2017 SEASON REVIEW CASE STUDIES

UNITED KINGDOM

AGGREKO PLC ANGLO AMERICAN PLC BARCLAYS PLC BP PLC CENTAMIN PLC CHEMRING PLC CREST NICHOLSON PLC HAMMERSON PLC HSBC PLC JOHNSTON PRESS PLC PEARSON PLC ROYAL DUTCH SHELL PLC SPORTS DIRECT PLC SVG CAPITAL PLC THOMAS COOK GROUP PLC VODAFONE PLC WPP PLC Table of Contents

INTRODUCTION...... 1

GOVERNANCE

CASE STUDY: WORKER REPRESENTATION AT BOARD LEVEL...... 2

Sports Direct

CASE STUDY: DIRECTOR COMMITMENTS...... 3

Barclays, HSBC

CASE STUDY: NOMINEE AND BOARD DISCLOSURE...... 5

BP, Hammerson, Vodafone

CASE STUDY: ESG PROPOSALS IN THE UK MARKET...... 7

Royal Dutch Shell, WPP

CASE STUDY: BOARD INDEPENDENCE AND SUCCESSION PLANNING...... 9

Centamin

REMUNERATION

CASE STUDY: INCENTIVE TARGET ADJUSTMENTS...... 11

Crest Nicholson

CASE STUDY: REMUNERATION COMMITTEE DISCRETION...... 12

Pearson, SVG Capital

I CASE STUDY: BP RESPONDS TO A DEFEAT...... 14

BP

CASE STUDY: STRATEGIC INCENTIVE PLANS...... 15

Aggreko, Anglo American, Berkeley Group, Chemring, Johnston Press, Thomas Cook

EDITORS & CONTRIBUTORS

Martin Garcia Mortell

Natasha O'Connor

Bernadette O'Donoghue

Cian Whelan

Dimitri Zagoroff

LAYOUT & DESIGN

Kate Flanagan

CONNECT & ENGAGE As the leading independent provider of governance services to the world’s institutional investors, Glass Lewis is committed to ongoing engagement with all market participants. For more information on our services and how to connect with Glass Lewis, please visit our website at www.glasslewis.com.

II Introduction

On the back of Theresa May’s election as prime minister in 2016, the momentum for corporate governance reform in the UK appeared to accelerate, and corporate governance entered the mainstream as various media outlets talked up the possibility of another "shareholder spring" over executive pay in 2017.

Indeed, there was significant apprehension among issuers as approximately two-thirds of the FTSE 350 were to submit their remuneration policies for binding approval by shareholders this year. Such policy votes, which are only required to be held once every three years, were the subject of much engagement as well as intense investor, media and political scrutiny.

In terms of actionable specifics, investor groups forewarned issuers of concerns around quantum, alignment with long-term value, and the complexity of short- and long-term bonus plans. As a result, remuneration committees have, generally, exercised restraint in granting pay increases; enhanced shareholding requirements; diversified the metrics against which long-term incentives are measured; and simplified incentive schemes that were perceived as being overly complex.

A handful of boards also made meaningful attempts to disclose CEO pay ratios, in order to illustrate CEO pay as compared with that of a company’s wider workforce, and gender pay gap data.

Elsewhere, government-backed reviews last year called for greater diversity at both board and senior management levels at FTSE 350 companies. Enhancing the diversity of boards so their compositions better reflect the demographics of employees, customers and other stakeholders is seen as crucial to companies' capacity to deliver on their wider social responsibilities by ensuring that a broader range of social perspectives, talent and expertise can influence decision-making.

While the question of reporting on ethnic diversity remains an open one (the Parker Review is currently still out for consultation), the majority of FTSE 350 issuers continued to disclose relatively non-committal gender diversity policies, promising only to consider diversity in its broadest sense when making appointments, rather than specifying hard targets.

This report comprises a series of case studies illustrating our observations on these and other topics from the 2017 UK proxy season.

1 CASE STUDY Worker Representation at Board Level

Sports Direct (LSE: SPD) THE BIGGER PICTURE Market Cap: £1.58 billion Though common in continental Europe, broad- ening board representation beyond sharehold- The balance of UK governance shifted just a tiny ers (and management) represents a fundamental bit in April, with news that the board of FTSE 250 change to UK governance. Theresa May raised retailer Sports Direct had appointed its first workers’ the prospect of employee representatives on representative following a ballot of 23,000 employees. boards during her successful campaign for the Conservative Party leadership last summer, citing Alex Balacki, a 30 year old store manager who joined concerns that non-executive directors are gener- the company as a casual sales assistant when he ally drawn "from the same, narrow social and pro- was 17, was elected from a pool of three candidates fessional circles as the executive team". identified by an earlier internal review process.

However, Ms. May's government was subsequent- Mr. Balacki will attend all scheduled board meetings ly deemed to have watered down the idea with over a 12 month period, but will not be made a director. the publication of its green paper on corporate Rather, controlling shareholder Mike Ashley envisions governance reform in November, which suggest- Mr. Balacki’s role as “ensuring that [the workers’] voice ed only that an individual non-executive director is head in the boardroom”. The move comes as part be tasked with workforce engagement. Moreover, of broader efforts to reform the Company’s image reaction to the green paper revealed ongoing following a torrid period, during which it dropped out corporate resistance to the notion of directly in- of the FTSE 100 having been accused of operating its volving workers in board affairs. central depot like a “Victorian workhouse”.

Given that only one FTSE 350 board comprises a bona fide worker director (transport business FirstGroup plc), proceedings at Sports Direct are sure to come THE TAKEAWAY under intense scrutiny as a test case of the feasibility and broader applicability of such appointments. Employee representatives may not be appropri- ate for all businesses, depending on the size Mr. Balacki’s personal experience will also be viewed of the workforce and its relationship with by many as a barometer of the depth and authenticity management. However in the right circumstances, of reforms being led by board chair Keith Hellawell, they can provide a means of broadening the who many shareholders believe to be an ineffective board's perspective, and rebuilding trust with counterweight to controlling shareholder Mike Ashley. stakeholders including employees themselves, as well as the wider public. We believe it should be up to each company to decide the best approach for their business, and we welcome initiatives taken by, for example, Rolls-Royce, which held its first staff AGM this May. And regardless of whether an employee representative is deemed necessary, it seems clear that all boards should be giving serious thought to how they might strengthen communication with workers going forward and how such processes, and the outcomes thereof, might be reported to shareholders.

2 CASE STUDY Director Commitments

Barclays plc (LSE:BARC) AGM: May 10, 2017 Market Cap: £35.2 billion THE BIGGER PICTURE

HSBC Holdings plc (LSE:HSBA) The rising obligations of directors across AGM: April 28, 2017 a variety of sectors, and just what is an Market Cap: £145.9 billion appropriate level of commitments, are topics that come up frequently in our engagement conversations with issuers and stakeholders. The 2017 AGM season saw two UK banks, both FTSE Section B3 of the UK Corporate Governance 100 constituents, confronted with shareholder con- Code states that "[a]ll directors should be able cern over its directors' external commitment levels. to allocate sufficient time to the company to discharge their responsibilities effectively". The At Barclays, newly-appointed NED Sir Ian Chesire question as to what constitutes efficacy is given also serves on the boards of FTSE 100 firm Whitbread no further colour in terms of time commitment, plc as senior independent director, FTSE 250 firm nor indeed are there concrete thresholds given Debenhams plc as chair, and as chair on a further in terms of the number of directorships which two public company boards. In addition, Sir Ian is may represent a problem, save that the board chair designate of the company's ring-fenced UK "should not agree to a full time executive bank. At HSBC, NED Paul Walsh also chairs FTSE director taking on more than one non-executive 100 firm Compass Group plc and serves on a total of directorship in a FTSE 100 company nor the five public company boards, and NED Irene Lee chairmanship of such a company". serves as executive chair of one Hong Kong-listed real estate company and as a NED on five more public The 2009 Walker Review of corporate gov- company boards. ernance in UK banks and financial institutions suggests a minimum expected time commitment In both cases, the impact of shareholder pressure was of 30 to 36 days per year for NEDs at a major clear even before the vote. In advance of its AGM, bank (excluding committee memberships and Barclays announced that Sir Ian had been granted a any external factors, economic or industry waiver from regulators which would allow him until specific, that may necessitate further time September to reduce his external commitments (two commitment); however that number appears to weeks after Barclays' AGM, Whitbread plc announced be creeping up. When HSBC NED (and subsidiary that Sir Ian would step down from his role as senior bank chair) Rona Fairhead was taken to task independent director in September as part of its by parliament over her external commitments "planned board succession"), averting a potential in 2015, she estimated that her role required rebellion over his appointment. 75-100 days per year. The author of the Walker Report, Sir David Walker, himself former chair of In the week preceding its AGM, HSBC announced Barclays plc, has stated that if he were to write that Mr. Walsh, who only joined the board in January the report today, “[t]he change now is I would 2016, had decided to retire to focus on his other say [that chairmanship of a large bank] leaves commitments; however, commentators have opined no time [for other business commitments]”. the Mr. Walsh did not wish HSBC to suffer the embarrassment of a high shareholder vote against his re-election. Indeed, Ms. Lee received less than 75% support.

3 GLASS LEWIS PERSPECTIVE

We believe that directors should be able directors Walsh and Lee at HSBC. At Barclays, to allocate sufficient time to a company to we initially recommended voting against Sir Ian; discharge their responsibilities effectively, and however, after Barclays provided assurances that retain some spare capacity in case a crisis or his commitments would be reduced, we revised other event escalates the demand on their time. our recommendation in favour of his election. In this case, we recommended voting against

THE TAKEAWAY

Shareholders are increasingly circumspect with The manner in which the companies themselves regard to NEDs serving on the boards of multiple dealt with these situations is also indicative large companies, particularly where one of those of the increasing impetus on shareholder and boards is a large cap bank — perhaps the remnants stakeholder engagement and the concomitant of lessons learned in the financial crisis, along with responsiveness required of boards where issues a recognition of the workload associated with arise. ongoing legal issues and mounting regulation.

4 CASE STUDY Nominee and Board Disclosure

BP plc (LSE:BP) the context of specific transactions that have changed AGM: May 17, 2017 the company's business profile. By knocking off the Market Cap: £89.8 billion boilerplate, Hammerson gives shareholders a deeper understanding of how the board works, and why it's Hammerson plc (LSE: HMSO) composed the way it is. AGM: April 25, 2017 Elsewhere, companies are experimenting with how Market Cap: £4.6 billion to clearly communicate director skills. BP plc broke down directors’ bios into two sections: “Career”, Vodafone plc (LSE: VOD) where the director’s major past jobs was listed; and AGM: July 28, 2017 “relevant skills and experience”, where the director’s Market Cap: £58.1 billion history is focused in terms of what they contributed to the company’s current work — why they are there and what they bring to the table. Another example The mark of a skilled chef is the balance of different is Vodafone plc, which took a more visual approach, flavors: too much of any one ingredient, no matter how illustrating the mix of skills, nationalities, genders and delicious on its own, ruins the harmony of difference tenure on the board. that characterizes great dishes. As with cuisine, so, it would seem, with corporate governance, as investors None of the above examples are intended as pay more and more attention to the mix of skills and prescriptive — just as there is no one right answer as experience on the board of directors. And, it appears to the best composition of a board, there are many that companies are taking notice. ways of discussing that composition. Which is all the more reason that clear, non-boilerplate disclosure is Traditionally speaking, the section of an annual vital for investors assessing a company's unique mix report that details directors’ biographies has read of directors. like a abridged C.V.: a list of past appointments, with an emphasis on board-level experience both past and present. Yet more recently we have seen GLASS LEWIS PERSPECTIVE a marked increase in the number of companies that are conveying the skill-sets of their directors in terms of their relevance to the company's strategy and In conducting our board analysis, Glass Lewis looks the board operations, rather than simply listing past for certain specific skillsets (for example, financial board positions. Moreover, companies are providing expertise on the audit committee), and recognizes enhanced disclosure regarding their board evaluation, the value of both industry-specific knowledge and succession and nomination processes, along with the a diversity of thought and experience. To that end, everyday workings of the board. for 2017 we have introduced a board "Skills Matrix" for large-cap UK companies in the Election of For example, Hammerson plc included a section on Directors section of our reports, providing a visual "Board activity: an insight into the year", featuring means of conveying the board’s diversity in terms details of their agenda and the results of the board of skill-set and hands-on experience. We see it as effectiveness review, along with personal reflections the start of a conversation about the ways that from several directors. Elsewhere, its nomination individual directors contribute to the work of the committee report sets out its processes for new board, and the expectations that investors have as director induction and development, and discusses to whether a director is bringing value — or simply the board's structure and succession planning within filling a seat.

5 THE TAKEAWAY

Investors expect directors to have highly developed So whether a company is a steak or a stew, and appropriate skills in order to conscientiously gourmet or greasy spoon, they need to explain carry out their strategic and oversight functions — how the nomination committee’s resident chef and for the company to clearly disclose these de cuisine is scrutinizing the impact and value of skillsets, and how they come together to create a each director — and adding a dash of something functioning board. different to liven up the dish.

6 CASE STUDY ESG Proposals in the UK Market

Royal Dutch Shell plc (LSE:RDSB) Perhaps in part reflecting the differing operating AGM: May 23, 2017 environments of advertising/PR and oil/gas, as well Market Cap: £81.4 billion as the power of management's recommendation, a separate shareholder-submitted vote on sustainability WPP plc (LSE:WPP) matters was far more contentious at Royal Dutch AGM: June 7, 2017 Shell’s 2017 AGM. The proposal, opposed by the board, requested that the company set and disclose Market Cap: £21.4 billion its targets for reducing greenhouse gas emissions to meet the Paris Climate Agreement’s goal of limiting As environmental, social and governance (“ESG”) global warming to well below 2°C. issues seize headlines with increasing regularity on a worldwide basis, ESG-related proposals at two As a part of this request, the proponents stipulated companies in the UK market offer a study in contrast. that Shell would need to set GHG reduction targets for a wide range of emissions, including those generated For the eighth consecutive year, WPP plc offered upstream from the organization (Scope 2 emissions), shareholders an advisory vote on its Sustainability and those emissions that are a consequence of its Review, a report detailing WPP’s activities and operations despite not being directly owned or performance in areas including emissions reductions; controlled by the company (Scope 3 emissions). human rights and its efforts to ensure a living wage; It appears that for many investors, the proposal and gender diversity at senior management level. went too far in directing the company’s emissions reductions targets; for example, the only meaningful WPP is one of only a handful of European compa- way for an energy company to reduce its Scope 3 nies that offers shareholders an advisory vote emissions would be to scale back its operations. on its sustainability reporting, though there are some indications that this could become a more Additionally, it should be noted that Shell has commonplace approach throughout the continent. attempted to position itself as a company Having a separate proposal on this reporting within the that understands and accepts the risks and AGM structure both signals the board’s seriousness opportunities associated with climate change and about the company’s ESG performance, and offers has acknowledged related risks to investors. This shareholders a symbolic means of voicing discontent includes a pivot towards liquid natural gas; prior should the company fall short of expectations. management support for a separate shareholder At WPP and others with similar votes, shareholders proposal to expand climate change reporting; linking have routinely given nearly unanimous support to NEO compensation to GHG emissions management; these proposals. and disclosure of its emissions along with reduction targets for direct emissions.

GLASS LEWIS PERSPECTIVE

We recommended supporting WPP's Sustainabil- quire the company to act in a manner that may ity Report, which was proposed by management be contrary to shareholders’ interests. In making on an advisory basis. At Royal Dutch Shell, Glass this determination, we also considered Shell’s ex- Lewis recommended shareholders vote against isting disclosure and reduction targets, as well as the resolution. We believed that establishing its previously demonstrated responsiveness to Scope 3 emissions reductions targets would re- shareholders.

7 In light of these factors, it was perhaps unsurprising shareholder support. However, importantly, these that only approximately 6% of shareholders voted in U.S. proposals were merely asking for increased favor of the motion. This is in stark contrast to some disclosure on low-carbon scenario planning — steps 2017 U.S. shareholder proposals on issues related that Shell has already taken — not requesting that to climate change, with resolutions at Exxon, PPL companies set ambitious emissions reduction targets. and Occidental Petroleum receiving well over 50%

THE TAKEAWAY

Investors are increasingly concerned with how particularly in the absence of board support, companies are handling environmental and social investors are taking a critical eye to shareholder issues. However, details matter. Companies will requests on climate change related issues in likely be viewed favorably should they demonstrate order to ensure that such resolutions take into a leadership position on environmental and account the long-term sustainability (both social issues by seeking shareholder approval for environmentally and financially) of the targeted their sustainability disclosure. Nonetheless, and companies.

8 CASE STUDY Board Independence and Succession Planning

Centamin plc (LSE:CEY) Having identified the problem, the board decided to AGM: March 21, 2017; bring Mr. Schultz back as a director “in light of the Market cap: £1.9 billion vital role that [he] plays for the Company, bringing his deep technical knowledge to assist the Board’s oversight of the Company’s operations”, while Over 64% of votes were cast against the re-election bowing to shareholders by removing him from the of Trevor Schultz at FTSE 250 gold miner Centamin remuneration committee. Problem solved? plc’s 2017 AGM. Confusingly for investors, by the time AGM vote results were released to the market later Maybe not. Mr. Schultz’s presence on the remuneration that day, Mr. Schultz had already been reappointed committee was the most glaring board issue at to the board. This game of musical chairs is fairly Centamin, but it wasn’t the only one to prompt common in some markets, but in the UK there isn’t shareholder dissent. Further concerns regarding CEO much precedent for the treatment of a director who pay and succession planning, including the board’s fails to receive majority support. continued failure to appoint even a single female director and its persistence with an executive chair, It appears that shareholders did not take issue with were reflected in the 40% vote against the deputy Mr. Schultz's presence on the board, per se; indeed, chair, senior independent director and chair of both his election has received consistently high levels the remuneration and nomination committees, of support in prior years. Rather, the revolt was Gordon Haslam. provoked by the appointment of Mr. Schultz to the remuneration committee following the resignation of To the board’s credit, its annual report included a independent director Kevin Tomlinson during 2016. considered explanation of what the board believed As a result, the committee failed to comply with the Mr. Schultz could contribute to the committee, and UK Corporate Governance Code's recommendation its disclosure of the AGM's vote results included a that it be comprised solely of independent directors; discussion of shareholder concerns as well as the in the view of Glass Lewis and others, Mr. Schultz rationale for re-appointing Mr. Schultz, a former cannot be considered independent given his prior executive director of the Company (until 2014) who service as an executive director (until 2014). now serves as a non-executive director. GLASS LEWIS PERSPECTIVE

In line with the UK Corporate Governance code, Nonetheless, it appears that the broader issue of Glass Lewis recommended that shareholders succession planning is what got Centamin into vote against Mr. Schultz based on his presence this mess in the first place. The company still on the remuneration committee. In addition, we has an executive chair, while most other board recommended voting against the nominating leadership functions rest on the shoulders of committee chair, Mr. Haslam, based on the Mr. Haslam. Former independent NED Kevin absence of any female directors or meaningful Tomlinson, whose departure prompted Mr. disclosure regarding measurable diversity Schultz’s appointment to the remuneration objectives. committee, still hasn’t been replaced; moreover no new independent NEDs have been appointed With regard to the reappointment, well, immedi- since 2011, and there are still no female directors. ately reversing the result of a nominally-binding Centamin’s issues with board composition go shareholder vote certainly looks bad. In this case, beyond the presence of a non-independent principled opposition to Mr. Schultz’s re-appoint- director on the remuneration committee. ment may be somewhat mitigated by the reduc- tion to his responsibilities, and the rationale set out by the board.

9 THE TAKEAWAY

Compliance with the UK Code on matters are increasingly looking for active succession of board and committee composition is so planning that includes periodic refreshment widespread that any offending parties stick right and a diversity of skills and experience. With out, making it hard to garner support even when a expectations rising, boards need to be thinking clear explanation is provided. Moreover, investors about these issues in advance.

10 CASE STUDY Incentive Target Adjustments

Crest Nicholson plc (CRST, LSE) AGM: March 23, 2017; GLASS LEWIS PERSPECTIVE Market cap: £1.5 billion We raised concerns regarding the lowering of performance targets, particularly given the full Ensuring that incentive targets are stretching vesting of recent awards, and the board’s history but achievable, and aligned with strategy, can be in this area, having previously ran into trouble over extremely tricky – just ask Crest Nicholson. The FTSE ROCE targets, as well as reducing PBT targets 250 housebuilder saw its remuneration report voted without a rationale in FY2015. However, given the down on the back of the remuneration committee's board’s rationale and in the context of other pay decision to reduce the LTIP profit before tax target decisions made in the period under review, we did range from 16%-20% for 2016 grants to 5%-8% for not believe this issue warranted recommending 2017 grants. against the remuneration report. The decision reflected the board’s expectation of a “temporary slowdown in profit growth during the next three-year performance period as we invest in the business towards medium-term targets of £1.4bn sales and 4,000 units in 2019.” While the THE TAKEAWAY reduced targets may have been set in the context of the company’s financial and strategic outlook, they While occasional target adjustments are to be do not appear to reflect the context of recent pay expected, particularly at companies that operate outcomes – awards granted in 2013 and 2014 vested in highly cyclical industries, investors justifiably in full. expect them to be explained in the context of company strategy and external forces. In this case, Moreover, it’s unclear whether the board explained it seems clear that the board at Crest Nicholson its rationale to shareholders prior to sending off the could, and should, have done more to justify the annual report — while the remuneration committee reduction in its LTI PBT target range, particularly “specifically consulted with major shareholders given that recent awards vested in full. It's on our proposed Remuneration Policy (as well as possible that no explanation could have soothed corporate governance matters more generally) and shareholder concerns in light of the steep nature did not receive any adverse comments”, it’s unclear of the adjustment and recent payouts. However, if those discussions covered the decision to reduce more dialogue earlier in the process could have targets, or simply focused on the overall policy. opened the door to other options, such as reducing award levels to reflect the reduced It’s worth noting that this isn’t the first time Crest growth targets, that would demonstrate that the Nicholson has faced opposition relating to its committee takes shareholder views on board. performance targets. At the 2014 AGM, over 38% of shareholders voted against the remuneration report, in part due to concerns that ROCE targets under the long-term incentive plan were set below the actual result from the prior year.

11 CASE STUDY Remuneration Committee Discretion

Pearson plc (PSON, LSE) Whereas SVG’s remuneration committee got into AGM: May 5, 2017; trouble for a questionable exercise of discretion, Market cap: £5.8 billion Pearson saw its remuneration report rejected because it declined to exercise discretion. Boss John Fallon SVG Capital plc (LSE:SVI) was awarded a £343,000 bonus for "achieving 2016 AGM: March 30, 2017; profit and earnings per share guidance, delivering Market cap: £175 million strong operating cash flow, and delivering a major restructuring successfully". Meanwhile, the company suffered a profit warning that triggered its biggest There has been extensive discussion of the triennial ever one-day fall in share price, and posted a pre- return of binding policy votes during the 2017 tax loss of £2.6 billion for the year. The loss was proxy season. However, in 2017, as in prior years, caused primarily by the write­-down of an acquisition shareholder opposition generally focused less on the from the '90s, but the profit warning was the result binding votes, which set out the overall framework of a decline in Pearson’s education business; its and limits of executive remuneration, and more on traditional core business of selling textbooks in the the annual advisory votes covering the remuneration U.S, coming under pressure from cheaper options committee's decisions on just how that policy is such as Amazon. implemented. In a bid to placate investors, Mr. Fallon, who has faced Having received a 38% vote against its advisory calls to step down, invested his bonus in Pearson remuneration report last year, one might have shares. Nonetheless, six in ten votes were cast expected that FTSE 250 investment manager SVG against the remuneration report, representing the Capital would have been at pains to avoid a repeat. largest shareholder rebellion at a FTSE 100 company However, the company, which will soon be winding since 90% voted against Sir Fred Goodwin’s pension up having agreed the sale of its investment portfolio, arrangements at Royal Bank of Scotland in 2009. elected to throw caution to the wind and breach its own pay policy when determining CEO Lynn Fordham’s severance package. GLASS LEWIS PERSPECTIVE

Citing “the unusual circumstances presented by the In analysing advisory remuneration report Harbourvest takeover bid and the resulting sale of proposals, we review the decisions made by the Company’s investment portfolio (generating the committee during the year. When there are significant shareholder value)”, they allowed her deviations from the approved policy or intended outstanding equity awards to vest early and in full, implementation, or other discretionary decisions, whereas SVG's approved remuneration policy states we look for a clear explanation of the committee's that awards will be pro-rated if vesting early on rationale. In this case, after reviewing pay outcomes a change of control and/or in the case of a "good and the board's disclosure, we recommended leaver." While a majority of voting shareholders voting against the remuneration reports at both were content to move on in light of the takeover, the Pearson (on the basis of a disconnect between proposal still generated 28% opposition. pay and performance), and SVG (based on the committee's deviation from the approved policy).

12 THE BIGGER PICTURE

The exercise, or otherwise, of remuneration com- which TSR performance was measured, resulting mittee discretion has become a consistent in an uplift of LTI vesting against formulaic lightning rod for shareholders. Similar to the outcomes; while BP's board was lambasted for results at SVG and Pearson, back in the 2016 not exercising discretion to reduce bonuses proxy season, Smith & Nephew's remuneration downwards so as to mirror financial results and report was voted down after the board chose share price performance during the year. to retrospectively alter the peer group against

THE TAKEAWAY

A direct line can be drawn between events at While SVG survived the vote, the significant level Pearson and last year's revolt at BP, and the of opposition to Fordham’s severance demon- resultant lesson for issuers seems clear: pay strates that any deviations from approved policy for performance matters, and remuneration will be closely scrutinised. In part that reflects committees must seriously consider exercising an erosion of shareholder confidence in remu- downward discretion on bonus awards in cases neration committees, as noted by the Investment where a company's financial and share price Association's Executive Remuneration Working returns are markedly at odds with formulaic Group. In order for flexibility to be reintroduced award outcomes. In addition, the voting at into the system, remuneration committees will Pearson highlights growing investor concern need to regain investors' trust, including through over bonus targets that allow for payouts merely actively protecting against inappropriate pay- for meeting expected performance, rather than outs. Early engagement and transparent disclo- incentivising exceptional results. sure will, of course, also have a significant role to play.

13 CASE STUDY BP Responds to a Defeat

BP plc (LSE:BP) THE BIGGER PICTURE AGM: May 17, 2017; Market Cap: £89.8 billion BP's defeat raised questions about executive pay; however, its response to that defeat touches Why do we fall? So we can learn to pick ourselves on broader questions about stewardship, up. BP's 2016 AGM served as a referendum on regulation and shareholder voting. Indeed, in the executive pay, with the FTSE 100 company facing a wake of the 2016 vote, Simon Walker, Director torrent of criticism prior to (and during) the meeting. General of the Institute of Directors, went so far as Along with concerns regarding the complexity of the to say that "[h]ow the board of BP reacts to this remuneration structure, the sheer size of executive rebellion will determine the future of corporate payouts despite a year of poor financial and market governance in the UK." returns prompted roughly 60% of shareholders to reject the advisory remuneration report proposal. It While this may sound a bit much, it's worth was one of the largest defeats on record, at one of the considering the case of the French auto-maker, largest companies to have so stumbled, and seemed Renault. Much like BP, it lost its 2016 advisory to reflect growing resentment of high pay not just 'say on pay' vote due to concerns over excessive among politicians and the public, but investors. pay; however its curt response, which merely acknowledged the result but promised no The decisive loss prompted a decisive response dialogue or action, prompted the French National from the remuneration committee, which undertook Assembly to introduce legislation creating fully extensive consultations with shareholders and binding pay votes. With pay and governance other stakeholders, and overhauled the company's increasingly politicised in the UK, and PM Theresa executive remuneration structure ahead of the 2017 May mulling new regulations and the expansion AGM. The revised policy addressed shareholder of binding votes, a similarly tone-deaf response concerns: quantum was reduced through a ~30% drop from BP could have sparked action. in long-term incentive grants; the overall structure was simplified through the removal of a duplicative matching scheme and paring down of performance metrics; and the link to stretching performance was THE TAKEAWAY reinforced through tougher maximum targets and a reduction to threshold payout levels. Shareholders approved, and both the advisory remuneration The system works! Engagement with shareholders report and binding policy votes passed with over and (relative) restraint and simplicity on pay 97% support. resulted in near-unanimous support, and the future of corporate governance in the UK seems a little more certain than it did a year ago. GLASS LEWIS PERSPECTIVE

Based on the wide range of structural improve- ments that were introduced, as well as the re- muneration committee's decision to exercise downward discretion in relation to 2016 payouts, Glass Lewis recommended supporting both the advisory and binding remuneration proposals at BP's 2017 meeting.

14 CASE STUDY Strategic Incentive Plans

Aggreko plc (LSE:AGM) Chemring Group plc (LSE:CHG) AGM: April 27, 2017; AGM: March 17, 2017; Market Cap: £2.34 billion Market Cap: £509.43 million

Anglo American plc (LSE:AAL) Johnston Press plc (LSE:JPR) AGM: April 24, 2017; AGM: May 22, 2017; Market Cap: £20.1 billion Market Cap: £15.09 million

The Berkeley Group Holdings plc (LSE:BKG) Thomas Cook Group plc (LSE:TCG) EGM: February 23, 2017; AGM: February 9, 2017; Market Cap: £4.48 billion Market Cap: £1,456.75 million

In its July 2016 report, the Executive Remuneration when considering something different, as these Working Group ("ERWG"), established by the companies found out. Investment Association, outlined 10 recommendations to tackle what it described as "opaque" remuneration STRATEGIC TARGETS structures that allowed for outsized payments to executives and that adopt a restrictive one-size-fits- In early 2017, Thomas Cook revealed a new look all model. remuneration policy featuring a second long-term incentive plan, the Strategic Share Incentive Plan The first of its recommendations states that "[t]here ("SSIP"), which would run concurrently with its should be more flexibility afforded to remuneration existing PSP (an award could be made under either committees to choose a remuneration structure in any fiscal year, but never under both). The stated which is most appropriate for the company’s strategy purpose of the SSIP was as "an alternative to the PSP and business needs". In particular, the ERWG in specific situations where there may be a need to bemoans the dominance of the traditional three- put greater emphasis on near-term strategic goals year LTIP which it feels may have prevailed to the within the context of the overall long-term strategy detriment of "other remuneration structures which for growth". may be more appropriate to the company's business model or strategy" and it calls for more flexibility for The SSIP, which could be used interchangeably with companies "to choose a structure which has a simple the PSP at the remuneration committee's discretion, link to their business strategy, rather than attempting consists of a two-year performance period of yet to be to mould a standard structure to fit their needs". determined metrics (dependent on strategic needs) subject to a three-year TSR underpin which could Blackrock, in their 2017 AGM season guidelines, increase or decrease final payouts up to a maximum stated that "[it would] not discourage remuneration of 225% of base salary for the CEO. The SSIP met structures that differ from market practice. However, with significant shareholder opposition however, where remuneration practices differ substantially from with almost one third of Thomas Cook's shareholders market practice, e.g. in the event of unconventional voting against the plan. The board cited "concerns incentive plan design or extraordinary decisions made about the level of information around the possible in the context of transformational corporate events strategic objectives and the size of the maximum or turnaround situations, we expect clear disclosure potential award" as the reason for the opposition explaining how the decisions are in shareholders’ best and committed to reducing the overall incentive long-term economic interests." Other large investors, opportunity such that it would not exceed the such as Legal & General, appear similarly sympathetic. current PSP (200% of base salary) and to consulting However, UK investors more broadly remain cautious shareholders surrounding any future use of the SSIP.

15 COMBINED SHORT/LONG-TERM level of expected support, the company withdrew INCENTIVE PLAN both proposals at the AGM, opting to stick with its existing policy. Rather than add an alternative incentive plan, Chemring Group, the mid-cap defence group, Similarly, Johnston Press plc initially proposed an proposed to consolidate its existing annual bonus and updated policy that gave the company three options long-term PSP into a single scheme, the Chemring as to how to operate its LTIP over the three-year Incentive Plan ("CIP"). The remuneration committee period: a standard mix of bonus and performance opined that the PSP, which utilised TSR and EPS shares, all bonus with no performance shares, or a measures, failed to accurately reflect the nature mix of bonus and non-performance based restricted and size of its operations in the defence industry, shares. However, on May 15, 2017, just one week and stated its belief that the existing PSP served as before the scheduled AGM, following consultation poor incentivisation and consequently provided poor with shareholders, the company announced that the alignment with shareholders' interests. Further, it board undertake to operate the new policy within stated that operating the PSP as a second plan would certain additional parameters, which included no serve "little constructive purpose in its current form restricted share awards. Despite the company’s [and] adds complexity and incurs additional costs for effort to satisfy shareholders, both the remuneration little benefit." policy and proposed amendment to the existing LTIP received approximately 32% shareholder dissent at The move to the CIP reduced the overall incentive the AGM (this may reflect early voting). opportunity, with the plan consisting of a one-year performance period measured by multiple financial LONG TERM INCENTIVE CAPS and strategic metrics, satisfied by a mix of cash payment (30%) and deferred share element (70%), Historically, the use of equity has served to mitigate with the deferred portion subject to a three-year EPS concerns of excessive LTI payouts — afterall, performance underpin and post-vesting two year shareholders are benefitting from the same rising holding period. On the morning of its AGM, amid price as awardees. However, with quantum at the top concerns that a significant portion of shareholders of investors' minds, three companies have taken steps would cast votes against, the company announced to provide more defined limits on pay, by setting an that it would withdraw both its proposed remuneration absolute cap on the potential value of equity awards, policy and its standalone resolution to approve the regardless of how the share price performs. These CIP stating that it had "been actively engaging with LTI caps are sometimes seen on the continent, and shareholders regarding long-term incentives for some from 2012-2014 the FTSE 100 retailer Next plc briefly time and, while we received majority support for the set a £2.5 million cap on LTI payouts; however it's proposed revised approach, the Board believes that otherwise an extremely uncommon feature in the the right course of action now is to withdraw the UK — until now. resolutions and consider these plans further." The remuneration policy proposed by Anglo RESTRICTED SHARES American plc limits the value that can be received in the year of vesting to twice the face value of the One approach to addressing concerns regarding award at grant date, with any value above this being quantum is to reset the risk/reward profile of forfeited or, in exceptional circumstances and at the incentives. Rather than offering huge payouts if committee’s discretion, deferred for a further period. performance targets are achieved, some companies The proposed policy achieved greater than 92% are considering smaller awards of non-performance- support at the 2017 AGM. based 'restricted shares' — less reward, but more certainty — and no risk. Similarly, for FY2016, awards at Devro plc are capped at their grant day face value, 110% of base salary. Aggreko plc initially proposed a new remuneration Shareholders were in favour of the associated policy, policy and a proposal to approve a new restricted which received approval of greater than 99%. share plan to “support shareholder alignment and talent retention”. The revised structure reflected a Berkeley went one step further introducing “Total reduction in the amount of annual bonus and awards Remuneration Caps” p.a for each director at its EGM under the existing LTIP and an increase in personal in February, which included separate individual LTIP shareholding requirement. However, in light of the limits within the overall cap. The company stated

16 that the level of reward provided under prior grants the point of being simply too high irrespective of has been materially greater than was envisaged, performance.” Shareholders approved of the change, and acknowledging that, due to the company's with the remuneration policy and LTIP amendment success, "potential remuneration payable at the overwhelmingly supported. top end of the current range may have reached

GLASS LEWIS PERSPECTIVE

When analysing incentive schemes, Glass Lewis plan. Combined STI/LTI plans are popping up looks for structures that provide alignment with with increasing frequency, and varying success; company performance, and with long-term critical factors appear to be the scope and shareholder interests; however, we're mindful duration of deferral, just how stretching (or not) that there's a variety of different means toward any ongoing underpins appear, quantum, and the achieving these ends, and the appropriate company's circumstances. structure will vary depending on the company and its strategy. With regard to the restricted share plans, Glass Lewis recognises that they are intended to We recommended supporting the SSIP at Thomas address concerns regarding quantum, along with Cook, believing the flexibility to utilise strategic the difficulty of setting meaningful performance targets to be reasonable in light of the company's targets; however we generally view removing ongoing turnaround. However, we recognise performance conditions as a significant deviation shareholder concerns regarding the plan. from UK practice, unless truly exceptional Strategic targets can mean just about anything, circumstances warrant it. In this case, we potentially opening the door to rewarding recommended voting against both Aggreko executives for merely meeting expectations. and Johnston Press' initial policy proposals, Moreover, they tend to be structured around subsequently revising our recommendation milestones rather than a range of outcomes, for Johnston after it provided assurances that potentially resulting in an all-or-nothing payout. restricted shares would not be issued. These factors raise the level of concern regarding the size of awards, and make clear disclosure of As to Anglo American, Devro and Berkeley, we the specific target structure all the more relevant. recommended supporting the new LTI limits. Putting a cap on the potential monetary payout At Chemring, we were concerned by the use of is an interesting approach, in that it potentially a short performance period, but considered that reduces alignment with other shareholders, and the associated deferral and underpins provided even the incentive power of the award. However sufficient alignment with the longer-term, and for keeping pay within expectations, it has a recommended that shareholders support the certain blunt simplicity to it.

THE TAKEAWAY

It's tough to be an early adopter. With concerns structure and the company's strategy. Consulting regarding 'prefab' incentive plans and calibration early gives investors a chance to digest the of targets growing, there's room for innovation in details, and gives companies a chance to adjust UK pay; however it's still a risk to try something those details if need be. And, if an innovative new different. For companies going down that road, scheme intended to address quantum concerns the itinerary should include as many visits isn't received enthusiastically, LTI caps provide with investors as possible, to ensure that they a fairly straightforward alternative within the understand and support not just the terms of standard incentive structure. the plan, but how it fits in to the existing pay

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