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Say on Pay (SOP) votes were mandated by the Dodd-Frank Act of 2010 as a mechanism to allow shareholders to voice their opinions about the level and structure of executive compensation as well as promote the engagement of companies and their shareholders regarding a key area of corporate governance. The general view was that shareholders would increasingly reject executive pay programs by voting against the SOP proposal in years of poor total shareholder return (TSR) performance unless executive pay was reduced. Our findings show that the 2022 and 2023 SOP seasons run counter to this premise for S&P 500 Index companies. SOP failures in 2022 hit a record high (n=22) when TSR performance was strong (1- and 3-year TSR of 27% and 24%, respectively), whereas SOP failures in 2023 unexpectedly decreased (n=11) when TSR performance declined (1- and 3-year TSR of -19% and +6%, respectively).
As published in our recent Viewpoint entitled, “The 2023 Say on Pay Season – Outcomes and Considerations – April 2023,” we reviewed the full history of SOP outcomes for S&P 500 companies beginning in 2011 through 2022. At the time, we anticipated an active and volatile 2023 SOP season given the decline in TSR performance of the S&P 500 Index in calendar year 2022 (down 19%), historically much lower than any previous year in the SOP era. This Viewpoint adds the 2023 SOP season to our previous findings and highlights the outcomes, which were unexpected given the negative TSR performance in calendar year 2022.
Figures 1 through 3 below have been updated from our prior April 2023 Viewpoint to include SOP outcomes for the 2023 SOP season (through June 30, 2023).
Figure 1: Unfavorable S&P 500 SOP Proposals by Year1
The number of companies failing SOP in 2023 is down by 50% compared to 2022 (the actual number of companies failing SOP decreased from 22 to 11). In other words, 2.5% of companies failed in 2023 versus 4.6% in the previous year (2022). This is likely due in part to only 43 of the S&P 500 companies, or 9.7%, receiving an “Against” SOP recommendation from Institutional Shareholder Services (ISS) — down from the previous 3-year average of 11.6%.
Figure 2: S&P 500 Historical 1-Year TSR3 & ISS “Against” SOP Recommendations2
Figure 3: S&P 500 Historical 3-Year TSR3 & ISS “Against” SOP Recommendations2
The number of ISS “Against” SOP recommendations declined to 43 companies through June 30, 2023, compared to the prior 3 years’ average of 56 companies (2020-2022). We note that despite 2022 TSR of-19%, the 3-year cumulative return was a positive 6%, which may have helped mitigate the number of ISS “Against” recommendations and failed SOP votes.
The number of ISS “Against” SOP recommendations in 2023 fell substantially from 2022, from 60 to 43, or a decline of nearly 30% in a year in which the S&P 500 performed at a historically low 1-year TSR of -19%. This performance created an expectation that ISS “Against” SOP recommendations and subsequent SOP failures would increase based on the premise that companies have difficulties reacting to sudden significant drops in TSR with corresponding changes to CEO compensation. For most companies, the majority of CEO compensation has already been determined or granted as they near the end of any 3-year TSR measurement period.
Our careful review of the drivers of an “Against” SOP recommendation by ISS in 2022 and 2023 reveals three areas of change between the 2 years which may have contributed to the reduction in “Against” SOP recommendations and failures, including:
We discuss each area of change below.
1. Companies Receiving Consecutive “Against” Recommendations
In any given SOP voting season, some companies receive SOP “Against” recommendations from ISS in ≥2 consecutive years. The 2022 SOP season featured a historically high 40% of companies with “Against” recommendations in consecutive years, or 24 of 60 companies. The roster of consecutive “Against” recommendations declined significantly in the 2023 SOP season to 23% of companies or 10 companies out of 43 companies receiving “Against” recommendations, a reduction of 14 companies.
Figure 4: Repeat ISS “Against” SOP Recommendations3 — 2022 versus 2023
We believe the decline in companies with consecutive “Against” recommendations was likely a function of Boards and Compensation Committees taking the necessary actions over the course of 2022 and early 2023 to address shareholders’ concerns with the prior year’s executive compensation program. In some cases, companies may have felt additional pressure to be responsive considering declining 2022 stock prices. Based on our experience as executive compensation consultants, companies understand the changes they need to make to existing compensation programs and practices in a year of a potential SOP failure, especially in the context of declining TSR. Examples of such actions include:
While making these changes is not guaranteed to garner a “For” ISS recommendation or shareholder support for SOP, we have found that these changes have contributed to a significant turnaround in the following year’s SOP voting results.
2. Better RDA Performance
We also looked at the underlying reasons for the issuance of an “Against” SOP recommendation from ISS over the 2 years of 2022 and 2023. Specifically, we looked at how many of the companies receiving “Against” SOP recommendations failed each of the three main ISS quantitative pay for performance (P4P) tests in each year: the RDA test, the Multiple of Median (MOM) test and the Pay-TSR Alignment (PTA) test.
Figure 5: Quantitative P4P outcomes for S&P 500 Companies Receiving an "Against" SOP Recommendations3 — 2022 versus 2023
Our conclusions can be summarized as follows:
Overall, companies appeared to perform generally better on the three main ISS quantitative P4P tests in 2023 versus 2022, led by significant improvement in outcomes on the RDA test. This improvement was somewhat offset by overall performance on the MOM and PTA tests; however, the dramatic decrease in ISS “Against” recommendations between years suggests improved RDA scores was a contributing factor to the decrease in the overall number of “Against” recommendations in 2023 versus 2022.
3. Overall Performance Against ISS Qualitative Tests
ISS also undertakes a qualitative assessment of executive compensation programs and practices, reviewing the structures and disclosure of company programs against ISS expectations for such programs. We compared the qualitative assessments cited in ISS’ “Against” SOP recommendations for 2022 and 2023 across six categories. Our objective was to determine if there were significant changes in the categories over the 2 years which may have contributed to the decline in “Against” SOP recommendations and failures. The outcomes are shown in the exhibit below:
Figure 6: Reasons for S&P 500 Companies Receiving an “Against” SOP Recommendation3 — 2022 versus 2023
We note several observations from Figure 6:
The 2023 SOP season, which we expected to be a difficult year for many S&P 500 companies due to historically low 1- year and 3-year TSR outcomes, turned out to be fairly benign. ISS “Against” SOP recommendations and related SOP failures declined significantly not only from the high-water mark of 2022 levels but also from levels in 2020-2022. The key drivers of the decline appear to be improved relative TSR performance coupled with heightened awareness of ISS and investor expectations.
As we move beyond the 2023 SOP season and look ahead to 2024, companies should monitor their projected ISS quantitative scores and evaluate potential qualitative concerns to ensure the company’s pay levels and incentive plan design are appropriately rewarding their executive talent to avoid a surprise ISS “Against” SOP recommendation.
Stock repurchases (or “buybacks”) — where a company uses excess cash flow to repurchase shares of its stock to reduce common shares outstanding — have attracted significant attention from journalists, academic researchers, and government regulators; the concept of repurchases has also accrued significant supporters and detractors. According to Securities and Exchange Commission (SEC) Chair Gary Gensler, “In 2021, buybacks amounted to nearly $950 billion and reportedly reached more than $1.25 trillion in 2022”.  In 2023, the SEC revised rules issued in 1982 governing buybacks to require quarterly reporting of daily officer and director stock transactions that occur during a period of a stock repurchase program in addition to narrative disclosure of the details of the company’s buyback program and trading policies applicable during the program. The new regulations are intended to increase transparency of buyback processes and executive stock transactions during such programs. This Viewpoint summarizes Pay Governance research on buybacks within the S&P 500, the impact of buybacks on incentive compensation, and recent regulations governing buybacks.
In 2003, the SEC amended rules that provided companies with a safe harbor from liability for market manipulation for stock repurchases or buybacks as long as the buybacks were conducted in accordance with the rules. Prior to the initial rules issued in 1982 that allowed for buybacks, companies largely had to be dependent upon dividends to allocate excess cash. However, granting special dividends was a much less tax-efficient method, given the dividends were paid to all shareholders and may be taxed as ordinary income, while buybacks allowed shareholders the option to participate in a plan to repurchase shares.
More recently, the Inflation Reduction Act of 2023 included an excise tax of 1% of the aggregated market value of net corporate share buybacks beginning January 1, 2023. Additionally, the current Administration budget proposal includes a limitation on corporate executives selling shares within 3 years of a buyback program at their company.
Why should companies conduct buybacks and what are the key benefits? Proponents argue that buybacks:
Detractors of buybacks argue that the approach underscores short-term management thinking. In particular, detractors say that buybacks:
Pay Governance reviewed publicly available incentive plan disclosures via proxy filings of S&P 500 companies that engaged in share buybacks from 2018 to 2021 (total number of buyback events is 561). We found that 46% used per share metrics such as earnings per share (EPS) or cash flow per share in their executive short-term and/or long-term incentive plans. Our research shows that of these companies that use per share metrics, 76% either don’t adjust for buybacks when determining incentive payouts or are silent in the disclosures about the use of adjustments. The findings could suggest that some companies that conduct buybacks have made the determination that buybacks are the most efficient use of capital at that point in time and deem it reasonable to reward management for the buybacks via the positive impact on per share metrics in incentive plans resulting in a boost to the incentive payouts. However, it is more likely that some or most of the compensation committees at these companies take the buybacks into account when setting incentive performance targets and/or determining payouts but do not explicitly disclose that they do so.
We found the remaining companies either disclose that they factor in the impact of share repurchases on shares outstanding when setting goals (15% of companies) or adjust for the impact when determining incentive awards (11% of companies). In other words, about one quarter of the companies consider the impact of share repurchases and prospectively adjust goals / set guardrails or retrospectively adjust incentive payouts to offset for the impact of buybacks.
Focusing on the companies that conducted the 20 largest buybacks based on value of shares repurchased in each of the 4 study years, we found that the majority (74%) disclose that they factor in the impact of share repurchases on shares outstanding either when setting goals (60% of companies) or adjust for the impact when determining incentive awards (14% of companies). The companies with the largest buybacks are more likely to factor buybacks into the goal setting process and/or adjust incentive payouts accordingly given the magnitude of the buybacks which have a significant impact on per share metrics and corresponding incentive outcomes.
The establishment and disclosure of such “guardrails” (prospective or retrospective adjustments to incentive payouts) are an effective way to mitigate potential criticisms that buybacks are inappropriately impacting executive incentive payouts.
While prevalence of per share metrics is important to understand the impact or lack of impact of buybacks on incentives, it is also important to consider the relative weighting of per share metrics in the incentive plan, as many organizations use multiple metrics. Pay Governance research on the 20 largest buybacks from a value of shares purchased standpoint from 2018–2021 (total number of companies = 80) found that the use of per share metrics, such as EPS or cash flow per share, in either the short- or long-term incentive plan is not significantly different from the total S&P 500. Over the 4 years, the prevalence of per share metrics averaged 45%, similar to the total sample (46%). In addition, we found the weighting of the per share metrics in the incentive scorecard averaged 52% over the same period, with the other 48% represented by other financial, operational, and individual metrics/goals that are not influenced by share buybacks.
With a significant number of companies not using per share metrics, and those that do weighting the per share metric at about one half of the incentive scorecard, the data suggest that companies engaging in buybacks are not overwhelmingly incorporating per share metrics in incentive plans to boost executive incentive payouts; otherwise, we would have expected to see a greater use of per share metrics and higher weighting of these metrics. The balanced weighting of per share metrics and other financial, operational, and individual metrics suggest that share buybacks do not have an outsized influence on incentive outcomes, thus countering a major area of criticism of the practice.
Recent research  evaluated portfolios of companies that executed repurchases with those that did not conduct repurchases and concluded that stock price returns for the two sets are largely the same. The research rejected the notion that stock prices and compensation for CEOs of companies that conducted buybacks were inflated by the practice. The research underscored its conclusions by identifying three key factors present in these companies: 1. The repurchases generally reduce shares outstanding by a relatively small amount; 2. Buybacks are an ongoing strategy that is anticipated in establishing per share performance expectations; and 3. Compensation committees are knowledgeable about the impact of repurchases and take this into account in setting incentive performance targets and CEO compensation.
Considering that there is criticism of buybacks based on the premise that the open market purchases of shares results in artificially boosting stock prices, and thus executive gains on stock holdings, we researched S&P 500 companies’ total shareholder returns (TSRs) between 2018–2022 and segmented the analysis into companies that had conducted buybacks during the period and those that had not repurchased shares. While there is some annual variation in results, the 5-year TSRs for those conducting buybacks and those that did not are similar (see chart below).
Investors and activists may use their influence to encourage or mandate target companies to address ESG, remuneration, personnel, and capital allocation issues. In some cases, these actions related to capital or cash allocation take the course of demands to conduct stock repurchases. In terms of prominence, the demands to return cash to shareholders (via repurchase or special dividend) are less common than ESG and remuneration actions.
Our research indicates that from 2018 to 2022, there were 151 initiatives launched by activist investors to mandate share repurchase or returns of cash to shareholders. The activist demands were mostly either partially or completely successful at 44% (6% and 38% respectively). Activists are classified based on their “focus” per Insightia Activism . Our research includes “Primary Focus” activists such as Carl Icahn and Bulldog Investors, “Partial Focus” activists such as Saba Capital Management, “Occasional” activists such as Kinesic Capital, and a few “Concerned Shareholder” activists as well.
2021 and 2022 saw an increase in share repurchase demands with the highest rate of being successful at 60–67%. In addition, there are 11 ongoing demands initiated in 2023.
Given the majority of activist share repurchase demands are successful, we conclude that activists/shareholders view buybacks positively and can be the best use of capital depending on a company’s specific circumstance. Pay Governance will follow up with another Viewpoint that examines the effect of activist buyback demands on TSR in the year or years following a successful campaign.
Our research of S&P 500 companies indicates that many of the criticisms of share repurchases are overstated or unfounded. While only a minority of companies explicitly disclose accounting for the impact of buybacks in incentive goals or actual awards, the actual impact for those that don’t is less than many perceive due to the use of multiple performance goals in incentive scorecards, goals that define performance on an absolute (not per share) basis, and performance targets that implicitly include board approved repurchase budgets. In addition, the majority of companies with the largest buybacks explicitly disclose adjusting for the impact of buybacks in incentive goals and payouts. Not surprisingly, we also found that TSRs for companies that conduct buybacks are very similar to returns of companies that don’t conduct buybacks, thus deflating the criticism that buybacks inflate stock prices and executive pay. Companies that conduct significant buybacks should consider the most appropriate means to transparently communicate with shareholders on the impact buybacks have on incentive plans (i.e., adjusted goals or performance, or repurchases embedded into performance targets) given their individual situations.
The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank) required that companies disclose the relationship of PVP and granted the SEC wide discretion in promulgating the required disclosure. At the time, Congress acknowledged that the current disclosure rules, which included the Compensation, Discussion, and Analysis (CD&A) and Summary Compensation Table (SCT), did not provide shareholders with a sufficient understanding of the relationship of compensation and performance. While the CD&A and SCT provided better visibility to the rationale for — and components of — compensation, they did not illustrate the relationship between the pay decisions made in the reporting year with the subsequent performance of the organization.
The introduction of the PVP disclosure provides a more multidimensional view of pay relative to performance as it incorporates the impact of stock price and performance on equity awards in measuring compensation. At this point in the 2023 proxy season, thousands of companies have filed their proxy statements and spent countless hours preparing the new PVP disclosure, and many are now asking the question, “Does the SEC’s new PVP disclosure provide an effective means to evaluate the alignment of pay and performance?”
Based on Pay Governance’s analysis of 188 S&P 500 company PVP disclosures, the answer is Yes.
Various organizations and articles have utilized the newly required PVP disclosures in different ways, but many concluded that compensation actually paid (CAP) and total shareholder return (TSR) are aligned.
While this was nearly a foregone conclusion given the large emphasis on stock-based compensation for executives, it should reassure shareholders that their strong support for Say on Pay over the last 13 years was well founded. In that sense, one could argue that the PVP disclosures were successful, and we certainly agree that CAP is much better than Summary Compensation Table Total Compensation (SCT compensation) when evaluating the alignment of pay and performance. What remains to be seen is whether and how Compensation Committees, shareholders, and proxy advisory firms incorporate the PVP disclosures when evaluating pay and performance.
Prior to the introduction of the PVP disclosure requirement, SCT compensation has been the primary measure of compensation used by many investors, academics, the media, and, importantly, proxy advisory firms to evaluate the alignment of pay and performance, in part because the data was most readily available. However, SCT compensation is based on the Grant Date Fair Value of equity awards which means equity awards are not adjusted for changes in stock price and/or actual performance. This is in contrast with an outcomes-based valuation of equity awards, such as CAP, which reflects the change in value of equity awards until the vest date. As a result, SCT compensation is not ideal for evaluating the relationship of pay and performance, as it provides a view into the accounting value of equity awards but not the actual performance-adjusted value of those awards, which is critically important when measuring pay for performance.
Based on our analysis, CAP is better for alignment evaluation purposes than SCT compensation to facilitate a meaningful evaluation of the alignment of pay with performance if a comparison of the relative amount of a company’s CAP is compared to its relative performance against an appropriate peer set.
While CAP amounts may be distorted (e.g., by the inclusion of equity awards granted prior to the performance period, use of the Black-Scholes value of stock options rather than the in-the-money value of such awards, and exclusion of cash long-term incentive plans until the year the award is earned, among others), they reflect the actual or best estimate of the value of equity at the time of disclosure versus the accounting value of equity at the time of grant. Further, the use of relative percentile comparisons against a peer index or peer group can remove some of the noise in these data.
To demonstrate how to analyze pay and performance using the PVP disclosures, the following approach was utilized:
Assessing the relative positioning of CAP and performance using percentile rankings against a relevant peer or industry group demonstrates if a particular company’s pay and performance alignment is commensurate, better, or worse than peers. This type of relative analysis is consistent with how Pay Governance typically evaluates Realizable Pay and performance alignment for our clients. For additional valid methodologies for evaluating and confirming the alignment of pay and performance, see our Viewpoints, Demonstrating Pay and Performance Alignment: A Comparison of Compensation Actually Paid and Realizable Pay and What Shareholders Can Learn from the SEC’s New Pay Versus Performance Disclosure, which compare, respectively, changes in CAP to changes in TSR and key differences between CAP and Realizable Pay.
Figure 1 below is based on 188 S&P 500 companies and plots each one based on their difference in percentile ranking of 3-year cumulative TSR and 3-year cumulative SCT compensation. The three-shaded areas represent companies where relative TSR performance and SCT compensation percentile ranking are within 25 percentile points (green zone), TSR percentile ranking exceeds SCT compensation ranking by > 25 percentile points (yellow zone), and TSR percentile ranking is below SCT compensation ranking by > 25 percentile points (red zone).
When the same analysis is performed using CAP rather than SCT compensation, the alignment of pay and performance improves dramatically as observed in prior Viewpoints and as shown in Figure 2 below.
Figure 3 below focuses on the change in pay for performance alignment for the 28 companies in the Industrials sector using SCT compensation and CAP.
The chart on the left (3a) shows the comparison of SCT compensation and TSR; the distribution is random, and correlation is low as observed in Figure 1.
The chart in the middle (3b) shows how compensation percentile changes when using CAP instead of SCT compensation; arrows show the directional shift in SCT compensation rank to CAP rank.
The chart on the right (3c) shows the strong alignment of CAP and TSR among the Industrials Sector companies.
Table 1 below shows the distribution of compensation and TSR rank by Sector within the three zones of alignment: yellow zone where TSR rank exceeds compensation rank by > 25 percentile points, green zone where TSR rank is within +/- 25 percentile points of compensation rank, and red zone where TSR is below compensation rank by > 25 percentile points.
The percentage of companies identified in the red zone, where TSR is less than compensation rank by > 25 percentile points, decreases for all Sectors except Communication Services, which is likely due to the small sample size of seven companies.
A key takeaway of Table 1 for investors and others is the number of situations where a company’s compensation percentile rank significantly exceeds its TSR percentile rank (red zone) drops dramatically when actual performance is considered in calculating compensation.
A relative analysis of cumulative CAP and TSR against a company’s peer group or industry sector can provide a more meaningful evaluation of pay and performance than comparing SCT compensation and TSR (or other industry specific performance measures).
For companies in the yellow zone, where TSR rank exceeds CAP rank by > 25 percentile points, it may signal:
Companies in the yellow zone may want to further investigate the apparent pay for performance disconnect to ensure the company is not at a competitive disadvantage in retaining executive talent.
For companies in the red zone, where CAP exceeds TSR rank by > 25 percentile points, there may be several explanations, including:
Companies in the red zone may also want to further investigate the apparent disconnect to ensure the company’s pay levels and incentive plan design are appropriately rewarding their executive talent.
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