-quantifiable performance measures. Proxy advisors do not have a view that every company should have non-financial performance measures. Instead, the measures selected should be important to a long-term success. That is, all the proxy advisors would say their recommendations are about value, rather than values. So if ESG measures are material to conserving or enhancing value make sure this is clear in your engagement and disclosures.

Day job measures in remuneration frameworks are viewed poorly by investors and proxy advisors, as they reward something the executive should already be doing. These measures are viewed as non-challenging ways to increase the scorecard outcomes. It was interesting in a recent proxy advisor discussion that the proxy advisor indicated that M&A is part of the day job, and a transaction may not be appropriate for a specific reward.

Increasingly investors also want to know how a company’s ESG goals are being reflected in the remuneration framework. Companies are disclosing ambitious ESG targets, especially in regard to climate, but without ties to remuneration. Investors may doubt the validity of these goals. There is concern that these companies are “greenwashing” (See HERE). Tying ESG goals to remuneration is a way to prove to investors that the goals have serious backing.

Positive discretion and retention

Boards that have positively adjusted incentive outcomes or granted retention remuneration had better have good reasoning. Recent instances of positive discretion to vest incentives due to an unexpected (really?) or an uncontrollable cyclical downturn, even with a compelling argument, will not win over many investors or proxy advisors.

Applying discretion by “moving the goal posts”, i.e. re-setting performance requirements lower, does not get a good reception from the proxy advisers. The better chances for engagement success are those companies that corrected targets early in the performance period, and not towards the end.

If the level of vesting is positively varied rather than the goalposts the extent of negative response may be less if there was a compelling reason. There are few of these, but they can be justified. An example may be a situation whereby an operation was entitled shut down to prevent employee harm.

Retention grants are unlikely to be supported. This is particularly the case when incentives have not been paid out. In a cyclical downturn, companies exposed to the same cycle, and with incentives not paying out are not likely to attract prospective employees disenchanted elsewhere. So proxy advisors and investors argue there is no executive flight risk.

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