ISS recently announced updates to its US proxy voting guidelines for the 2016 proxy season effective for meetings on or after Feb. 1, 2016, and this Proxy Alert analyzes the implications of these updates. Also included in the Alert are brief summaries of the affected policies; for full text please refer to ISS’s policy update document.
Management Proposals
Overboarded Directors
Starting in 2017, ISS will issue negative vote recommendations for the election of directors (who are not a CEO of a public company) if they sit on more than five public company boards, down from six. In 2016, ISS will note that these directors serve on more than five boards in its analysis, but not issue negative recommendations.
The overboarding guidelines for directors that are a CEO of a public company are unchanged (the CEO may sit on the boards of two other companies without repercussions from ISS).
Many of the companies already place restrictions on outside board service to minimize the possibility of directors becoming “overboarded” with insufficient time to devote to board responsibilities. According to ISS’s data, the above change would affect 61 directors. Companies should review their board profile to see if any of their directors will be affected by this change. The company will have until its 2017 annual meeting to replace an affected director if he or she decides to step off from the company’s board and should plan accordingly.
Unilateral Bylaw/Charter Amendments
Last year, ISS created a new, stand-alone policy to address changes to company bylaws or charter without shareholder approval that diminish shareholders' rights or otherwise adversely impact shareholders.
This policy has been updated to clarify that ISS in certain cases will generally issue negative vote recommendations on director elections until a majority of shareholders approve the rights reduction, or until the rights are fully restored. The new policy specifies the amendments that would be viewed as egregious and subject to such treatment – classified boards, supermajority vote requirements to amend the bylaws or charter, or eliminating shareholders' ability to amend bylaws.
A new section was also created for the methodology used to evaluate unilateral bylaw/charter amendments prior to or in connection with a company's initial public offering. Per ISS, this bifurcation reflects the differing expectations that investors may have for the governance structures of a newly-public company versus a company that has been public for some period of time.
The above policy update does not change how ISS evaluates a unilateral bylaw/charter amendment to determine its initial vote recommendation. However, repeat adverse recommendations by ISS in case of adoption of the three specified provisions would mean continued pressure and scrutiny for such boards. Under its bifurcated policy, ISS seems to allow some latitude for newly public companies. A sunset provision or commitment to put the problematic provision to a shareholder vote within three years of the date of the IPO is likely to get companies a reprieve.
Voting for Director Nominees in Contested Elections
ISS clarified that different factors may be used to evaluate director elections for proxy contests vs. proxy access. This revision gives ISS analytical latitude for evaluating candidates nominated through proxy access.
The above policy change should not have much, if any, impact in 2016. In light of an increasing number of companies adopting proxy access, ISS revised its policy framework to prepare for the increased possibility, although low probability, of a proxy access nomination.
On the more important issue of board responsiveness to majority supported shareholder proposals on proxy access, ISS policy updates were silent. While ISS has indicated that a company adopting a proxy access provision that allows nomination for up to 20% of the board and group limit of up to 20 shareholders would be seen as acceptable, its position on some of the other terms (like repeat nominee eligibility restrictions) is unclear. It is possible that ISS will provide further guidance on the types of proxy access terms it considers “overly restrictive” in its annual FAQ documents expected in mid-December.
Insufficient Executive Compensation Disclosure by Externally Managed Issuers
ISS added "Insufficient Executive Compensation Disclosure by Externally Managed Issuers (EMIs)" to its list of problematic pay practices.
Externally-managed issuers (EMIs) typically do not disclose any details about their compensation arrangements or payments made to executives by external managers. This addition makes clear that insufficient disclosure may result in an adverse recommendation for the advisory vote on executive compensation for EMIs.
This policy update affects a narrow universe of companies, typically the REITs. According to ISS, there are approximately 60 EMIs in the U.S. and in most cases these companies provide limited or no disclosure on executive compensation arrangements with the external manager. Such companies should consider providing in sufficient detail the compensation arrangements and payments made to executives on behalf of the external manager. If a company is unable to provide such disclosure, it should consider analyzing with the help of its proxy solicitor the impact of a negative ISS recommendation. The companies should also consider engaging in a shareholder outreach campaign to engage and build support with its investor base.
Shareholder Proposals
In addition to the above policy updates on issues of management proposals, ISS made some minor changes to a few shareholder proposals that are likely to have minimal impact. All except one relate to “Environmental and Social” issues and are briefly summarized below.
Compensation: Adopt holding periods
ISS is streamlined and clarified its holding period shareholder proposal policy. It also broadened it to encompass executive equity retention proposals more generally, eliminating the need for a separate policy covering proposals seeking retention of 75% of net shares.
Animal Welfare
ISS added to this policy to encompass proposals seeking a report on animal welfare risks and controversies that might arise from them - instead of just a report on a company’s animal welfare standards. ISS also expanded the policy to cover the issuer’s suppliers.
Pharmaceutical pricing, access to medicines, and prescription drug reimportation
ISS added regulatory risk exposure as a factor to its policy guidelines and will also now consider “recent significant controversies, litigation, or fines at the company" in its evaluation.
Climate change / greenhouse gas (GHG) emissions
ISS specified that “financial, physical, or regulatory risks" are the types of risks that can result from climate change that will be evaluated in issuers’ climate change disclosures.