29 September 2016
The binding vote on a separate company remuneration policy was introduced in 2014. For many companies and shareholders the 2017 AGM will be the first opportunity to revisit and vote on a new remuneration policy. Following the Brexit referendum and with the spectre of further political intervention in executive pay, this review may be timely.
- Is there a need for greater transparency on performance measures and bonus targets?
- Do the current arrangements still deliver? Do companies retain LTIPS or move to a simplified approach using direct pay and shares?
- Can flexibility be increased to cope with fluctuating circumstances without depending too much on discretionary powers?
- Are shareholder engagement or solicitation plans in place to seek feedback where possible to ensure the new policy is approved at the 2017 AGM?
To coincide with the end of the first three year period the GC100 guidance on remuneration reporting has been revised and the Investor Association (IA) have published the final report from the independent Executive Remuneration Working Group they established in 2015. Both documents should help to guide companies as they approach this policy review.
This year there have been a number of contentious remuneration-related AGM votes that have once again raised the profile of executive remuneration and brought into question the validity and effectiveness of the systems to reward good performing executives.
Political pronouncements and the European perspective are also likely to add to the scrutiny of the revised policies as they are presented to shareholders at AGMs in 2017. The new Prime Minister has already indicated that there will be a focus on executive pay, which might include a binding vote on payments made to directors each year, requirements to disclose the ratio between chief executive pay and the average company employee and more simplicity and transparency around directors’ pay and bonuses.
Whilst Government action in these areas will take time, Boards may wish to bear these matters in mind when reviewing the remuneration policy. Future-proofing share awards to take into account possible Brexit issues and uncertainty in the economic conditions or currency markets may be difficult. However, reshaping the remuneration policy may provide an opportunity to revisit the types and quantum of share awards/plans on offer, review the hedging of share awards via the employee benefit trust and re-assess the plans for future share awards.
A new revised remuneration policy reflecting the requirements of the company will need to sit alongside effective engagement with investors to achieve a positive AGM outcome.
Executive Remuneration Working Group report
The IA set up the independent working group to propose a “radical simplification” of executive pay and restore trust in the remuneration system. They produced their final report
in July. The report contains ten specific recommendations and includes the following that Boards and in particular Remuneration Committees may wish to consider:
- Pay structures and flexibility – Consideration should be given to a movement away from the “one-size fits all” use of the LTIP to rewards suited to the company that might include restricted shares or deferred bonuses.
- Remuneration committees – Review accountability and strengthen committees to help build trust between investors and companies. Remuneration committees should have the flexibility to be able to choose the remuneration strategy most appropriate to the strategy and business needs. NEDs should only be appointed to chair the remuneration committee after being on the committee for at least one year. Boards should ensure the company chairman and whole board are appropriately engaged in the remuneration setting process.
- Shareholder engagement - This should focus on the strategic rationale for remuneration structures and involve both investment and governance perspectives. Shareholders should be clear with companies on their views on, and level of support for, the proposals. The working group identified a mismatch in expectations between companies and investors in the engagement process. Companies can treat the consultation process as a validation exercise rather than understanding the need to respond to shareholder concerns. There is also a perception that investors are sometimes not being clear about their views to companies, or are not representing the views of the institution both from a governance and investment perspective.
- Increasing transparency on target setting and use of discretion - Remuneration committees should disclose the process for setting bonus targets and retrospectively disclose the performance range. The use of discretion should be clearly disclosed to investors with the remuneration committee disclosing the impact the discretion has had on remuneration outcomes. Shareholders will expect committees to take a balanced view on the use of discretion.
- Level of pay and maximum level of pay – Boards should consider how they justify these and how they relate to external factors as well as internal comparisons such as the ratio between the pay of the CEO and median employee. Benchmarking should not be the only tool for determining pay as this approach tends to have an inflationary impact on pay.
- Binding vote on pay and the remuneration report – The report touches on this briefly and indicates that this move may help build trust and suggests one scenario using it for companies where more than 25% of shareholders voted against the remuneration report.
GC100 and Investor Group Guidance
The GC100 (the association of general counsel and company secretaries of the FTSE 100) and Investor Group has published a revised version of its guidance for listed companies on the directors' remuneration reporting regime (originally published in 2013). The updated GC100 and Investor Group Directors’ Remuneration Reporting Guidance is available in the GC100 section of the Practical Law website.
The majority of the guidance remains fit for purpose but there are a number of changes that companies will want to consider when reviewing their remuneration policy:
- Exercise of discretion (section 1.3) – It is clear that including a broad discretion under the terms of the policy has not always been accepted by shareholders and companies have had to issue assurances outside of the remuneration policy. The revised Guidance states that this practice is not desirable, and instead recommends that the policy itself includes a full explanation and well-drafted description of the discretion to provide that it will only be exercised within a specified maximum. Concerns at AGMs have focussed on large payouts to directors that have not been justified by company performances.
- Disclosure of bonus targets and commercially sensitive information (section 2.1) – Withholding details of performance measures or targets is permitted by law. However, the GC100 are concerned that this practice does not get out of hand resulting in lack of transparency. This has been a contentious issue for some investors, with some voting against reports that do not include adequate disclosure. The Guidance now includes confirmation that where information is not included on the basis that it is commercially sensitive, the particulars and the reason for the omission must be given in the remuneration report and an indication given of when (if at all) the information is to be reported.
- Inclusion of a maximum (section 4.3) – The requirement to state a “maximum” as required by regulations for each component of remuneration has largely been complied with in respect of bonus and LTIP. However, in respect of base salary the reporting has been more mixed. The revised Guidance has been strengthened and it now specifically states that a maximum for salary must be stated. Maximum salary that might be paid must be explained and be disclosed at an individual executive director level.
- Pay comparator group (section 3.8) – The use of appropriate comparator groups with respect to CEO pay has been questioned and the guidance now states that investors and other stakeholders generally expect a meaningful comparator group and not a narrow group of senior managers.
- Interpreting aspects of the GC100 guidance – Because the document is a mixture of regulation, recommendations and suggestions, the document previously had three levels of guidance to reflect the nature of the particular action being suggested. A fourth category has been added and they are now:
- “must” meant a mandatory disclosure;
- “should” in the Guidance means a matter not expressly required by the wording of the rules, but which the GC100 Group believes reflects the rules’ underlying intention and established as good practice;
- “may wish to consider” meant going beyond the law, but the disclosure would promote effective engagement between investor and companies; and
- “investors generally expect” meant this was not guidance on specific legal requirements, but the disclosure would provide some context for companies.
Preparing for 2017
Clearly there are a number of questions that Boards and Remuneration Committees will need to consider ahead of presenting their remuneration policies to shareholders at the 2017 AGM. Fortunately, both the Working Group report and GC 100 and Investor Group updated guidance overlap on a number of points and are generally singing from the same hymn sheet.
Engagement with investors as companies are developing their remuneration policies will be crucial to seeking approval at the next AGM. With regards to this, we would recommend that the sooner companies engage with their investors, the better. Boards can then be a position to make informed decisions when finalising the remuneration policy and aim to mitigate the risk of negative votes. This is particularly important as the voting policies of investors are ever evolving and many are likely to change in light of the new guidance and market trends.
Capita Asset Services’ team of Investor Relations consultants can provide clients with support in a number of areas including:
- identifying shareholders
- organising pre-AGM investor roadshows to seek investor feedback on remuneration-related and other AGM resolutions
- proxy solicitation campaigns to maximise shareholders support ahead of the AGM.
Please don’t hesitate to contact your relationship manager for more information.
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