Public companies will be required to provide disclosure of their pay ratios in registration statements, proxy and information statements, and annual reports that will be issued this year.
How did we get here? A little over two years ago, the SEC adopted a rule that requires public companies to reveal the ratio of the compensation of a CEO to the media compensation of its employees. The new rule, as required by the Dodd–Frank Wall Street Reform and Consumer Protection Act, was designed to provide shareholders with information they can use to evaluate a CEO’s compensation. It outlines to companies the guidelines for calculating this pay ratio. The rule requires companies to start providing disclosure of their pay ratios for their first fiscal year beginning on or after Jan. 1, 2017, which will be reflected in materials issued this year.
The assumption was that companies would not take this pay ratio seriously because investors didn’t care about executive compensation as a shareholder issue.
However, the results of the the Institutional Shareholder Services’(ISS) 2017-2018 Global Policy Survey has shown that assumption may be incorrect.
Of the 129 institutional investors who participated in the ISS survey, 75% said they plan to use these disclosures as part of their analysis of compensation issues for the companies in which they have invested. According to ISS: “Somewhat surprisingly, only 16 percent indicated that they are not planning to make use of this new information. Nearly three-quarters of the investor respondents indicated that they intend to either compare the ratios across companies/industry sectors, or assess year-on-year changes in the ratio at an individual company or use both of these methodologies. Of the 12 percent of investors who selected ‘other’ as their response, some of them indicated a wait-and-see approach while other comments indicated uncertainty or concerns regarding the usefulness of the pay ratio data.”
The institutional investors who were polled were part of a broader pool of 602 respondents, including companies, consultants/advisors to companies, corporate directors, and other trade organizations representing companies. The remaining respondents were academics, non-profit organizations, and other governance stakeholders. ISS noted that among the non-investor respondents, 44 expressed doubt about the usefulness of such pay ratio data.
One thing the ISSsurvey makes clear. Ignore the importance of pay ratios to your company’s investors at your own peril.
Consider hiring third-party experts who understand the rule and understand how to ensure that the best data possible is used in calculating this pay ratio. If your disclosure of pay ratios appears to be inconsistent with your industry sector or show a significant change from previous years or shareholder expectations, plan to explain these changes with your investors in shareholder materials. Companies may find that a proactive approach may make the difference in keeping their institutional investors on their side.