ISS has released further details on its new "Relative Pay and Financial Performance Assessment," which was announced as part of its 2017 policy update a few weeks ago. The new assessment, summarized in an updated "Pay for Performance Mechanics" document, will be part of the qualitative assessment only for all Russell 3000E companies with annual meetings on or after February 1, 2017, although it is likely that ISS will end up adding the assessment to its quantitative screen in future years.
The new assessment will rank CEO pay and company financial performance against the ISS-defined peer group, using up to six financial metrics (ISS can choose from ROIC, ROA, ROE, EBITDA, cash flow and revenue) plus TSR, although ISS indicates that "not all industries will use all metrics." The selection and weighting of the metrics will be based on four-digit GICS industry code and measured across a two- or three-year period on a rolling 12-quarter basis (16 quarters will be used for growth metrics). Similar to the existing Relative Degree of Alignment test, this screen will compare weighted average performance rank to CEO pay rank, then compare the resulting score to other companies in the industry who have received the same level of concern (i.e., either medium concern or high concern) during the quantitative review.
ISS states that it conducted significant back-testing to determine which metrics and weighting are considered most important by investors for each industry, based on financial results and say on pay votes. ISS notes that on average across all industries, ROIC, ROA and ROE will account for 60% of the overall metric weighting with TSR weighted at less than 15%. This is a significant contrast to ISS's current quantitative test which relies on TSR exclusively. ISS provides a listing of the metrics that will be used for each GICS code and their relative ranking, but there are many variables that will cause confusion for companies attempting to predict how their financial performance will be interpreted within the screening, including the lack of specific weighting factors. ISS has also provided the exact formulas it will use to define each metric, which will be analyzed using reported rather than adjusted values. If ISS decides to make this part of its quantitative test in the future, it is very likely to drive more companies to subscribe to ISS's consulting arm.
ISS has also made minor updates to its equity plan, executive compensation policies and peer group FAQs, which are available here: https://www.issgovernance.com/policy-gateway/2017-policy-information/.