The role of institutional investors
This guide is based on UK law.
The ABI and the NAPF
The representatives of the big UK shareholders have a
long-standing policy of engaging with companies when it comes to
their remuneration practices.
The ABI’s “Executive Remuneration – ABI Guidelines on
Policies and Practices” reflects the views of its members
on features of remuneration practice. The guidelines have been
annually updated in recent years, and therefore provide a good
insight into developing views among institutional investors.
Initially focusing on share plan design, they have, over recent
years, been extended to cover the responsibilities of remuneration
committees, base pay, annual bonuses, pensions and service
contracts.
The ABI also runs a comprehensive monitoring service –
the Institutional Voting Information Service
(IVIS). IVIS reviews the remuneration reports and AGM proposals for
share plans of every FTSE All-Share company and produces a report
that is available to subscribers. It also reports on general
Combined Code compliance. The service is widely taken by
institutional investors.
IVIS operates a colour coding system for companies:
- blue top – complies with ABI guidelines and
corporate governance best practice;
- amber top – gives cause for concern;
- red top – non-compliant or inconsistent with
guidelines, resulting in a decision by members to abstain or vote
against;
- green top – previously reported as
inconsistent or non-compliant but the problem is now resolved.
The NAPF is also an important body,
particularly since the launch of its monitoring service,
Research Recommendations Electronic Voting (RREV)
in 2004. RREV has a similar coverage to IVIS (FTSE All-Share) and
produces reports on companies’ governance and remuneration
practices, with AGM voting recommendations.
RREV is a joint venture between NAPF and an American proxy
voting information service, Institutional Shareholder Services
(ISS). ISS’s recommendations are widely followed by US
institutional investors. Consequently, a favourable report from
RREV will be important in securing the support of any US
institutional investors for remuneration report votes or AGM share
plan proposals.
The NAPF also produces its own “Corporate Governance Policy”. In
places, this has a different emphasis from the ABI’s
guidelines.
THE ABI’S 2006 Guidelines
In response to criticism that
its guidelines had become impenetrable for companies and were
essentially a “practitioners’ document”, the ABI substantially
re-styled them in December 2006. The new format mirrors that used
by the Combined Code. It features:
1. five key principles;
2. 17 main provisions; and
3. detailed guidance supporting the 17 main provisions.
None of the five key
principles is new. Each is set out in full below.
Boards are responsible for
adopting remuneration policies and practices that promote the
success of companies in creating value for shareholders over the
longer term. The policies and practices should be demonstrably
aligned with the corporate objectives and business strategy, and
they should be reviewed regularly.
Remuneration committees
should be established in accordance with the provisions of the
Combined Code. They should comprise independent directors who bring
independent thought and scrutiny to all aspects of remuneration. It
is important to maintain a constructive and timely dialogue between
boards and shareholders regarding remuneration policies and
practices.
Executive remuneration should
be set at levels that retain and motivate, based on selection and
interpretation of appropriate benchmarks. Such benchmarks should be
used with caution, in view of the risk of an upward ratcheting of
remuneration levels with no corresponding improvementin
performance.
Executive remuneration should
be linked to individual and corporate performance through graduated
targets, which align the interests of executives with those of
shareholders. The resulting arrangements should be clear and
readily understandable.
Shareholders will not support
arrangements that entitle executives to reward when this is not
justified by performance. Remuneration committees should ensure
that service contracts contain provisions that are consistent with
this principle.
PIRC
A further monitoring service on governance and remuneration
matters is provided by Pensions and Investment Research Consultants
(PIRC). PIRC is an independent organisation but its reports are
taken by a number of institutional investors and its
recommendations frequently attract press attention. The service is
designed to help institutional investors make “considered use” of
their votes.
Individual institutions
Individual institutions tend to have marked preferences in
relation to certain aspects of remuneration practice. For example,
some greatly prefer one form of performance condition for long-term
incentives to another.
This means that it is often not enough to talk to a
representative body when trying to establish your shareholders’
views on remuneration. Or simply to refer to published ABI and NAPF
guidelines. In many cases, you need also to approach the individual
corporate governance officers at the relevant institutions.
Consultation
ABI guidelines give a very clear endorsement to the growing
practice of informally consulting shareholders about any proposed
changes to a company’s remuneration practice.
The ABI will itself play an important role in the exercise –
through giving its own views on proposals and (when asked to do so)
through co-ordinating the responses of interested ABI members.
The case study below gives further information on how the
process of informal consultation usually works.
Case study: Consulting institutional
shareholders: A brief guide
Timing – the
consultation should normally take place in advance of the
publication of a remuneration report and/or AGM shareholders’
circular in which a company would be required to set out its
proposals formally. This gives institutions an opportunity to
comment on proposals and (if appropriate) for the company to make
any modifications to secure shareholder support.
Method – the
process should be initiated by the company (normally in the shape
of the remuneration committee chairman) writing to major
shareholders. The letter will outline the main aspects of the
proposals (for example, performance conditions, dilution impacts,
the level of individual awards). The letter should set a deadline
for responses and also give contact points for queries – the
remuneration committee chairman, a company officer familiar with
the proposals such as the company secretary or, sometimes, an
external adviser. Some consultations can be more intensive and
involve a “roadshow” presentation for investors.
Scope –
cases vary, but companies typically consult their leading
10 or so institutional investors, and any other investors
that they regard as having an interest above a significant
threshold (e.g. one per cent or 1.5 per cent of issued share
capital). In addition, a company should probably include any
investors who have previously commented on the company’s
remuneration practices, even if they are outside the parameters set
for the consultation. Companies will also generally consult the ABI
and NAPF/RREV or at least make them aware that a consultation with
individual investors is in progress.
