Say on pay – still needed?

While shareholder groups press for greater involvement in executive compensation, opponents say new CSA rules will improve pay for performance

Early this year, at the annual general meetings of five Canadian banks, shareholder resolutions pushed for “say on pay” — an advisory shareholder vote on executive compensation. The result: About 40 per cent voted in favour, on average.

The numbers were higher than expected and an indication of growing concerns about exorbitant executive compensation packages and questionable links to performance.

It’s not about denying a really good executive a really good pay day, but about giving shareholders the right to respond to the board of directors about pay package proposals, says Laura O’Neill, director of law and policy at the Shareholder Association for Research and Education (SHARE) of Vancouver, which put forward the resolutions along with Meritas Mutual Funds of Cambridge, Ont.

“This is definitely not a shareholder revolt to take over the job of the board,” she says. “We don’t want to see, and what shareholders are continually opposed to, is when pay is not sufficiently linked to performance. In Canada, though we haven’t seen the same excesses (as the United States), we still recognize pay and performance is not well linked so we still need to do more to get those two in sync.”

Groups such as SHARE and the Mouvement d’Éducation et de Défenses des Actionnaires in Montreal are also focusing on improved disclosure around executive compensation.

“There wouldn’t be much use having a vote on compensation if there’s no disclosure or terrible disclosure,” says O’Neill. “Disclosure works hand in hand with the advisory vote.”

New rules could quash say-on-pay

But a sharpened focus on disclosure could ultimately quash say-on-pay demands, as the Canadian Securities Administrators (CSA) released new rules around executive and director remuneration on Sept. 18. These will significantly change the information disclosed in management information circulars, requiring all direct and indirect compensation for named executive officers (NEOs) be provided. This includes a summary compensation table, a single dollar number of total compensation, a compensation discussion and analysis to explain how and why the board of directors determined the amounts of compensation, performance targets for NEO pay (unless they “seriously prejudice” the company’s interests) and a performance graph showing the cumulative total shareholder return over the last five years.

“One of the thrusts of the new regulations is to make it easier to read. The tables are simplified, there’s a more global view, so the regulator is working hard to give shareholders an easier time of it to figure out what’s going on,” says O’Neill.

But many institutional investors and organizations are taking a wait-and-see approach to gauge the impact of CSA’s disclosure rules, and say on pay will probably not happen, says Lisa Slipp, worldwide partner with HR consulting firm Mercer in Toronto.

“I don’t see it as a major concern from my clients,” she says. “Even leaving aside the new disclosure requirements and talk of say on pay and other requests companies have seen, I still feel most companies are trying to do the right thing and improve what they’re doing, not necessarily in response to any of those external pressures.”

In 2009, it’ll be the new regulations, rather than shareholder activism, that’s the strongest catalyst for changes in executive disclosure practices, says Al Hudec, a partner with the Vancouver-based law firm Farris.

“There is a growing acceptance of detailed disclosure and the need to align pay to performance but there is still a huge and, I would argue, justifiable reluctance to involve shareholders in setting executive compensation,” says Hudec.

The Canadian Coalition for Good Governance took a similar stance in early 2008 when it released a paper saying there was no need to push for say-on-pay resolutions as companies are making strides to improve executive compensation practices.

More than one hurdle

And there are other obstacles to say on pay. Some contend shareholders lack the vision and expertise to appreciate the nuances of executive compensation.

“Executive compensation is a very complex subject and very political and very emotional. There are a lot of factors and considerations that need to go into making decisions around executive pay — short-term, long-term, performance considerations, legal, recruiting and retention and future talent considerations,” says Slipp. “I personally don’t believe the typical investor, even a more sophisticated institutional investor versus an individual investor, has the benefit of all that information when they’re making a say-on-pay vote.”

But SHARE supports shareholders with long-term interest in corporations and many stock option plans now have binding votes, says O’Neill.

“You could argue that the board election is complicated, you can’t know everything about auditors, so why vote on that?”

Others contend it’s the job of compensation committees to deal with executive compensation. While that may be true, shareholders still have a right to be involved, says O’Neill. An advisory vote “is a nice, efficient way of soliciting a universal view from shareholders.”

But say on pay distorts the traditional distinctions between the roles of the board and shareholders and it’s the compensation committee’s job to set executive compensation, in consultation with outside experts, says Hudec.

“Although an argument can be made that compensation committees have not done a good job (in the past), this does not mean the task should be turned over to shareholders. Particularly in today’s capital markets, where hedge funds and other aggressive investor constituencies may seek to influence corporate decisions for short-term trading gains, it may be counter productive to the maximization of long-term corporate performance to give shareholders a greater say in pay.”

Majority voting a ‘good compromise’

And then there’s majority voting — which allows shareholders to vote for or against the re-election of directors handling executive compensation — which has been adopted by many companies, allowing investors to have their say, says Slipp.

“It’s a good compromise for the time-being and it makes sense. It’s non-binding but will give the company, board and individual a sense of how investors are feeling and whether they need to respect that.”

Majority voting makes directors more accountable and, therefore, should improve pay decisions without going as far as having shareholders vote on pay levels, says Hudec.

But while this method is supported “wholeheartedly,” says O’Neill, and it is encouraging to see about 100 companies now using majority voting, say on pay is still needed.

“(Majority voting) is important but, like disclosure, it’s not a substitute for the advisory vote. It’s a nice thing to have as well,” says O’Neill.

It remains to be seen how the new rules and resolutions actually affect executive compensation. Greater disclosure could see a tightening of the reins around pay for performance or it could see executives demanding greater pay to match the competition.

“Who’s running a company and how they’re incentivized is critical to the performance of the company so it’s one of the most important decisions the board has to make,” says Hudec. “It’s a hard thing to say whether executives are overpaid, when you get close to companies and realize just how important the CEO is and the magic of a great one compared to an average one. It makes a total difference in how a company performs.”

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