Ed Hauder's Equity Compensation Blog

Sample RMG Burn Rate Commitment Language

Last week I blogged about the new burn rate commitments that RiskMetrics Group’s (RMG’s) Research Group was accepting.  Thanks to a reader, I’m now able to share sample burn rate commitment language that was supported by RMG:

The Company commits to a three-year average burn rate for the years 2010, 2011 and 2012 not to exceed the higher of two percent of the Company’s weighted average common shares outstanding or the blended mean plus one standard deviation of the Company’s GICS group for 2009 and 2010.  The blended mean plus one standard deviation for 2009 and 2010 is equal to X% (GICS cap of Y% in 2009 and Z% in 2010).  For purposes of this burn rate calculation, each stock option award granted will count as 1.0 shares while each Full Value Award granted will count as 2.5 shares.

Notes:

1. The blended mean plus one standard deviation (X) is the average of the 2009 (Y) and 2010 (Z) brun rate means plus one standard deviation for the Company’s GICS industry group per RMG’s Burn Rate Tables for 2009 and 2010.

2. The count for Full Value Awards (2.5) was established based on RMG’s currently-calculated volatility for the company (i.e., the volatility calculated by RMG for purposes of analyzing the company’s 2010 proxy proposals)  and RMG’s 2010 Burn Rate multiplier table.

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Another Burn Rate Commitment RiskMetrics Should Consider

Well, as expected, RiskMetrics Research Group is being a little flexible when it comes to companies’ burn rate commitments for 2010 (for the full details, read this blog entry). But, as I indicated, given the speculative nature of two of the new allowable options, I don’t think many companies will easily undertake such commitments.

After giving this some thought, it seems to me that what RiskMetrics needs to do is provide an interim commitment equal to their current 3-year average burn rate or the applicable cap for their GICS under the 2010 caps, which would apply until either (1) the 2011 Burn Rate caps are typically produced and released, or (2) the 2011 Burn Rates and caps are produced on an accelerated basis, say by June 30, 2010, or September 1, 2010. This would allow companies to commit to maintaining the burn rate at a reasonable level for a short period of time (no more than 1 year) until such time that RiskMetrics can pull, clean and assemble the 2011 Burn Rate Data.  At that point, companies could then commit to either (1) maintaining their Burn Rate for the remaining portion of the 3 year period to the new 2011 Burn Rate cap, or (2) one of the other alternatives already set forth. This would enable companies to be in a better position to evaluate what they were committing to before obligating themselves.  If not, and companies need RiskMetrics approval, I foresee a greater number of companies utilizing cash-settled equity vehicles such as cash-settled SARs and cash-settled RSUs, which don’t count towards burn rate as calculated by RiskMetrics.

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Changes to RiskMetrics Group’s Burn Rate Commitment Policy

RiskMetrics Group just announced that its Research Group is allowing companies some flexibility in their burn rate commitments for 2010. Companies that have a 3-year average burn rate that exceeds their GICS industry group cap must either publicly commit to maintaining their burn rate for the next three years at the burn rate cap for their GICS industry group as determined by RiskMetrics for that year or face a negative vote recommendation on their equity compensation plan proposals from RiskMetrics.

Some of the approaches that RiskMetrics’ Research Group has found acceptable include:

1. Committing to the average between the 2009 and the 2010 RiskMetrics burn rate caps,
2. Committing to the average between the 2010 and the 2011 RiskMetrics burn rate caps, and
3. Committing to the 2010 cap for one year, the 2011 cap for one year, and the 2012 cap for the last year.

As a result of the significant declines in the RiskMetrics Burn Rate Caps for 2010 (discussed here), RiskMetrics had little choice other than to work with companies on this issue.  I’ve spoken to companies that were willing to let RiskMetrics recommend against their plans as a result of this policy and would then discuss with their shareholders how inflexible RiskMetrics was being on this issue given the dramatic shift in burn rate caps. It sounds like RiskMetrics’ Research Group heard this message and decided that some flexibility was warranted.

I think this will make the commitment a little easier for companies to swallow, but the last two options do present their own concerns. Yes, equity grants (# of awards granted) probably increased on average for 2009.  Yes, that data was not included in the burn rate caps that RiskMetrics came out with for 2010. Yes, when those 2009 grants get factored into the 2011 burn rate caps, the caps will likely rise from where they sit for 2010.  But by how much and to where exactly?  Good questions, with not very good answers at this time. Hence, the last two options are a little less certain for companies but offer an opportunity for an increase in the rate a company commits to, but the exact extent of it will be unknown until subsequent years, but they should be better than simply committing to the 2010 burn rate caps.

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NY Times Book Review: Money for Nothing

Today’s New York Times reviews a new book, Money for Nothing: How the Failure of Corporate Boards Is Ruining American Business and Costing Us Trillions, from a former investment banker, John Gillespie, at Lehman Brothers and Bear Stearns, and the co-founder of Salon.com, who worked at Dow Jones and Time Inc., David Zweig .

The book apparently looks at U.S. boards and shareholder rights, and posits that one of the reasons for the financial crisis was directors asleep at the wheel (or just warming seats). Also looks at the myth of shareholders rights, looking at actions by some of the failed companies for illustrations.

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How Will Your Company Fare Under RiskMetrics’ Pay For Performance Policy?

Well, as I’m sure you know, RiskMetrics consolidated its Pay for Performance (P4P) Policies into a more unified approach for 2010.  Additionally, RiskMetrics tweaked the P4P Policy a bit.  However, the initial screen applied to determine whether a more in-depth analysis is warranted remains comparing a company’s 1- and 3-year Total Shareholder Returns (TSR) to that of its GICS industry group medians.  If a company’s 1- and 3-year TSRs are both below its GICS industry group medians, then RiskMetrics will take a closer look at things. More specifically, RiskMetrics would look more closely at the relationship between company performance and the CEO’s pay during the past five years, paying more attention to the prior 3 years.

RiskMetrics figures out the GICS industry group 1- and 3-year TSR medians on a quarterly basis.  So for companies that have fiscal years that end between November 15, 2009 and February 14, 2010, RiskMetrics will apply the 1- and 3-year TSRs it calculated for the GICS industry groups as of December 30, 2009.  Those figures were recently published and are available on RiskMetrics website at: http://www.riskmetrics.com/policy/2010/PerformanceLists

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