Financial Crisis Adds Impetus to Shareholder Advisory Vote on Executive Compensation; Obama Favors Legislation

As it becomes apparent that executive compensation, particularly the structure of incentive compensation, played a role in the unfolding global financial crisis, the efficacy of requiring a shareholder advisory vote on executive pay is back at the forefront of corporate governance reform. This is one issue in which Senator Barack Obama’s views are well known. Indeed, he is the sponsor of a Senate bill to mandate non-binding shareholder advisory votes on executive compensation.

After the House passed a bill requiring that companies include in their annual proxy to investors the opportunity cast a non-binding vote on the company’s executive pay packages, Sen. Obama introduced his companion bill (S 1181), requiring a shareholder advisory vote on executive compensation. The bill is currently locked in the Senate Banking Committee.

In a speech in Indianapolis earlier this year, Sen. Obama said he introduced the legislation based on his belief that some senior executives were being generously rewarded despite the fact that they were not doing a good job for their shareholders, which, he said, contradicted the basic American value that good and successful work should be rewarded. The legislation would give shareholders a voice in what senior officers are getting paid and ensure that companies disclose the rationale for the executive compensation.

Both the House and Obama bills also mandate a separate non-binding advisory vote if a company gives a new, not yet disclosed, golden parachute to executives while simultaneously negotiating to buy or sell a company. This rare second vote is designed to empower shareholders to protect themselves from senior management's natural conflict of interest when negotiating an agreement to buy or sell a company while simultaneously negotiating a personal compensation package.

These measures are designed to ensure that shareholders have an opportunity to give their approval or disapproval on the company’s executive pay practices. As such, they represent a market-based approach empowering shareholders to review and approve their company's comprehensive executive compensation plan. In that spirit, the bills do not establish any artificial restrictions on executive compensation, nor do they seek to set any form or measure of executive compensation.

Since the bills were introduced, the global financial crisis erupted, focusing a spotlight on executive compensation and, concomitantly on the shareholder advisory vote. Recently EU Commissioner for the Internal Market Charlie McCreevy said that it has become clear that some incentive schemes have led to excessive risk taking. While addressing these perverse incentives has traditionally been the responsibility of the financial institutions themselves, he noted, clearer guidance may be needed from policy makers. Shareholders must have a say on executive compensation, he emphasized.

It is unlikely that a shareholder advisory vote bill will become law this year. But the bills are almost certain to be introduced in the 111th Congress, with more power behind them. Or provisions mandating a shareholder advisory vote may be rolled into a larger omnibus securities reform bill.