One of the changes to ISS’ methodology on evaluating executive compensation this year related to the construction of peer groups. The ISS peer group is generally comprised of 14-24 companies that are selected using market cap, revenue (or assets for financial firms), and GICS industry group, via a process ISS believes is designed to select peers that are closest to the subject company, and where the subject company is close to median in revenue/asset size.
The problem is compensation committees often use a peer group that they believe is tailored to be comparable to their specific issuer. The use of a different peer group by ISS can lead to differing judgments in an appropriate amount of executive pay.
United Technologies Corporation highlighted the problem in its additional definitive proxy materials noting “80% of the companies within the ISS comparison group are irrelevant for purposes of benchmarking shareowner returns against UTC because they are in completely unrelated industries.” UTC’s materials also stated “Unfortunately, rather than attempting to construct a reasonably relevant group, ISS constructed a group based solely on market capitalization and revenue, without regard to industry, which we believe is critical in any TSR comparison. For example, Apple Inc.’s performance is of little, if any, relevance to UTC’s performance, yet ISS has used it as a comparison company.”
Most industrial companies would probably not appreciate having their shareholder returns compared to Apple.
Disney also alluded to improper comparisons in its additional definitive proxy materials, noting that its compensation committee “looks at performance and compensation in relation to the single most appropriate set of peers available: the five major publicly held entertainment companies whose management issues and challenges most closely resemble those of The Walt Disney Company.”
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