2. Proxy Advisor Approaches

a. ISS Approach:

As a key component of its recommendations to institutional shareholders on how they should vote on management Say on Pay proposals, ISS assesses CEO pay using three quantitative tests:

Relative Degree of Alignment: This test compares the percentile rank of the company on the five-year average SCT pay of the CEO relative to peer group CEOs against the five-year total shareholder return percentile ranking relative to the peer group. If the pay percentile ranking is well ahead of the TSR performance percentile ranking, ISS may have concerns.
Multiple of Median: This test assesses the relationship between the SCT pay of the CEO and the median SCT pay of peer group CEOs. ISS uses the average of one-year and three-year Multiple of Median testing. If the company’s pay is well above the median of the peer group (e.g., more than 2x), ISS may have concerns.
Pay-TSR Alignment: This test compares the trend rate in a company’s CEO’s total compensation with the value of a $100 investment (in the company) over the prior five-year period. If the pay trend is not aligned with the TSR trend, ISS may have concerns.

Many committees will review simulations of ISS’s quantitative pay-for-performance tests in advance of filing proxy materials to understand if they are likely to receive a negative recommendation on Say on Pay. If a company raises concerns on the quantitative tests of performance, ISS will evaluate numerous qualitative aspects of the company’s compensation program before determining its recommendation.

b. Glass Lewis Approach:

Similar to ISS, Glass Lewis conducts a quantitative assessment of the relationship between pay and performance. The Glass Lewis performance assessment looks beyond TSR to include financial measures of performance. Similar to ISS, pay is defined as SCT pay. Glass Lewis will assign companies a 0 to 100 score based on the degree of alignment in the pay-for-performance relationship. The 0 to 100 scoring range was introduced in 2026. Glass Lewis specifies pay-for-performance concern ranges in its quantitative scale. Generally, the higher the company's score, the better. Glass Lewis will evaluate the pay-for-performance relationship for the CEO and all other named executive officers (NEOs) disclosed in the proxy statement.

Key Questions for Committee Members to Ask:

How well do the CEO’s actual pay levels align with the company’s performance relative to peers over one-year periods and over longer periods? Have we heard any comments?
Does the actual pay reflect the leadership and strategic stewardship of the company?
Do we expect ISS or Glass Lewis to raise concerns about the CEO’s compensation?
Do any committee members have any concerns about the compensation program for the CEO?
Have we received any shareholder proposals that touch on CEO compensation? Any publicity?

Realized and Realizable Pay

Many companies have concluded that the required Summary Compensation Table (SCT) disclosure of executive pay levels is ineffective for purposes of comparing pay and performance. The key limitation of SCT pay is that it mixes actual payments to executives (e.g., salary, bonus payouts, long-term cash plan payouts) and pay opportunities that will vest and be earned over time (e.g., the grant date fair values of stock options, restricted stock, and performance share awards). Since equity-based pay is such a large portion of CEO pay, it is the most critical form of pay to examine when looking at the pay and performance relationship. If we look at SCT pay, then we are missing how the pay and performance relationship plays out over time for the most significant part of CEO pay.

To correct for this serious shortcoming of SCT pay, most compensation committees will also evaluate the realized pay of the CEO over time, as well as the realizable pay. Realized pay is akin to the “take home” pay for the CEO and is similar to W-2 gross income. It includes the CEO’s base salary, short-term and long-term cash incentive payouts for a given year, the value realized upon stock option exercises, the value realized upon the vesting of restricted stock, and performance share plan payouts. Some analyses will also include the value of other forms of compensation for a given year (e.g., perquisite values, pension contributions).

Realizable pay is the potential value that an executive could realize at a point in time if the executive “cashed in” on all outstanding long-term incentives granted over a period of time, plus the salary and bonus paid to the executive over that period. Realizable pay has become popular because it demonstrates how the potential pay an executive could earn changes over time with movements in the stock price. It is generally easier to use for comparisons across companies, because it is less dependent on the timing of executive stock option exercise decisions and the timing of equity vesting than realized pay. Many compensation committees make it a practice to review realizable pay on a relative basis compared to peers and a small minority of companies have begun to include the results of these comparisons in their proxy statements.

Introduction

Joining the Compensation Committee

The Compensation Committee Chair

The Compensation Committee Charter

The Annual Committee Process

1. Agenda, Committee Composition & Attendance

2. Conducting Meetings

1. The Expanded Role of the Committee

2. Leadership Development and Succession Planning

1. Compensation Consultants

2. Consultant Independence

3. Single-Consultant vs. Dual-Consultant Model

4. What to Look for in a Consultant

Compensation Objectives

1. Target Pay Positioning & Definition of Competitive Market

2. Pay Mix, Internal Equity, & Pay-for-Performance

Peer Groups

1. Target Annual Incentive Opportunity & Annual Incentive Payout Range

2. Performance Metrics

3. Performance Goals & Ranges

1. Long-Term Incentive Opportunity & Mix

2. Long-Term Incentive Vehicles

3. Denomination of Award & Performance Period

4. Performance Measures

5. Form of Settlement & Termination Treatment of Long-Term Incentive Compensation

Executive Perquisites

Executive Retirement Benefits

Deferred Compensation

Internal Revenue Code (IRC) Section 409A

1. Employment Agreements

2. Executive Severance

1. Stock Ownership Guidelines & Holding Requirements

2. Clawbacks, Hedging & Pledging

1. CEO Pay-Setting Process

2. Proxy Advisor Approaches

Compensation Disclosures

1. Director Compensation Philosophy

2. Director Compensation Design

Compensation Risk Review

Private Company Executive Pay Governance

1. Designing the Pay Program

2. Other Considerations

Venture Capital-Backed Companies

Private Equity-Backed Companies

Preparing Pay Programs for IPO

1. Key Issues for the Acquiring Company Compensation Committee

2. Key Issues for the Target/Acquired Company

1. Establishing Transitional Compensation Arrangements

2. Understanding and/or Modifying Outstanding Compensation Arrangements

3. Developing Future Compensation for SpinCo

4. Modifying Compensation Programs for ParentCo Following Spin-Off

1. Key Lessons & Looking Forward

2. Authors and Editors

2. Proxy Advisor Approaches