Compensation Season 2025

Stock indices reached record highs in 2024 as the Federal Reserve stayed the course for a soft landing, reducing inflation, while simultaneously preserving a strong labor market. At the same time, increased regulatory vigilance and a rise in global political instability resulted in a year-over-year decline in larger merger transactions. With a new administration entering the White House earlier this week, change is sure to come. Attracting and retaining quality talent is always essential, but never more so than during periods of transition and uncertainty. We identify below some of the key themes that may shape company compensation decisions in the year ahead.

Proposed FTC Non-Compete Ban Falters. Last summer, the U.S. District Court for the Northern District of Texas issued a nation-wide injunction blocking the Federal Trade Commission’s proposed ban on employee non-competes that was scheduled to take effect in September 2024. The case is on appeal.  Regardless of the outcome of this case, companies should be aware that noncompetes have come under increasing scrutiny in recent years at the federal, state and local levels and are advised to track developments as rapid shifts in this area may impact the ability to enforce, or necessitate modifications to, existing restrictive covenants.

ISS 2025 Compensation Policy Updates. Disclosure of Performance-Vesting Equity Terms. Beginning with the 2025 proxy season, ISS will place a greater focus on performance-vesting equity disclosure, with particular attention to companies that exhibit a quantitative pay-for-performance misalignment. Areas of focus will include non-disclosure of forward-looking goals, poor disclosure of vesting results, unusually large pay opportunities, non-rigorous goals and overly complex performance equity structures.

In Flight Changes to In-Progress Incentive Programs. Consistent with its guidance during the pandemic, ISS will view unfavorably changes to performance goals and/or measurement periods for in-progress incentive programs and will require a clear and compelling rationale for such actions.

Clawbacks. In order to receive credit for a “robust” clawback policy in the “Executive Compensation Analysis” section of its research report, a company’s clawback policy must extend beyond the Dodd-Frank requirements (which are generally limited to performance-based compensation) and cover all equity awards, both time- and performance-based.

Glass Lewis 2025 Compensation Policy Updates. Distinguishing itself from ISS, Glass Lewis highlighted its holistic approach to assessing company pay programs, noting that (1) there are few program features that, on their own, lead to an unfavorable recommendation from Glass Lewis for a say-on-pay proposal, and (2) it does not utilize a pre-determined scorecard approach when considering individual features, such as the allocation of long-term incentives between performance-based awards and time-based awards. In addition, the Glass Lewis 2025 update states that companies that allow for committee discretion over the treatment of unvested awards in a change of control should commit to providing a clear rationale for how such awards are treated in the event a transaction occurs.

Disclosure Regarding Option Grant Timing. Under new Item 402(x) of Regulation S-K, if, during the last completed fiscal year, a registrant awarded options to a named executive officer in the period beginning four business days before the filing of a periodic report on Form 10–Q or Form 10–K, or the filing of a current report on Form 8–K that discloses material nonpublic information (MNPI), and ending one business day after the filing of such report, the registrant must disclose the grant date, number of shares covered, per share exercise price, and grant date fair value of the award, as well as the percentage change in the closing price of the shares covered by the award between the trading day ending immediately prior to disclosure of the MNPI and the trading day beginning immediately following disclosure of the MNPI. A registrant with a calendar year fiscal year must include these new disclosures in its Form 10-K or annual proxy statement filed in 2025.

Preserving Employee Whistleblower Rights. Companies should make sure to include proper carveouts for whistleblower activity, litigation and governmental investigations when drafting company documents that address communications by employees, including, e.g., confidentiality covenants, employment and severance agreements, releases and proprietary information agreements. In particular, companies should take note of Rule 21F-17 under the Exchange Act, which prohibits any action that impedes an individual from communicating directly with SEC staff about potential securities law violations, including enforcing (or threatening to enforce) a confidentiality agreement with respect to such communications. Targeting violations of this whistleblower protection rule has been a priority for the SEC since 2015, and the pace of enforcement has increased considerably over the past two years.

A Thoughtful Approach to ESG. ESG-related goals may have an appropriate place in the design of executive compensation programs, but a board should feel free to determine whether such goals promote long-term shareholder value and enhance management incentive arrangements. Determining the nature of those goals and their relative impact on compensation outcomes is within the purview of the compensation committee. Given the ever-shifting landscape, we recommend that compensation committees annually review and assess all performance goals, including those linked to ESG objectives.

Expanded 162(m) in 2027. The American Rescue Plan Act of 2021 amended the definition of “covered employees” subject to Section 162(m)’s tax deduction limitations for tax years beginning after December 31, 2026 to include an additional five highest compensated employees (“HCEs”), regardless of whether the individuals are executive officers. An individual included as a “covered employee” solely as a result of the expanded definition will not have permanent status as a covered employee. In contrast to the methodology used to identify “covered employees” who are NEOs (based on Summary Compensation Table disclosure), the additional five HCEs will be determined based on the amount of each employee’s compensation that would be deductible by the employer for the applicable taxable year without giving effect to the applicable limit under Section 162(m). While the expanded definition does not become effective until 2027, companies should prepare to apply the new methodology to identify individuals who might be covered by the expanded definition.

Navigating an Accounting Restatement. Companies that restate their financials are required to evaluate the impact of the restatement on incentive compensation under the Dodd-Frank clawback policy, which applies to incentive compensation “received” in 2023 or later. When facing a restatement, it is critical for companies and boards to have a clear understanding of the potential impact on covered incentive compensation. The allocation of responsibilities between the compensation and audit committees should be clear, so that a full analysis of potential clawbacks is promptly and properly conducted, as it is a factor upon which auditors, the SEC and other regulators are keenly focused. It is essential to understand and consider the impact of a restatement on earned, pending and future compensation and any related disclosure requirements.

Compensation Committee Best Practices. In approving an executive compensation arrangement, the board should have ample opportunity to review and consider key materials in advance of the approval. Relevant information may include a written summary of key terms, benchmarking data, quantification of the cost of the arrangement, and a preview of any required SEC disclosures, including any Form 8-K items or company proxy requirements, such as summary compensation table information or descriptions of plans subject to shareholder approval. Under Delaware law, directors may rely in good faith upon the advice of its expert advisors, including internal and external compensation consultants and legal advisors. Board minutes should reflect the supporting materials made available to directors and company advisors should be available to answer any questions directors may have.

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Adopting a significant compensation arrangement involves a complex set of inputs, including market benchmarking, disclosure and accounting ramifications, investor reactions and feedback from ISS and Glass Lewis. All of these factors are important, but none of them should obscure the primary purpose of an executive employment arrangement; i.e., attracting and retaining key talent who will advance the long-term interests of company stockholders.