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Equity Plans And Amendments Overview 20090826


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An overview of the process steps and actions necessary to secure shareholder approval when implementing equity compensation plans and amendments. Looks at the typical process, gives practical tips, examines applicable Fidelity, Vanguard and RiskMetrics Group policies, and includes recent voting results on plan proposals.

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Equity Plans And Amendments Overview 20090826

  1. 1. Implementing Equity Plans and Amendments<br />Process Steps and Actions to Secure Shareholder Approval<br />Summer 2009<br />
  2. 2. About This Material<br />Given that shareholder approval is required for most equity compensation plans and amendments and that shareholders have become a bit more critical of such plans, this presentation walks through the process of securing shareholder approval for a new plan or plan amendment. The presentation is designed to give an overview of the topic and from necessity does not delve into every nuance, design alternative, or consideration. As a result, you are strongly encouraged to review this material with your professional advisors before undertaking any action. <br />Author:<br />Edward A. HauderExequity LLP1870 West Winchester Road, Suite 141Libertyville, IL 60048Phone (847) 996-3990Mobile (847) 406-8150e-mail:<br />Be sure to visit Ed’s Equity Compensation Plan Blog (launching September 8, 2009):<br />© 2009 Exequity LLP. All Rights Reserved.<br />
  3. 3. Introduction<br />Taking an equity plan proposal to shareholders can be like a roller coaster ride or a relatively straightforward trip to the gas station to refuel your car. The more you understand the process and what you can do to ensure everything has been anticipated, the smoother the process will be. <br />What will we cover?<br />Do you need to get shareholder approval?<br />An outline and overview of the equity plan proposal process<br />Who might be on your team<br />Initial considerations<br />How to quickly find your top 20 shareholders<br />Figuring out what your shareholders want<br />What RiskMetrics Group (RMG) wants<br />Why you might want to conduct a plan review<br />Key considerations for equity plans<br />Recent voting trends on equity plan proposals<br />Tips for securing shareholder approval of your equity plan proposal<br />How Exequity can help<br />
  4. 4. Do You Need to Get Shareholder Approval? (Generally, Yes)<br />Nasdaq Companies<br />Yes, need shareholder approval when a plan or other equity compensation arrangement is established (Section 5635, NASDAQ Stock Market Rules)<br />Also needed for a material amendment:<br />Increase in the number of shares to be issued (other than as a result of a reorganization, stock split, merger, spin-off or similar transaction)<br />Increase in benefits to participants, including changes to:<br />Permit repricing<br />Reduce price at which shares or options may be offered<br />Extend the plan’s term<br />Expanding the class of eligible participants<br />Expanding the types of awards<br />NYSE Listed Companies<br />Yes, need shareholder approval for all equity compensation plans (Section 303A.08, Listed Company Manual)<br />Also needed for material revisions:<br />Expanding types of awards<br />Increasing the number of shares available<br />Expanding the class of eligible participants<br />Extending the term of the plan<br />Change in the method of determining the strike price of options<br />Deleting or limiting any provision prohibiting repricing<br />
  5. 5. Typical Tasks for Equity Plan Proposals<br />Assemble your team<br />Identify your significant shareholders<br />Determine what your shareholders want<br />Determine your current overhang, dilution, and burn rate<br />Conduct a plan review<br />Determine what changes you are willing to make in order to secure shareholder approval<br />Conduct RMG modeling to determine acceptable share request (if needed)<br />Determine the shares to be requested as part of the proposal<br />Get the plan/plan amendment drafted<br />Get the proposal language for the plan drafted, making sure to detail why the plan is necessary and what it means for shareholders<br />Get Board/Compensation Committee approval of the plan/plan amendment and proposal<br />File final proxy<br />Talk with significant shareholders after proxy filed<br />Await outcome of shareholder vote<br />If shareholders approve plan, take steps to register/exempt plan in all required jurisdictions<br />Board/Compensation Committee grants awards under plan/plan amendment<br />Communicate the awards and plan to eligible participants<br />
  6. 6. Overview of Plan Proposal Process<br />
  7. 7. Who Should Be on Your Proposal Team?<br />External Team<br />Outside Counsel<br />Compensation Consultant<br />Proxy Solicitor<br />Internal Team<br />HR<br />Legal<br />Finance<br />Investor Relations<br />Corporate Secretary<br />Stock plan administrator(s)<br />Senior executives (CEO, COO, CFO, etc.)<br />Compensation Committee<br />
  8. 8. What Do You Need to Consider Initially?<br />Who are your top 20 shareholders?<br />What are your top 20 shareholders’ guidelines on equity compensation plan proposals?<br />Should you conduct a plan review?<br />How do your plans compare to those guidelines? <br />Do your top 20 shareholders consider or follow the proxy voting recommendations of any advisory service, i.e., RMG (ISS), Glass Lewis, Proxy Governance, etc.?<br />How many awards do you have outstanding, i.e., what is your overhang?<br />What is your current simple and full dilution?<br />How does your dilution compare to that of your industry group?<br />How many shares have you granted for each of the past 3 years, i.e., what is your average 3-year burn rate?<br />How does your burn rate compare to that of your industry group?<br />How many shares do you have available for grant under all your existing plans?<br />How many shares do you think you will need for grants for the next 2 to 5 years?<br />Is your company switching to or emphasizing a particular type of equity award? Do you have a sufficient number of shares available to grant these types of awards?<br />How have you performed relative to your industry group over the past 1- and 3-year periods, especially in terms of total shareholder returns (TSR)?<br />
  9. 9. How to Find Your Top 20 Shareholders<br />When drafting a new plan or plan amendment, it is important to know who your top 20 shareholders are. Different shareholders want to see different things in equity compensation plan proposals. <br />Check with your Investor Relations Department for the most recent list of top shareholders<br />If you need something to work with more quickly, then go to any of the following Web sites:<br />MSN Money Central (<br />Type in your company’s ticker symbol in the upper left-hand box<br />Click on “Ownership” in the left-hand sidebar<br />Select the view—institutional ownership, mutual fund ownership, 5% ownership<br />Yahoo! Finance (<br />Type in your company’s ticker symbol in the upper left-hand box and click “Get Quotes”<br />Click on “Major Holders” under Ownership in the left-hand side bar<br />
  10. 10. Know What Your Top 20 Shareholders Want<br />Institutional shareholder and proxy advisors have guidelines on a number of issues that could impact the design of any new plan or amendment, including:<br />Share/dilution limits<br />Burn rate limits<br />Share counting limitations<br />Vesting limitations<br />Repricing limitations<br />Change-in-control limitations<br />Dividend/dividend equivalent limitations<br />Other provision limitations, e.g., evergreen, reload, and option price provision limitations, etc.<br />Note: This information is available for several of the major institutional shareholders and proxy advisory firms in Exequity’s Proxy Voting Guidelines on Compensation (2009 Edition), available by contacting the author. However, the only way to determine whether a particular share request is likely to receive a positive RMG vote recommendation is to subscribe to and run the ISSue Compass model for your proposal (we recommend running an initial analysis before your RMG Lock-In Date and an updated analysis after the Lock-In Date).<br />
  11. 11. What Two Key Institutional Shareholders Want<br />Vanguard Group<br />Stock ownership requirements apply to senior executives<br />Stock holding requirements apply to stock received upon option exercise<br />Compensation programs include performance-vesting awards, indexed options, or other performance-linked grants<br />Limited concentration of grants to senior executives<br />Stock-based compensation is clearly used as a substitute for cash in delivering market-competitive total pay<br />Dilution2 does not exceed 15%<br />Burn rate3 does not exceed 2%<br />No repricing or replacement of options without shareholder approval permitted by plan<br />No reload options under plan<br />No automatic share replenishment (“evergreen”) feature in plans<br />Fidelity<br />Dilution1 at or below:<br />10% for Russell 1000 companies<br />20% for companies with market capitalizations under US$300 million<br />15% for all other companies<br />Exercise price of options equals 100% of fair market value on date of grant<br />No repricing of underwater options permitted by plan or undertaken in the past 2 years<br />No material alterations of plan permitted without shareholder approval<br />Awards to non-employee directors are not subject to management discretion<br />Stock awards restriction period minimum of:<br />1 year for performance-based awards<br />3 years for time-based awards<br />Permits a small number of shares to be granted not in compliance with above guidelines if certain requirements are met<br />D = Common shares outstanding<br />E = New shares being requested<br />F = Stock options granted<br />Where: <br />A = Shares available under existing equity plans<br />B = Granted but unexercised/unvested equity awards<br />C = Shares available under ESPPs and ESOPs<br />1 Fidelity defines dilution as (A + B + C) / ( A + B + C + D)<br />2 Vanguard defines dilution as (A + B + E) / D<br />3 Vanguard defines burn rate as F / D<br />
  12. 12. What RiskMetrics (ISS) Wants<br />RMG (formerly Institutional Shareholder Services or ISS) applies 7 policies when evaluating equity plan proposals. If any of these policies are violated (some offer a limited ability to cure), RMG will recommend AGAINST an equity plan proposal.<br />Repricing Policy<br />The proposed plan does not expressly permit repricing without shareholder approval, and <br />If the company has repriced options, the company’s listing standards and the plan document prohibit any future repricings without shareholder approval.<br />Pay for Performance Policy—Violated if a disconnect between CEO pay and company performance exists:<br />The company’s 1- and 3-year TSRs are less than its 4-digit GICS industry group’s medians,<br />Note: Just having the above exist is enough to cause RMG to recommend WITHHOLD/ AGAINST your company’s directors.<br />The CEO’s total compensation increased during the past fiscal year,<br />More than half of the increase is due to equity compensation, and<br />The CEO is eligible to participate in the proposed plan.<br />Note: Exemptions to avoid application of this policy could apply if:<br />Company is not in the Russell 3000.<br />Company has not been publicly traded for at least 3 years.<br />The CEO has not been in that position for the past 2 complete fiscal years.<br />
  13. 13. What RiskMetrics (ISS) Wants<br />Burn Rate Policy—Violated where the company’s 3-year average RMG burn rate:<br />Exceeds the company’s GICS industry group mean + one standard deviation, and<br />Exceeds 2% of FYE common shares outstanding.<br />SVT Cost Policy—Shareholder Value Transfer (SVT) is a measure of the cost of the equity awards being transferred to employees from shareholders, i.e., a measure of the economic dilution of a company. The RMG value attached to the equity awards outstanding and shares available for grant (both under existing and continuing, as well as new plans) is expressed as a percent of RMG’s calculated market value for a company (3-month average closing price × common shares outstanding from front page of Form 10-K).<br />The RMG-calculated SVT cost is compared to a company-specific (black-box) cap. If the cost is equal to or less than the cap, the plan proposal will pass. Caps and SVT cost are rounded.<br />Liberal Definition of Change-in-Control Policy—The plan cannot provide for the acceleration of vesting of equity awards in cases where an actual change in control may not occur, e.g., upon shareholder approval of a transaction or the announcement of a tender offer.<br />
  14. 14. What RiskMetrics (ISS) Wants<br />Poor Pay Practices Policy—The proposed plan cannot be a vehicle for poor pay practices such as:<br />Payment of dividends or dividend equivalents on unearned performance awards<br />Excessive severance/change-in-control arrangement includes any new or materially amended arrangements that include provisions for the payment of excise tax gross-up (including modified gross-ups) and/or modified single triggers (which allow an executive to receive change-in-control severance upon voluntary resignation during a window period following the change in control)<br />Tax reimbursements of any executive perquisites or other payments<br />Egregious Compensation Practices Policy—RMG reserves the right to recommend a vote AGAINST a plan if a company has had egregious compensation practices<br />This is an overarching policy that can be applied regardless of how a plan fares under the other policies used in RMG’s analysis<br />RMG typically looks for practices that have received excessive investor and media attention at large, public companies when deciding to apply this policy<br />RMG is looking for “poster children” to make an example of for egregious compensation practices to serve as a warning for other companies<br />
  15. 15. RMG Modeling Process Overview<br />Note: The Lock-In Date for most calendar-year companies is December 1<br />
  16. 16. Why Conduct a Plan Review?<br />Conducting a plan review reveals critical information<br />Assess if the current plan(s) design offers sufficient flexibility:<br />Types of awards available<br />Potential participants<br />Definitions<br />Other provisions, i.e., a thorough review of key equity plan provisions<br />Assess how your key shareholders would view the current plan(s)<br />Assess how RMG would view the current plan(s)<br />Assess whether the current plan(s) comply with current regulatory and proxy advisor requirements<br />Assess how the current plan(s) stack up against current best practices<br />The information gleaned from a plan review can be utilized in drafting the new equity plan/plan amendment<br />
  17. 17. Key Equity Plan Provisions<br />Here are some of the key equity plan provisions that need to be dealt with in a plan proposal<br />Types of equity awards that can be granted under the plan<br />Potential participants (employees, executives, directors, and/or third-party service providers)<br />Total share authorization<br />Any limits on share authorization:<br />Cap on full-value shares (if needed)—straight limit vs. Flexible Share PoolSM<br />Limit on Incentive Stock Options<br />Limit on awards that can be granted not subject to certain restrictions (Fidelity)<br />Cap on annual share utilization (annual burn rate) (if needed)<br />Annual maximum awards to any one individual (Section 162(m) limits)<br />Limitations on vesting (if needed)<br />Example: 3 years for time-based vesting and 1 year for performance-based vesting (Fidelity)<br />Performance measures (under Section 162(m))<br />Section 409A provisions<br />Limitations on repricings (without shareholder approval)<br />Treatment on change in control<br />Treatment on termination (default provisions in plan; permit variance in award agreements)<br />
  18. 18. How Does the Landscape Look for Such Proposals?<br />The above charts detail the percentages of passing and failing proposals for Russell 3000 companies during 2007, 2008, and 2009 YTD (7/17/2009). The percentages are based on the cumulative number of such proposals for each period for which voting results were available. The total number of equity plan proposals was 750 in 2007, 843 in 2008, and 767 in 2009.<br />
  19. 19. Tips for Gaining Shareholder Approval<br />Lay out a project plan with dates and responsibilities<br />Make sure you have everyone you need on the plan team<br />Use the project plan and keep key constituents apprised of progress<br />Realize that once your proxy is filed, you still have a lot to do<br />Know how “other” proxy advisory firm recommendations fit in<br />Develop a strategy plan for talking to your shareholders<br />Craft your shareholder message<br />Determine if the retail vote is important<br />Expect the “unexpected”<br />Know your shareholders<br />Know if RMG support is necessary<br />Know how RMG would view your proposal<br />Know what your shareholders want<br />Know how your current equity plans and compensation decisions fare<br />Know how your company compares<br />Have discussions with a few select large shareholders<br />Make sure your proposal is reasonable<br />Comply with the largest number of shareholders’ guidelines possible<br />If you seek RMG’s support, make sure the proxy lays everything out<br />
  20. 20. How Exequity Can Help<br />Exequity’s Ed Hauder has assisted hundreds of companies secure shareholder approval of equity plan proposals and can offer assistance with the following:<br />Dilution and burn rate analysis<br />Shareholder analysis—summary of key institutional shareholders’ proxy voting guidelines<br />Share needs analysis<br />Review of current equity compensation plan(s)<br />RMG modeling, applicable policy review, and likely vote recommendation analysis<br />Determining maximum number of shares that could be approved by RMG, Fidelity, and Vanguard<br />Facilitating discussion with Senior Management and Board of Directors about equity plan proposal<br />Drafting or review of the equity plan with suggested language and edits<br />Drafting or review of the equity plan proxy proposal<br />Determining final share request and structure for equity plan proposal<br />Facilitating review of equity plan proposal by RMG’s Corporate Service Group<br />Developing the message about the equity plan proposal for shareholders<br />Presentations and summaries of the plan being proposed for use with Senior Management, Directors, and/or Key Shareholders<br />