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"Say on Pay" Proposals

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Deborah Gilshan, whose comments are presented below, is Corporate Governance Counsel of Railpen Investments, the investment management firm serving its UK parent, Railway Pensions Trustee Company Limited.

For links to the referenced draft of Professor Gordon's paper and other comments, see



Comments of

Deborah Gilshan

February 4, 2009


Response to Gordon paper: alternatives to federal, mandatory Say on Pay


1)       Federal provision of shareholder right to decide whether a public firm should OPT IN to an advisory shareholder vote regime:


This alternative option seems to be somewhat driven from the belief that not all firms ‘deserve’ the regime of Say on Pay forced upon them, where a shareholder vote on compensation is, somehow, a sort of punishment on companies. We do not consider it in such punitive terms; instead, we see Say on Pay as an opportunity for companies to demonstrate how they are using compensation structures to provide alignment of the interests of directors with shareholders. Furthermore, we expect that a further outcome of the vote would be improved, and more transparent, disclosure within the Compensation Disclosure and Analysis section of annual reports, which would put shareholders in a more informed position to make the voting decisions.  


A further observation is that most firms do not have egregious pay practices and so would be discriminated against in a different way, in that they have a good story to tell, and would be denied the opportunity to gain shareholder endorsement of their pay practices. The value of the goodwill created in such cases should not be underestimated and often serves the Company well, especially when they are proposing changes or there is on issue of concern on compensation in subsequent years. By necessity, governance activists already focus on the companies with the most material concerns. Furthermore, this sort of structure would put too much onus on shareholders to decide to which companies a vote on pay should apply, and may give them too much undue power in this regard. As a consequence, it may increase the risk that the interests of minority shareholders may be oppressed, especially if there is a major shareholder on the share register, where their interests are not always the same.


2)  Application of Say on Pay to the very largest firms, perhaps the top 500 companies by market cap:


I do not think that such a discriminatory model would work; I think the discipline of going through the annual vote process, from the perspective of both companies and investors, is a valuable one. It enriches the understanding that investors have of companies due to the importance of remuneration within corporate governance risk analysis. It has required investors to develop expertise on pay structures, which I think enhances both the quality of corporate governance evaluation undertaken and the overall engagement with companies. It has also made the consequences of pay decisions more acute for companies.


The size of a company does not necessarily imply egregious practices, which this proposition appears to be based upon. It would also concentrate the debate almost exclusively on quantum, which would not be a bad outcome per se, but which is not the main focus of ‘solving’ the pay phenomenon. The focus should be on improving performance linkage, which is necessary across all companies, regardless of size and market cap. Smaller firms can learn from the experience and as they grow, they will be aware of the process; instead under this regime, Say on Pay becomes a consequence of market cap and size, and less about egregious pay practices that cause concern.


I also disagree with the general proposition that for smaller firms, corporate governance is so inherently different. By its very nature, corporate governance is not discriminatory on size of the company or the sector that it is in, unlike social, environment and ethical risk analysis, which tends to be more material in certain sectors. In the UK, smaller companies do have some leeway on certain of the Combined Code provisions; for example, the minimum number of independent directors is stipulated at two for smaller companies (Principle A.3.2 of The Combined Code of Corporate Governance, June 2008: “Except for smaller companies, at least half the board, excluding the chairman, should comprise non-executive directors determined by the board to be independent. A smaller company should have at least two independent non-executive directors.”). However, when the Code was reviewed in 2007, there was little support for widespread derogations from the full Code to apply to smaller companies as the majority of respondents considered that “the same governance standards should be applied to all companies regardless of size and that ‘comply or explain’ allowed small companies the flexibility not to follow particular provisions where they felt it appropriate” (2007 Review of the Combined Code: Summary of Responses to Consultation, November 2007, pg. 12, Quality corporate governance structures, including well aligned remuneration structures, are factors relevant to minimise corporate governance risk in any company, regardless of size. Considering this, I do not agree that smaller firms would be ‘ill-served’ by a narrower set of compensation best practices. In my experience, smaller firms are often most fertile in terms of sensitivity to shareholder engagement and often a higher degree of positive governance momentum is observed at these firms. The ‘intervention experience’ for shareholders at smaller firms is often the most productive and constructive. Smaller firms also tend to be most open to guidance to all governance matters, not exclusively compensation issues. Furthermore, the requirement to adopt good governance structures and follow corporate governance best practice is a consequence of listing on a main market and is the quid pro quo for the privilege of access to public capital, and is no less important, especially in terms of alignment of interest between owners and management, for smaller firms.


A further consideration is that executive compensation is often taken as a proxy for good governance generally and can be used as a kind of ‘litmus test’ for the governance structures of an investee company. If the compensation policies and practices demonstrate a strong alignment of the interests between shareholders and directors, it can be generally inferred that other corporate governance structures support this alignment and facilitate the protection of the long term interests of shareholders. It is also important to observe that many financial analysts do focus on remuneration – it is often the key corporate governance issue that even the most traditional analysts recognise should be part of the investment evaluation process or be part of the fundamental analysis and evaluation of companies. In this way, remuneration analysis can enhance stock selection.


Other areas of comments


Linkage of pay to performance:


Based on the UK experience, there has been a greater linkage of performance and pay, as Professor Gordon does admit in his paper. His criticism of the UK experience in that it has led to a narrow range of approaches to the inherently difficult problem of executive compensation, is somewhat overstated. It has made performance linkage better and improved engagement and dialogue systems between companies and their owners. Companies do try to be innovative, and will often propose criteria for performance measures other than earnings per share and total shareholder return targets for longer term incentive plans. Companies will never be able to meet all the preferences of investors in terms of performance measures, but that is a problem in all markets, and it is worth observing that this ‘standardisation’ of performance criteria may serve companies better. Whilst this may not be something that we as investors encourage and is perhaps a challenge to the corporate governance community more than anything else, it has been a consequence of the remuneration resolution arena. 


Proxy advisory firms:


I think the concern around proxy advisory firms is valid to an extent but somewhat understates the talent and skill set within institutional investors governance teams and presumes an ‘absentee landlord’ approach to corporate governance which is not an accurate observation on the corporate governance community, certainly in the UK.


Regarding the “gatekeeper role” of proxy advisory firms: this criticism is not unique to ‘Say on Pay’ and is a criticism generally of proxy advisory firms and the role that institutional investors allow them to play in voting decision making processes and all that extends from this. Institutional investors have a responsibility to limit the power of proxy advisory firms and routinely do. I think this is a responsibility that most institutional investors take seriously and execute effectively. After all, it is not proxy advisory firms that own shares in companies. However, these firms do have a role to play in highlighting issues and can act as a filter to allow institutional investors to devote their time on the egregious practices or companies that demand more attention or detailed analysis.


“Big bang” of compensation engagement not likely in the US:


I think assuming this will not happen in the US slightly underestimates what effect Say on Pay could potentially have. It has the potential to revolutionalise the shareholder experience of investing in US companies, especially if it is accompanied with proxy access and majority voting. It would also have the affect of reducing shareholder proposals on the issue. Given this, it has the potential to engender better relations with companies precisely because it would not be a shareholder proposal but instead would be part of the management driven agenda at general meetings.


Shareholder proposal process in the US:


Whilst it may be easier, from a procedural viewpoint, for a shareholder to propose a resolution at a US company as compared to the UK, it may be somewhat overstating the case that this is favourable for US investors. The comparison between the UK and the US in this area needs to be qualified by also considering the structures inherent in the UK system which foster a better way for shareholders to hold boards to account, as explained in Professor Gordon’s paper. I think the point is that whilst it might be easier, technically, to propose a shareholder resolution in the US, their effects are diluted somewhat precisely because of their prevalence. The effect is more concentrated in the UK because it is a unique, last resort technique which can have powerful outcomes. Shareholder proposals may be more common in the US, but can sometimes be less effective precisely because there is so few ways in which shareholders can hold boards to account.




Deborah Gilshan

4th February 2009




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