Incentive Deferrals: Working Group & Shareholder Resolutions
In 2019, IOPA investors observed that based on public reports on misconduct clawbacks, the provisions were not being used likely due to the high costs of going to court to get money already out the door and plans often lacked the ability to defer and reduce payments in the event late arriving information about misconduct was known.
Investors approached IOPA companies to develop the Incentive Deferral Principles (see below) The Principles are designed to give compensation committees maximum flexibility in determining key elements to retain control over payouts and awards in order to assess whether there has been a violation of the company’s code of conduct. Investors also sought to identify best practices or models of compensation arrangements that defer bonus or long-term equity awards to promote long-term interests and to allow for an evaluation period related to misconduct.
A facilitated Working Group was convened in November 2019 with fifteen companies and six IOPA Members participating. The working Group was facilitated by Charles Elson, Director of the John L. Weinberg Center for Corporate Governance and Edger S. Woolard Jr., Chair of Corporate Governance, University of Delaware, and Douglas Chia, President, Soundboard Governance LLC and Fellow, Rutgers Center for Corporate Law and Governance. The companies agreed to participate as an alternative to the 14a-8 process. In return for company agreement to participate in the Working Group, investors withdrew or agreed which are not to file resolutions on bonus deferrals at companies that have committed to work on the issue and whose annual meetings occur during the time the Working Group is convened.
In August 2020, the Working Group completed its work on the Principles included below:
These Principles aim to (a) facilitate recoupment of incentive compensation in the event of misconduct triggering recoupment under a company’s recoupment policy and (b) allow adjustment of incentive compensation prior to payout or settlement based on a determination that the executive violated the Company’s Code of Conduct or other policy governing employee conduct resulting in significant reputational harm or financial costs related to non-compliance or to other legal or regulatory liability, in each case in the discretion of the board’s compensation committee.
- For purposes of these Principles, “incentive compensation” means any cash or equity compensation that is granted pursuant to an incentive compensation plan and whose amount or value is based on performance measured by financial or non-financial metrics achieved by the company, including stock value or stock price appreciation; individual executive; or other entity such as a business unit or division. Incentive compensation excludes annual salary, perquisites, and cash allowances.
- For executives selected by the Board’s compensation committee to be covered by these Principles (“Covered Executives”), one or more forms of incentive compensation (the “deferred amount”) should not be paid in full at the time of an award payment (such as in the case of cash bonus), vesting (such as in the case of equity awards that vest), or payout (such as in the case of a performance share or unit plan), which would mean the deferred amount would be retained by the company for some period of time (the “deferral period”) to be determined by the compensation committee. The deferral period should continue in effect if a Covered Executive’s employment is terminated, voluntarily or involuntarily.
- The compensation committee has discretion to designate Covered Executives and to select the relevant form(s) of incentive compensation, the deferred amount and deferral period for each Covered Executive or groups of Covered Executives. The form(s), deferred amount and deferral period need not be the same for all Covered Executives; rather, the compensation committee in its discretion should select form(s) and establish deferred amounts and deferral periods that are best suited to accomplish the goals set forth above.
- Deferred amounts would be subject to downward adjustment during the deferral period by the compensation committee in the event of a determination that the executive violated the Company’s Code of Conduct or other policy that governs employee conduct resulting in significant reputational harm or financial costs related to material non-compliance or to other legal or regulatory liability, in the discretion of the board’s compensation committee. The circumstances under which adjustment may occur would be established by the compensation committee consistent with the goals set forth above.
After the Incentive Principles were developed, compensation committees of three companies, Bristol Myers Squibb, CVS Health, and Walgreens, took steps to align their plans with the intent of the Principles. Several other companies that participated in the Working Group are continuing to take board action but have not completed their work at the time of this posting.
Below is a summary of the steps taken by boards:
- Bristol Myers Squibb expanded disclosure in the 2021 proxy on how the existing incentive plan’s 12-month look back period to clawback vested equity related to misconduct and at all times executives must hold 75% of their vested shares for 1 year after vesting and awards are held until the end of the original performance period. Performance Share Units Agreement (see Section 10(d), page 9 and 13(k), page 12); Market Shares Unit Agreement (see Section 2(j), page 5 and Section 3(d), page 7).
- CVS Health enhanced the provisions of the 2020 long term awards to provide for (1) forfeiture for “detrimental conduct” occurring during the vesting and mandatory deferral periods and (2) the deferral does not lapse on termination of employment. CVS currently requires a 2-year holding period for its long-term equity awards. CVS Health Fall 2020 Stockholder Engagement (see Page 9).
- Walgreens codified and disclosed an approach to assess risk and misconduct related to the cash incentive plan during the deferral period. Misconduct was specifically added to consideration of factors that would give cause for reductions in payouts. Approved Resolutions from Meeting of the Compensation and Leadership Performance Committee of Walgreens Boots Alliance, Inc. on October 28, 2020 (see Exhibit C) This agreement came as a result of a resolution filed by Domini and steps the Board took during the SEC no-action exchange.
Corporate members of the Working Group were not bound by the agreement on the Principles, nor were investors limited from filing different type of resolutions related to the Principles after the Working Group was over. Some companies are continuing to work on adopting key elements of the Principles and we will update this progress as we learn about it.
The WSJ reported on the achievements of the IOPA Working Group on Incentive Deferrals as did the Economist at the end of this section.
Some companies that did not participate in the Working Group did receive shareholder resolutions for the 2020 proxy season.
- AmerisourceBergen’s vote resulted in 51% support from independent voters (shares excluding Walgreens Boots Alliance).
- Eli Lilly’s vote resulted in a 36.5% support from independent voters (excluding Eli Lilly foundation shares).
For the 2021, proxy season, the following resolution language has been submitted at AmerisourceBergen, Eli Lilly, and Johnson & Johnson.
RESOLVED that shareholders of [Name of Company] urge the Compensation & Benefits Committee (the “Committee”) of the board to change any annual cash incentive program (“Bonus Program”) to provide that an award (a “Bonus”) to a senior executive that is based on one or more financial measurements (a “Financial Metric”) whose performance measurement period (“PMP”) is one year or shorter shall not be paid in full for a period (the “Deferral Period”) following the award, including developing a methodology for determining the length of the Deferral Period and adjusting the remainder of the Bonus over the Deferral Period.
The methodology referenced above should allow accurate assessment of risks taken during the PMP that could have affected performance on the Financial Metric(s) and facilitate [Name of Company]’s recoupment of Bonus compensation pursuant to its recoupment policy.
The changes should be implemented in a way that does not violate any existing contractual obligation or the terms of any compensation or benefit plan currently in effect.
The status of the 2021 Incentive Deferral Resolutions is as follows:
- IOPA and ICCR member, Philadelphia Sister of St. Francis prevailed at the SEC against Johnson & Johnson which was denied by the SEC the company’s request to exclude the resulting form the 2021 ballot
- IOPA and ICCR member Philadelphia of St. Francis also filed at AmerisourceBergen and was able to achieve a settlement before the SEC decided on the Company’s no-action request.
AmerisourceBergen agreed to change its Compensation Committee Charter to allow for the “the exercise of discretion to reduce any compensation award,” see page 10 of SEC No-Action Correspondence and committee charter at Compensation and Succession-Planning Committee Charter #7 under responsibilities. This agreement came as a result of a resolution filed by Domini and steps the Board took during the no-action exchange.
To learn more about this initiative, please contact Donna Meyer of Mercy Investment Services, [email protected].