Since the passing of Dodd-Frank, investors have been empowered to push for more transparency from their portfolio companies. In light of regulations regarding executive compensation—in particular, the annual Say on Pay vote—the shareholder voice has increased in volume over the past few years, and companies have listened.
As investors demand a more direct and transparent view into companies’ corporate governance and executive pay practices, the transformation of the annual proxy statement (DEF 14A) is perhaps the most visible manifestation. Historically a compliance document, the proxy statement drastically changed with the introduction of the Compensation Discussion and Analysis (CD&A) section in 2006. The CD&A details the ins and outs of the executive compensation program, which is a primary focus for many investors, particularly as it informs their Say on Pay votes. However, due to sheer volume—and the time it takes to process and understand it all—the proxy statement may be overwhelming for shareholders trying to find specific information.
Complying with SEC disclosure rules while also keeping shareholders engaged presents a challenge to many companies. As a result, the section of the proxy statement dedicated to executive compensation continues to increase in length. As companies attempt to explain how mandatory disclosures of executive compensation align with corporate strategy and philosophy, the average word count of the CD&A section of Equilar 100 proxy statements grew to 9,490 words in 2017. The average increased every year between 2013 and 2017, up a total of 3.7% in that time frame.
“Compensation is often a complex, multi-layered topic, requiring detailed explanation. That said, creating a new CD&A or proxy by marking up the prior year’s document often results in additional information being inserted without any information being removed,” said Ron Schneider, Director of Corporate Governance Services for Donnelley Financial Solutions, who provided commentary for a recent Equilar report, Innovations in Proxy Design: The Compensation Discussion & Analysis.
“To break this ‘layering on’ cycle, consider starting with a blank sheet of paper and focusing on the important aspects of your company’s story while ensuring that all disclosure requirements are met,” Schneider added.
Despite growth on average, word count for the longest CD&A in this study actually decreased in each year since 2015, down from 18,706 to 17,911 words in 2017 (belonging to Prudential Financial in the most recent year). Berkshire Hathaway annually turned in the minimum word count for its CD&A, falling below 500 words in 2017 for the first time during the study period. Notably, the second-shortest CD&A in 2017—Amazon’s—totaled 2,623 words.
The information that companies are including in these compensation filings also varies. Nearly half (46.0%) of Equilar 100 companies included some type of graph depicting a pay calculation that differs from what is required in the summary compensation table (SCT) of the proxy, such as realized or realizable pay. Furthermore, 20.0% of companies included a graph that depicted executive pay in relation to company performance (Graph 1).
While the alternative pay graph and company performance pay graph are not insignificant in terms of prevalence—and have trended up slightly over a five-year period—both reached their peak usage in 2015, at 49.0% and 23.5%, respectively. The SEC proposed a rule in 2015 that would require companies to publish a graph showing realized pay vs. total shareholder return in relation to their disclosed peer companies. The proposal was never made into a rule, and the prevalence of such disclosures has declined since, albeit slightly.
But that’s not to say regulatory requirements are the sole driver of proxy disclosure practices. In fact, the reality is far from that.
“A major driver of CD&A evolution over the past few years has been company engagement to better understand investor informational needs,” Schneider said. “These needs are not exclusively driven by, or bounded by, regulatory requirements. For this reason, even if disclosure requirements were to loosen, most companies would not significantly change their disclosure practices because investor expectations would remain high.”
Over the past five years, the prevalence of Equilar 100 companies disclosing their shareholder engagement practices in the proxy statement has skyrocketed as well. In 2013, just 28.6% of companies included details about how they engaged investors throughout the year. In addition, fewer than one in five explained what changes they made after engaging shareholders. By 2017, those figures had risen to 79.0% and 47.0%, respectively (Graph 2).
Notably, the number of companies disclosing responses to Say on Pay—the shareholder vote on executive compensation—has remained somewhat steady. This is likely due to the fact that very few companies fail Say on Pay, so most don’t feel the need to address the results. However, nearly one-quarter of companies is much higher than the prevalence of failures. Oftentimes, companies will address the results if they are less than optimal (i.e., below 90%), or if they alter their compensation plan in any way, shape or form, in order to maintain transparency.
It’s also worth noting that if a company doesn’t disclose engagement, that doesn’t mean they didn’t interact with their shareholders. The increase in these types of disclosures points more to the fact that issuers are “taking credit” for the work they’ve put in to speak to their constituents, said Schneider.
“It’s to a company’s advantage to re-envision how they are engaging on governances issues as opposed to simply layering it on to existing investor relations,” said Kern McPherson, Senior Director of North American Research for Glass Lewis, a proxy advisory firm. “Start with a blank slate, make sure that you make it a dialogue, and jump straight to the issues that matter. Being transparent about recognizing areas of concern and whether or not you’re taking action is important.”
As the proxy statement becomes longer, more complex and contains increasing amounts of pertinent information, streamlined navigational features are paramount. Companies may attempt to cut through the density with a proxy summary—a short overview at the top of the DEF 14A containing information commonly sought by shareholders. While including a summary sounds obvious, 74.0% of Equilar 100 companies included a proxy summary in their most recent annual statements, and that figure represented a 21.4 percentage point increase compared to 2013. Many companies already had been including a similar executive summary just for their CD&As—increasing 3.7 percentage points from 76.3% of companies in 2013 to 80.0% in 2017. Finally, as a way to promote easier navigation specifically within the CD&A, a separate table of contents for that section has increased in prevalence, more than doubling from 10.3% of companies in 2013 to 24.0% of companies in 2017 (Graph 3).
The continued evolution of the proxy statement provides a window into the relationships among investors, issuers and their boards. The design features highlighted in this report are only a handful of elements signifying the proxy statement’s shift from a corporate compliance to shareholder communications document. They also represent of some of the most notable and common ways companies are looking to peers for best practices in proxy design and shareholder engagement.
Dan Marcec is the Director of Content at Equilar and Editor-in-Chief of C-Suite magazine. Alex Knowlton is a research analyst and managing editor for Equilar research reports.