Deep Dive on Stock Ownership Guidelines: What About Unearned Performance Shares?

  

Although this issue alone is unlikely to sway ISS toward a negative recommendation, it could be problematic for companies whose executive pay mix includes a substantial percentage of stock options. In particular, as the blog points out, if an executive’s pay includes a significant portion of options that are underwater, it would be impossible to meet stock ownership guidelines without exercising them at a loss. Even with in-the-money options, if they must be exercised to meet guidelines, it would defeat the purpose of granting options in the first place (to encourage long-term investment and alignment with company performance). 

 

The Center’s recent survey found that about 15% of companies allow vested, unexercised options to count toward share ownership guidelines, and 8% allow unvested options to count, while 16% allow unvested performance shares. Meanwhile, NASPP’s 2020 survey found that a third of companies granting performance shares count unearned awards toward ownership and over a quarter count at least a portion of unexercised options. The difference is likely in the size of companies, with NASPP including more small to mid-sized companies that may have a broader approach to share ownership guidelines (or a larger proportion of options in the pay mix). 

 

The change is not likely to affect a company in otherwise good standing with ISS, but we have seen how proxy advisors sometimes latch onto a single item that previously had little to no impact in their analysis. Companies that grant a high proportion of options, or that include unvested options or performance shares toward share ownership guidelines, will want to keep this in mind as part of the overall risk assessment of pay programs.