Proxy advisory services Institutional Shareholder Services (“ISS”) and Glass Lewis have released their policy updates for the 2023 annual meeting season. The updates will impact the voting recommendations that ISS and Glass Lewis make to their investor clients for director elections and other proposals to shareholders. The updates to ISS’s proxy voting guidelines will be effective for meetings held on or after February 1, 2023, and the updates to Glass Lewis’s proxy voting guidelines will be effective for meetings held after January 1, 2023. Below is a summary of significant updated policies, which we recommend public companies review as they prepare for their upcoming annual meetings.

ISS Updates

• Board Composition – Gender Diversity: ISS will recommend against the chair of the nominating committee (or other directors on a case-by-case basis) at companies with no women on the board. This expands the policy to apply to companies outside the Russell 3000 and S&P 1500, which were previously excluded.
  
  
• Board Accountability – Shareholder Rights Plans: If a company adopts a short-term shareholder rights plan with a low ownership threshold trigger (ISS cites 5% and 10%) without shareholder approval, that will factor into whether ISS recommends against board nominees. This is a clarification about the factors ISS considers when evaluating the appropriateness of a short-term shareholder rights plan.
  
  
• Board Accountability – Unequal Voting Rights: ISS will recommend against all directors other than new nominees if the company employs a common stock structure with unequal voting rights, subject to limited exceptions. This expands the policy to apply to all companies (not just newly-public companies), including companies that were previously "grandfathered" from adverse vote recommendations based on the date they went public. ISS is also updating the de minimis exception to be limited to companies where the super-voting shares represent less than 5% of total voting power. 
  
  
• Board Accountability – Problematic Governance Structures For Newly Public Companies: For companies that held their first annual meeting after Feb. 1, 2015, ISS will recommend against certain directors if, prior to the company’s initial public offering, the board adopted governance structures that ISS considers materially adverse to shareholder rights (i.e., classified boards, supermajority vote requirements and other “egregious” provisions), but the governance structure sunsetting within seven years from going public will be a mitigating factor. This clarifies that the policy applies to companies that held their first annual meeting after Feb. 1, 2015 (rather than the prior application to “newly public companies”), and this also clarifies that a structure must sunset within seven years from going public for the sunset to be considered a mitigating factor.
  
  
• Board Accountability – Fee Shifting Provisions: A fee-shifting provision in governing documents requires a shareholder who unsuccessfully sues a company to pay litigation expenses of the defendants. ISS will recommend against directors (except new nominees, who should be considered case-by-case) if the board adopts a fee-shifting provision.This expands a prior list of governing document provisions that ISS deems problematic and will be the basis for recommending against directors.
  
  
• Board Accountability – Climate Accountability: For significant greenhouse gas (“GHG”) emitters (i.e., Climate Action 100+ Focus Group list), ISS will recommend against the incumbent chair of the responsible committee (or other directors on a case-by-case basis) if the company does not provide detailed disclosure of climate-related risks and medium-term GHG reduction targets or Net Zero-by-2050 GHG reduction targets for the vast majority of the company’s operations (Scope 1) and electricity use (Scope 2).This updates the GHG emissions reductions targets that are applicable under the policy.
  
  
• Board-Related Proposals – Officer Exculpation: The Delaware General Corporation Law was amended in 2022 to permit corporations to limit or eliminate the personal liability of officers for claims of breach of the fiduciary duty of care if the corporation’s certificate of incorporation includes an exculpation provision. ISS will evaluate on a case-by-case basis proposals to amend a company’s governance documents to provide for officer exculpation, considering the stated rationale as well as the scope of the proposal (such as the extent to which it eliminates liability for violating the duty of care or duty of loyalty). This updates ISS’s policies to explain how ISS will handle officer exculpation proposals following the change to Delaware’s law as well as taking into consideration different laws related to exculpation in other states. As noted in our update here, Baker Botts continues to recommend that companies consider adopting limited officer exculpation in line with what is permitted by statute in Delaware (as opposed to other states with no such limitations), which we see as meeting ISS policy goals and recent statements on the matter.
  
  
• Compensation – Additional Specified Problematic Pay Practice: ISS will view severance payments made when the termination is not clearly disclosed as involuntary (such as termination without cause or resignation for good reason) as a problematic pay practice, which carries significant weight in ISS’s overall consideration of pay practices and may result in adverse vote recommendations. This expands the list of pay practices that ISS expressly views as problematic by codifying ISS’s current approach to severance payments.
  
  
• Equity-Based Incentive Plans – ISS will move to its previously previewed value-adjusted burn rate method for analyzing equity plan proposals, which it believes will more accurately measure the value of recently granted equity awards based on actual stock price for full-value awards and the Black-Scholes value for appreciation awards.
  
  
• Routine – Amend Quorum Requirements: ISS will evaluate on a case-by-case basis proposals to reduce quorum requirements for shareholder meetings below a majority of the shares outstanding, taking into consideration certain additional factors. Also, ISS states its preference for a quorum threshold to be kept as close to a majority of shares outstanding as is achievable. In light of the growing number of companies that have had to adjourn meetings due to the lack of a quorum, ISS is revising its prior policy that recommended against such proposals unless there were compelling reasons.
  
  
• Social and Environmental – Racial Equity/Civil Rights Audit Guidelines: ISS will consider whether a company adequately discloses workforce diversity and inclusion metrics and goals as a factor in considering proposals asking a company to conduct an independent racial equity or civil rights audit. This expands the list of factors that ISS will consider in its case-by-case evaluation of such proposals.
  
  
• Social and Environmental – ESG Compensation-Related Proposals: ISS will recommend on a case-by-case basis proposals seeking a report or additional disclosure on a company’s approach to incorporating environmental and social criteria into its executive compensation strategy. As part of its evaluation, ISS will consider, among other factors, the degree to which the board or compensation committee already discloses information on whether it has considered related criteria. This is a new factor for consideration and recognizes that the company’s board or compensation committee is generally in the best position to determine performance metrics, whether they are financial or ESG specific, while affirming that improved disclosure about the committee’s rationale and considerations of pay metrics may benefit shareholders.
  
  
• Social and Environmental – Political Spending and Lobbying: ISS will evaluate on a case-by-case basis proposals requesting greater disclosure of a company’s alignment of political contributions and lobbying spending with the company’s publicly stated values and policies. ISS will consider certain factors, including: (i) the company’s policies, management, board oversight, governance processes, and level of disclosure related to political contributions and lobbying activities; (ii) the company’s disclosure regarding the reasons for its support of candidates, groups and other political activities; (iii) any incongruencies between political expenditures and the company’s publicly stated values; and (iv) recent significant controversies related to the company’s political activities. This is a new policy.

Glass Lewis Updates

• Board Composition – Gender Diversity: Glass Lewis will generally recommend against the chair of the nominating committee of a board that is not at least 30 percent gender diverse at companies within the Russell 3000 index. For companies within the Russell 3000 index, this is an increase from the existing policy requiring a minimum of one gender diverse director. For companies outside the Russell 3000 index, the existing policy requiring a minimum of one gender diverse director will remain in place.
  
  
• Board Composition – Underrepresented Community Diversity: Glass Lewis will generally recommend against the chair of the nominating committee of a board with fewer than one director from an “underrepresented community” at companies within the Russell 1000 index. This is a new policy. The policy defines “underrepresented community director” as an individual who self-identifies as Black, African American, North African, Middle Eastern, Hispanic, Latino, Asian, Pacific Islander, Native American, Native Hawaiian, or Alaskan Native, or who self-identifies as gay, lesbian, bisexual, or transgender.
  
  
• Board Composition – Director Diversity and Skills: Glass Lewis will generally recommend against the chair of the nominating committee at companies within the Russell 1000 index that have not provided any disclosure of individual or aggregate racial/ethnic minority board demographic information. Additionally, Glass Lewis will generally recommend against the chair of the nominating committee at companies within the Russell 1000 index that have not provided each of the following disclosures: the board’s current percentage of racial/ethnic diversity; whether the board’s definition of diversity explicitly includes gender and race/ethnicity, whether the board has adopted a policy requiring women and minorities to be included in the initial pool of candidates when selecting new director nominees; and board skills disclosure.
  
  
• Board Oversight – Environmental and Social Issues: Glass Lewis will generally recommend voting against the chair of the governance committee at companies within the Russell 1000 index that fail to provide explicit disclosure concerning the board’s role in overseeing environmental and social issues. This expands the existing policy, which has only applied to the S&P 500.
  
  
• Board Composition – Director Commitments: Glass Lewis will generally recommend against a director who serves as an executive officer (other than executive chair) of any public company while serving on more than one external public company board, a director who serves as an executive chair of any public company while serving on more than two external public company boards, and any other director who serves on more than five public company boards. This reduces from two to one the maximum number of external public company boards on which an executive officer (other than an executive chair) may serve and also creates a new alternative standard for a director who serves as an executive chair.
  
  
• Cyber Risk Oversight: Glass Lewis will generally not make recommendations on the basis of a company’s oversight or disclosure concerning cyber-related issues. However, it will evaluate a company’s disclosure in this regard in instances where cyber-attacks have caused significant harm to shareholders and may recommend against appropriate directors should it find such disclosure or oversight to be insufficient. This is a new policy.
  
  
• Board Accountability – Climate Related Issues: For companies with material exposure to climate risk stemming from their own operations (such as those companies identified by groups including Climate Action 100+), Glass Lewis may recommend against the chair of the committee charged with oversight of climate-related issues if the company fails to disclose climate-related disclosures in line with the recommendations of the Task Force on Climate-related Financial Disclosures or fails to disclose explicit and clearly defined board oversight responsibilities for climate-related issues. This is a new policy.
  
  
• Officer Exculpation: Glass Lewis will evaluate proposals to adopt officer exculpation provisions on a case-by-case basis, but it will generally recommend voting against such proposals eliminating monetary liability for breaches of the duty of care for certain corporate officers, unless compelling rationale for the adoption is provided by the board and the provisions are reasonable. This is a new policy following the recent related changes to Delaware law. As noted in our update here, Baker Botts continues to recommend that companies consider adopting limited officer exculpation in line with what is permitted by statute in Delaware (as opposed to other states with no such limitations), which we see as meeting Glass Lewis policy goals and recent statements on the matter.
  
  
• Incentive Plans: Glass Lewis has increased the threshold for the minimum percentage of long-term incentive grants that should be performance-based from 33% to 50%. Glass Lewis will raise concerns in their analysis with executive pay programs that provide less than half of an executive’s long-term incentive awards that are subject to performance-based vesting conditions. As with the previous policy, Glass Lewis may refrain from a negative recommendation in the absence of other significant issues with the program’s design or operation.
  
  
• Compensation Committee Performance – Mega-Grants: Glass Lewis will generally recommend against the chair of the compensation committee when outsized awards (so called “mega-grants”) have been granted and the awards present concerns such as excessive quantum, lack of sufficient performance conditions, or are excessively dilutive.

Implications

The policy updates announced by ISS and Glass Lewis for 2023 include significant changes, with a focus on board composition and accountability, social and environmental issues and compensation practices. Management should consider how the policy updates align with existing company policies and disclosure practices and discuss concerns with advisors in advance of the company’s next annual meeting.

ABOUT BAKER BOTTS L.L.P.
Baker Botts is an international law firm whose lawyers practice throughout a network of offices around the globe. Based on our experience and knowledge of our clients' industries, we are recognized as a leading firm in the energy, technology and life sciences sectors. Since 1840, we have provided creative and effective legal solutions for our clients while demonstrating an unrelenting commitment to excellence. For more information, please visit bakerbotts.com.