Even as senior management rapidly shifts priorities in the face of layoffs,
volatile stock prices and sharp declines in cash flow, compensation
committees must come to terms with the impact of the coronavirus (COVID-19)
pandemic on executive compensation. All of this occurs in the midst of
annual compensation reviews and approval cycles, when companies determine
annual and long-term incentive plan performance targets and prepare proxy
disclosures. The COVID-19 pandemic creates unprecedented challenges in how
to proceed with 2019 and 2020 compensation planning, given the uncertain
depth and length of the current economic and business disruption. Discussed
below are some items for compensation committees to consider.
Note: this is the third of a series of McGuireWoods client alerts relating
to COVID-19 and employee benefits. Previous installments were published on
March 24 and
Many companies are considering suspending or reducing key executive base
salaries and annual incentives “temporarily” as a show of support for the
company. This may take the form of no base salary increase, base salary
reductions, voluntary pay waivers or stock awards in lieu of a percentage
of base salary. It may also take the form of reduced or suspended payment
of cash retainers to non-employee directors. All of these measures are
typically taken to preserve precious cash.
Before proceeding with any of these alternatives, a compensation committee
should consider the following factors.
Employment Agreements, Change in Control or Incentive Plan
Review these documents to determine what discretion (if any) is
reserved to the compensation committee to adjust base salaries or goals
or to defer payouts for executive officers.
Consider whether executive consent is appropriate so the reduction in
compensation does not trigger (or is carved out from) any “good reason”
termination under any employment agreement or severance arrangement.
Annual incentives/bonuses payable for 2019 usually fall within the
short-term deferral rule and must be paid on or before March 15, 2020,
for calendar year plans; the deferral of such amounts will generally
not be available unless the incentive payment would jeopardize the
company’s ability to continue. However, for 2020 annual incentive
plans, executive elective deferrals may be possible for
performance-based compensation so long as the elections are made by
June 30 (in the case of calendar year plans) or before the date the
performance-based compensation has become reasonably ascertainable.
Such deferrals might be valuable if a company needs to conserve cash.
Consider whether the changes made are “material” and trigger an 8-K
filing with the Securities and Exchange Commission; even if not
required, consider disclosing the company’s measures voluntarily in
either an 8-K filing or a press release. With respect to cash plans for
which goals have been adjusted or waived, those awards must now be
reported as bonuses in the summary compensation table of the proxy.
Adjustments to Goals/Payouts.
Any mid- or final year adjustments to goals/targets or metrics will be
scrutinized by proxy advisory groups such as Institutional Shareholder
Services (ISS) and Glass Lewis (GL), although ISS recently stated that
it anticipates many companies will adjust annual performance metrics,
goals and targets as a result of the pandemic. ISS will require clean
contemporaneous disclosure of the rationale for the changes to
- 2020 Plans. For 2020 plans already established, consider
waiting to make any changes until the proverbial dust settles to evaluate
the full impact on the business, and then use discretion to determine how
management and employee incentives have been impacted.
- Disclosure. For 2020 plan adjustments that occur in the
future, clearly discuss the rationale for any changes in next year’s
compensation discussion and analysis.
- Stock in Lieu of Base Salary.
Consider any unintended consequences associated with granting “at-risk”
equity, since in the case of a rebound in stock prices, the executive
may be viewed as landing a windfall of excessive compensation when the
value of the stock (upon rebound) exceeds the value of original cash
compensation. For public companies, stock must also be registered and
delivered under a shareholder-approved plan to comply with applicable
- Board Retainers.
Note that the authority to adjust cash board retainers may rest within
the purview of the compensation committee or the nominating and
governance committee, so a review of governance documents is necessary.
In any case, the full board of directors will typically need to approve
any change in non-employee director compensation based on the
recommendation of the compensation or nominating and governance
Long-Term Performance-Based Compensation
Many of the issues discussed above under “Cash Compensation,” and in
particular, those relating to performance-based incentives, also apply to
long-term performance-based compensation (e.g., executive consent and
disclosure requirements). However, the analysis is a bit more complex in
the case of adjusting equity grants whether it takes the form of adjusting
goals, metrics or targets, or in the case of future grants, reducing the
pool of eligible employees.
Before proceeding with any of these alternatives, a compensation committee
should consider a number of factors.
Employment Agreements, Award Agreements/Terms and Conditions.
Review these documents to determine what, if any, discretion is
reserved to the committee to adjust payouts in the midst of
Adjustment to Goals/Payouts.
Note that ISS and GL do not look favorably on modifications to
long-term equity awards in contrast to annual incentive plans so the
committee will need to provide robust disclosure of rationale for the
Consider whether an adjustment to an outstanding grandfathered award
under 162(m) will be lost due to the modification.
Consider whether lower equity award goals will trigger incremental
accounting expense, to be reported in the summary compensation table
and grants of plan-based awards table in the proxy.
For 2020 Grants (not yet made):
- Consider delaying the grant cycle until the impact of the downturn is
clearer and make discrete retention awards to select executives.
- Use a shorter performance period and possible additional service vesting
- Build more discretion into award terms to adjust performance targets.
- Provide less strict leverage in establishment of performance targets
(e.g., plus or minus 3 percent of target performance yields payout).
- Use lower thresholds to ensure minimal payout.
- Use relative metrics as a percentile rank against peers.
- Consider using stock prices based on a trailing average for purpose of
setting the number of shares or the exercise price of options, subject to
- Consider equity award plan terms (e.g., individual limits to a single
participant) and be sure not to violate them.
- Consider the share pool available. The number of shares reserved for
issuance may not be sufficient to cover a typical grant; in this case,
reduce the number of eligible participants and consider long-term cash for
While it may be premature, companies may consider exchanging underwater
stock options for in-the-money options, full value equity awards or cash.
With the drop in the stock market as a result of the COVID-19 pandemic,
many companies may have outstanding stock options that are likely to be
“underwater,” meaning that the exercise price of the outstanding stock
option is greater than the current fair market value of the underlying
Before proceeding with any option exchange program, a compensation
committee should consider several factors.
Shareholder Approval Requirements.
Both the NYSE and NASDAQ (as do most equity plans) require that
shareholders approve any stock option repricing.
Proxy Statement Disclosure.
The proxy statement will also need to provide for robust disclosure of
the repricing in the compensation discussion and analysis.
ISS recently issued guidance confirming that, if companies seek
shareholder approval of an option repricing, ISS will apply its
existing policy approach for the relevant market. This means ISS will
generally recommend against any repricing that occurs within one year
of a “precipitous drop” in the company’s stock price. ISS will also
review whether the repricing is value-neutral, whether surrendered
shares are added back to the equity pool for future grant, the vesting
of the replacement shares, and whether executive officers and directors
- Percentage of outstanding options underwater
- Number of shares available
- History of option exchanges
- Incremental accounting expense
McGuireWoods has published additional thought leadership analyzing how companies across industries can address crucial business and legal issues related to COVID-19.