La pandémie de COVID-19 a obligé les émetteurs à réexaminer une série de questions commerciales et opérationnelles, notamment leur philosophie de la rémunération et leur politique de rémunération des dirigeants. Le présent article décrit brièvement certaines modalités pratiques dont les conseils d'administration et les comités de rémunération doivent tenir compte dans l'évaluation de leurs programmes de rémunération en pleine pandémie de COVID-19, compte tenu de l'incertitude y étant liée.
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The COVID-19 pandemic has required issuers to reconsider a range of business and operational issues, including their approach to executive compensation and compensation philosophy. This article outlines some of the practical considerations for boards and compensation committees to consider when assessing their executive compensation programs in the midst of the COVID-19 pandemic and related uncertainty.
Impact of COVID-19 on Executive Compensation
The COVID-19 pandemic has already significantly impacted Canadian issuers and will likely continue to impact issuers for the remainder of 2020 and beyond. In particular, the timing of the COVID-19 pandemic has coincided with proxy season and in many cases issuers' annual compensation and review cycles. As boards and compensation committees assess and approve short and long-term compensation programs, difficult questions as to how to most appropriately incentivize and reward key employees in the middle of a crisis compete with other challenges being faced by issuers.
What Does Compensation Look Like in a Crisis?
Executive compensation is generally comprised of a combination of base salary, annual cash bonus payments and long-term equity-based awards. Often, executive compensation will lean heavily on equity-based awards, which are intended to provide long-term incentives and align management and shareholder interests. During the COVID-19 pandemic, boards and compensation committees may want to assess whether their existing compensation philosophy and practices will best achieve these intended results. As issuers attempt to preserve cash, increased equity-based awards may become attractive. However, granting and pricing equity-based awards during a period of uncertainty and stock market volatility may raise other issues, as may the impact of a sudden drop in equity prices on the value of previously granted equity-based awards. In addition, notwithstanding that most executives are working longer hours under immense pressure to navigate their organizations through the COVID-19 crisis, a number of Canadian executives and boards have taken salary deferrals or cuts to save costs, preserve cash and better align the leadership team with the broader employee base. Finding the right balance between cash and equity, on both a "current" basis and over the longer term, as well as the allocation of different types of awards (e.g. options, restricted share units, performance share units, etc.), will be a difficult challenge for compensation committees going forward.
In many cases, performance targets for bonus payments and equity-based awards (for example, performance share units) were set in advance of, or early in, 2020. Given the current business disruption from COVID-19, these targets may have become impossible to achieve. Issuers may consider adjusting performance goals provided that any applicable plan documents or agreement allow for adjustments. Where targets remain to be set for 2020, assessing the appropriate performance levels may be a difficult and challenging exercise.
One option is to delay setting performance targets, where possible. Boards and compensation committees may want to wait until the COVID-19 pandemic has settled before setting performance goals for long-term awards, recognizing that the longer this is delayed, the more challenging it may become to build a degree of "incentive" into nearer term targets. Alternatively, issuers may want to consider balancing quantitative performance metrics with other relevant qualitative metrics that may be more appropriate in the circumstances.
Taking into account potential declines in share prices, issuers will need to consider whether there are a sufficient number of securities reserved for issuance under any equity-based incentive plans to allow for grants in the current market conditions without having to obtain shareholder approval. Issuers are reminded of the TSX Company Manual requirements to obtain shareholder approval every three years for "evergreen" plans as compared to fixed plans, which cannot be increased without shareholder approval. Issuers listed on the TSX Venture Exchange are required to obtain shareholder approval any time the number of shares reserved for issuance under a fixed stock option plan is amended and on an annual basis for rolling stock option plans.
Issuers may also wish to take the following into consideration when assessing equity grants during the COVID-19 pandemic:
- Exercise prices and market value. Given recent market declines and volatility, issuers may want to consider whether current market price (or VWAP) is an appropriate way to value or price equity-based awards. A severe downturn in share price may otherwise result in additional awards being granted (to deliver a target Black Scholes value), with such awards priced at low exercise prices. On the other hand, issuers will also remain mindful of ensuring key employees are retained through uncertain times and remain properly incentivized to perform. Accordingly, such additional awards may, in certain instances, appropriately countervail lower payouts if existing share unit awards are also settled or continued based on a potentially undervalued share price. Similarly, low exercise prices on new option awards may appropriately balance the average exercise prices of outstanding options held by plan participants if recent option grants were made with share prices at or near all-time highs.
- Shareholder and employee alignment. Does management's equity-based compensation properly align management with shareholders in light of any value lost during the COVID-19 pandemic? Shareholder expectations may be that certain aspects of executive compensation should be deferred or adjusted given market declines, and employees may have also experienced temporary layoffs or pay cuts.
- Plan documents and contractual obligations. Issuers may consider delaying equity grants or amending (but see "Award Repricing" below) previously issued grants as a result of the COVID-19 pandemic. Before doing so, issuers should review their plan documents and other contractual obligations, including executive employment agreements, to ensure that such delays and/or amendments are permitted or if shareholder and/or exchange approval is required.
- Award Repricing. While existing awards may be "underwater" as a result of general market decline, issuers should carefully consider any proposals to cancel or adjust these awards. Importantly, the TSX prohibits the reduction in the exercise price or purchase price under a security-based compensation arrangement (aka "repricing") benefitting an insider without shareholder approval, and proxy advisory firms (such as ISS) will generally recommend a vote against repricing proposals or a plan where shareholder approval is not required for any reduction in exercise price or cancellation and re-issue of options or other entitlements. In addition, shareholders may expect alignment between management's positions and shareholder losses.
- Net settlement. Consider whether any net cash settlement or cashless exercise provisions should be amended for new equity award grants or can be amended for existing grants to allow the company to preserve cash.
- Review prior disclosure. Consideration of the issuer's past compensation disclosure and analysis may be appropriate to assess whether the issuer's disclosure should be updated to reflect changes to compensation philosophy in light of COVID-19. Does the issuer's past disclosure present an appropriate picture of the issuer's compensation philosophy and plans or should disclosure be supplemented to account for the COVID-19 pandemic? While compensation discussion and analysis generally looks back at the most recently completed financial year, issuers are required to describe any new actions, decisions or policies that were made after the most recently completed financial year that could affect a reasonable person's understanding of an executive's compensation for that year.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.