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Management Perks

  1. Investor and Regulator Focus on Perks
  2. Disclosure Requirements for Perks
  3. Valuation of Perks
  4. Policy to Not Provide Perks
  5. Costs of Executive Security on the Rise
  6. Essential Practice Tips: "Dealing with the Complexities of Perks"
  7. List of Potential Perks
  8. Perk Practices
  9. Good Disclosure Examples
  10. Law Firm Memos
  11. Practice Pointers
  12. Disclosure of Corporate Aircraft Use
  13. Media Articles
  14. Video Webcast Panel: What Now Needs to Be Disclosed in the Proxy Statement
  15. Airplane Use Practice Area
  16. Director Perks Practice Area
  1. Investor and Regulator Focus on Perks

    Although the dollar amounts of perks reported in proxy statements may seem small compared to the CEO's total compensation, this may be the first area where compensation committees (and those of us responsible for drafting the disclosures) may find themselves in the hot seat. Both the IRS and the SEC are right now investigating the practices of some companies in this area, as illustrated by the SEC's settlement with General Electric and the information in our "IRS Liabilities" Practice Area.

    Just as Nixon, Clinton, Martha Stewart, Frank Quattrone and the entire Arthur Andersen firm found, the cover-up can be more costly than the crime. We suspect that boards and CEOs, and those that are helping them cover up the truth about perks, may find themselves defending lawsuits.

    Here is what the Council of Institutional Investors stated in its recently updated executive compensation policy:

    "Company perquisites blur the line between personal and business expenses.  The Council believes that executives, not companies, should be responsible for paying personal expenses—particularly those that average employees routinely shoulder, such as family and personal travel, financial planning, club memberships and other dues.  The compensation committee should ensure that any perquisites are warranted and have a legitimate business purpose, and it should consider capping all perquisites at a de minimis level.  Total perquisites should be described, disclosed and valued."

  2. Disclosure Requirements for Perks

    In 2006, the SEC revised the disclosure requirements regarding executive compensation, including perquisites disclosure, in this adopting release. Specifically, Item 402(c)(2)(ix)(A) of Regulation S-K requires disclosure of perquisites and personal benefits unless the aggregate amount is less than $10,000. Valuation is to be made on the basis of the aggregate incremental cost to the company.

    If the total amount exceeds $10,000, each perk or personal benefit must be identified by type, regardless of its amount. Each perk or personal benefit exceeding the greater of $25,000 or 10% of the total amount of perks/personal benefits must be quantified and disclosed in a footnote to the summary compensation table. The footnote should include a description of the methodology used to compute the aggregate incremental cost.

    Any item reported for a NEO that is not a perk or personal benefit, but that has a value in excess of $10,000 must be identified and quantified in a footnote. For named executive officers (NEOs), this disclosure requirement applies only to compensation for the last fiscal year. Nevertheless, all items of compensation are required to be included in the SCT, without regard to whether such items are required to be identified other than as specifically noted in Item 402.

    In determining what is a perk, the SEC provided a two-prong analytical framework in this adopting release. The first prong states that perks do not include items that are "integrally and directly related to the performance of the executive's duties." The adopting release notes that this concept is a narrow one – but also notes that the analysis of whether something is a perk ends if the item is "integrally and directly related to the performance of the executive's duties."

    If the analysis doesn’t end with the first prong, any item that provides a direct or indirect benefit that has a personal aspect, even though it was provided for a business reason or for the company's convenience (e.g., use of company aircraft for personal travel, club memberships not used exclusively for business and financial and tax advice), constitutes a perk – unless the item is provided to all employees on a non-discriminatory basis or items that are essential to the conduct of the executive officer's or the director's duties, in which case the item would not constitute a perk. Here is a useful Perk Tester flow chart to help ascertain "what is a perk."
     

  3. Valuation of Perks

    As noted in the May-June 2005 issue of The Corporate Counsel, a serious problem is that companies appear to have found ways to underdisclose the value of perks. A consulting firm recently told us that it had taken an informal poll of a handful of its clients and found that practices and methods for valuing - and hence disclosing or not disclosing - perks are all over the lot. The lack of consistency in classifying, quantifying and disclosing perks may be attributable to the lack of Staff guidance or intervention on perks disclosure, as we have noted before (see the January-February 1993 issue of The Corporate Executive and our March-April 1993 and January-February 2004 issues). However, the SEC expressly took the position in the executive compensation adopting release that perks should be valued based on aggregate incremental cost to the company—a position that the Staff had clarified at its 2004 meeting with the ABA JCEB. The SEC did not specify any particular method for determining this cost so how this will translate into actual practice is not clear.

    Here are some examples of how companies have tried to get under the disclosure radar. Cars and limousines purchased for executives costing $55-$75,000 each (not to mention the annual cost of a personal driver, garaging and maintenance) are technically placed into a "pool" that makes them available to drive visiting VIPs, etc.  This allows the company to treat the purchase price of the car as a business expense, and to treat as a perk only the cost of the NEO's personal use (i.e., the cost of gas and the driver's salary while the car is being used for personal travel). In reality, the car may be the CEO's (and may be referred to as such), but for proxy reporting purposes, it is a company car and only the cost of actual "incremental" use by the CEO for personal travel is counted.

    The same goes for the company jet on which the free ride by the NEO's spouse may not count as having any perk reporting value "since the jet was already flying to that destination." Some companies have gone a step further, claiming that, where the use of a company jet for personal travel is mandatory for "security purposes," all use of the jet is "business" rather than "personal." The Staff made it clear last year that this rationale won't fly to avoid the requirement to report personal usage as a perk. Investors likely have taken note of a recent study by Professor David Yermack of New York University's Stern School of Business finding that companies that allowed corporate jet use for personal travel underperform the rest of the market.

    If a company were to report the real values and costs of perks, including actual purchase price and maintenance costs of the executives' limousines, jets and apartments, etc., these numbers could be embarrassing, to say the least. As we have seen with Koslowski's $18 million dollar New York apartment or GE's $11.3 million apartment for Jeffrey Immelt (or the countless other New York apartments maintained for CEOs), it is misleading not to report these numbers by taking the position that the incremental cost of non-business use doesn't meet the $50,000 reporting threshold.
     
    Directors should not leave themselves open to embarrassment (or worse) by not knowing the real costs and benefits their CEOs are receiving. In this regard, John Olson, senior partner at Gibson, Dunn & Crutcher, gave a memorable speech, "The Board Presentation," at TheCorporateCounsel.net's conference "Implementing the SEC's New Executive Compensation Disclosures: What You Need to Do Now" regarding the need for compensation committees and boards to revisit the perks and personal benefits provided to management. Media and investors -- including institutional investors -- will be scrutinizing these disclosures under the revised SEC rules. He urged companies and their counsel to start fresh this year and closely examine all benefits for the purpose they serve and the benefits the company derives from providing those perks to management. A question we received from in-house counsel during the Q&A following the March webcast on "What the Top Compensation Consultants are NOW Telling Compensation Committees" says it all.  Essentially the question boiled down to: "What perks do we actually have to disclose to our compensation committee?" The answer is that directors should be demanding a full, detailed description of each and every benefit provided to the CEO (and each NEO).  It is troublesome that management (and counsel) are still screening this essential information so that directors are not being provided the fullest disclosure - and that directors do not appear to be asking the tough questions to ferret out the full cost to the company of providing personal benefits to executives.

    SEC Corp Fin Director John White gave a speech, entitled "Principles Matter," in which he expressed the view that companies should use a principles-based approach in connection with their perquisite disclosure as well as the CD&A. In this speech, he illustrated his point by offering numerous examples of ways that companies could view personal use of corporate aircraft in determining the aggregate incremental cost to the company and how a principles-based approach may assist them in this analysis.

    All of this is borne out by the strong language from former SEC Corp Fin Director Alan Beller at our 10/20/04 conference:

    "We also fear that some companies are being overly creative when categorizing other items. I'd suggest that a perk, by any other name, is still a perk, and therefore must be considered for disclosure. When companies review their disclosure, they should give serious consideration to items that have previously been called business expenses (e.g. housing, security systems, cars etc.) but actually are perks. I don't think it is very difficult to determine whether or not something is a perk. One question to ask that is not dispositive but may be useful is whether it is an expense that is available to employees generally on a non-discretionary basis, like reimbursement for the taxi across town for a meeting, or whether it is a benefit for which only a chosen few are eligible (or selected on a discretionary basis).

    The valuation of perks also should be carefully examined. We have seen disclosure of large tax gross ups for perks that are themselves not disclosed, and this obviously raises questions. I also remind you that the appropriate measure of value is the aggregate incremental cost to the company, not the tax value of the benefit."

  4. Policy to Not Provide Perks

    With executives getting so much compensation already, disclosing lavish perks is a sure way to alienate employees and outrage shareholders.  A better approach, which more counsel and advisors should be advocating to their clients, is not to provide executive perks at all. The following quotation from this year's proxy statement filed by Intel should become the norm, not the exception:

    Personal Benefits

    Intel seeks to maintain an egalitarian culture in its facilities and operations. Intel's officers are not entitled to operate under different standards than other employees. Intel does not provide its officers with reserved parking spaces or separate dining or other facilities, nor does Intel have programs for providing personal-benefit perquisites to officers, such as permanent lodging or defraying the cost of personal entertainment or family travel. Intel's office-building layouts are cubicle-based for all employees, including officers. Company-provided air travel for Intel's officers is for business purposes only: Intel's company-owned aircraft each hold approximately 40 passengers and are used in regularly scheduled shuttle routes between Intel's major U.S. facility locations, and Intel's use of non-commercial aircraft on a time-share or rental basis is limited to appropriate business-only travel. Intel's health care, insurance and other welfare and employee-benefit programs are the same for all eligible employees, including Intel's officers. Intel's loan programs, although modest in nature, are not available to Intel's executive officers. Intel has no outstanding loans of any kind to any of its executive officers, and since 2002, federal law has prohibited Intel from making any new loans to its executive officers. Intel expects its officers to be role models under its Corporate Business Principles, which are applicable to all employees, and Intel's officers are not entitled to operate under lesser standards.

    And other companies are acting to rein in perks: Mark Borges noted in his blog that Molex's 2006 proxy statement disclosed that the compensation committee had recently adopted a perquisite pre-approval policy. Under this policy, certain (unspecified) perquisites and maximum amounts for such perquisites have been pre-approved by the compensation committee. And, the committee must separately approve any perks not specifically included in the policy or amounts that exceed the maximum amounts in the policy.
     

  5. Costs of Executive Security on the Rise - from Mark Borges' Blog (9/1/06)

    While, as a general matter, I still think that personal use of corporate aircraft is the most expensive executive perquisite, some recent disclosures about executive security services have revealed how costly those arrangements can be. In its recent proxy statement, Oracle discloses that it spent $1.8 million in its last fiscal year for a home security system for its chief executive officer. (It's interesting to note that Oracle indicates that it paid $1.3 million for these services in fiscal 2005, although last year's proxy statement gives a different figure for that year - $922,845. The company doesn't explain the discrepancy. Also, the amount in this year's All Other Compensation column has been increased by a similar amount from last year's total.)

    A Dow Jones newswire article dated today highlights Oracle's disclosure , as well as that of two other prominent companies with large security-related costs - Limited Brands ($1,325,000) and Dell ($991000) (see "Watchdog Calls Executive Pay for Security a Wasteful Perk" (registration required)). While the amounts involved are surprising, the article cites a security consultant who says that it isn't unusual to run up a large bill when dealing with a corporate client and a large residential estate.

    As you know, the SEC's Adopting Release specifically addresses executive security in its perquisites discussion and states that a company's decision to provide an item of personal benefit for security purposes does not affect its characterization as a perquisite (page 76). Thus, security at a personal residence would generally be considered a disclosable perk. I expect that we may very well get a more complete picture of these arrangements at other companies when next year's proxy statement start to roll in.
     

  6. Essential Practice Tips: "Dealing with the Complexities of Perks"

    Below are tips from our Conference, "Implementing the SEC's New Executive Compensation Disclosures: What You Need to Do Now!":

    By Alan Dye, Hogan & Hartson and Mark Borges, Mercer Human Resources Consulting

    1. Identify all benefits that might be considered perks. The Commission has taken a broad view of what constitutes a perquisite. Companies should apply the Commission's guidance to determine what benefits, if any, are provided to directors or executive officers that might be considered perks. 

      2. The value of any perks identified, if they exceed $10,000 in the aggregate, will need to be taken into account in determining which executive officers will be NEOs, and will be disclosable in the Summary Compensation Table (or the Director Compensation Table).
       

    2. Establish disclosure controls and procedures to track perk usage. The value of a perk is based on the aggregate incremental cost to the company of providing the perk.  For non-cash perks that involve personal use of company assets (e.g., aircraft, automobiles, or tickets to entertainment events), calculating the cost of personal use will require tracking the extent of personal use and the cost associated with that use. Companies should develop procedures for tracking personal use, and incorporate those procedures into the company's disclosure controls and procedures.
       
    3. Revise the D&O questionnaire to elicit information about perks. The annual D&O questionnaire should be updated to elicit information about possible perks.  The questionnaire should provide examples of what might constitute a perk, to trigger recollection of infrequently provided benefits that might constitute perks and that sometimes are difficult to track through internal controls (spouse's travel to company-sponsored event, director's use of stadium skybox).
       
    4. Develop a methodology for calculating the aggregate incremental cost of perks.  Determining the aggregate incremental cost to the company of non-cash perks may require difficult calculations and/or judgments about the allocation of costs between the company and the recipient of the benefit. Determining the cost of personal use of corporate aircraft or company-owned cars, for example, may involve calculation of the cost of a particular trip as well as allocation of the fixed costs of ownership of the aircraft or car.

      5. Companies will need to develop a methodology in order to value perks for purposes of the compensation tables.  The methodology should be reasonable, since it will have to be explained in the proxy statement (in plain English) if the perk to which it relates has to be separately quantified in a footnote.  
       

    5. Don’t forget the foregone income tax deduction when computing the aggregate incremental cost of the personal use of corporate aircraft. Internal Code Section 274(e) limits the deductibility of expenses associated with the personal use of corporate aircraft to the amount recognized as income by the corporate executive using the aircraft. Since the aggregate incremental cost of an executive perquisite may need to encompass the indirect, as well as the direct, costs to the company of the perquisite or personal benefit, any foregone tax deduction may need to be factored into the cost calculation.
       
    6. Remember that the identification and quantification requirements for perquisites only apply to the most recent fiscal year covered in the Summary Compensation Table.  While this won’t be an issue with respect to the first year under the new disclosure rules, be aware that companies only have to describe each perquisite or quantify perquisites that exceed the greater of $25,000 or 10% of an individual named executive officer’s total perquisites for the most recent fiscal year covered in the Summary Compensation Table. This will help save space when preparing the SCT in 2008 and thereafter and providing the necessary supplemental disclosure to the All Other Compensation column.
       
    7. Club memberships that are not used exclusively for business purposes will be a disclosable as a perquisite even though the company may not incur an incremental cost for such use. The Adopting Release indicates that club memberships that are not used exclusively for business purposes will be a disclosable perquisite. In most cases, companies may opt to pro rate the cost of the membership between business and personal use for disclosure purposes. Even where there is no incremental cost to the company of such personal use, the membership will be disclosable as a perquisite if the $10,000 minimum disclosure threshold is reached. Instruction 4 to Item 402(c)(2)(ix) states that once the $10,000 disclosure threshold is reached or exceeded each perquisite, regardless of amount, must be identified by type in a footnote to the All Other Compensation column.
       
  7. List of Potential Perks
     
  8. Perk Practices

    Companies with 'No Perks' Policies
     
    Companies with Limited Perks
     
  9. Good Disclosure Examples
  10. Law Firm Memos
  11. Practice Pointers
  12. Disclosure of Corporate Aircraft Use—2005 Proxy Season Update (excerpted from the May-June 2005 issue of The Corporate Counsel)

  13. Media Articles
  14. Video Webcast Panel: What Now Needs to Be Disclosed in the Proxy Statement
          (2004 Compensation Conference)   (2005 Compensation Conference)
    • How to meet the SEC's expectations for more detail and specificity in compensation disclosures and in the compensation committee report, including specific suggestions and examples
    • How compensation committee members should review and approve detailed disclosures and representations about a CEO/NEO's:
      – perks, reimbursed expenses and loans – including any forgiveness of loans;
      – deferred compensation plans annual interest income and accumulated total amount;
      – SERPs and other retirement benefits;
      – severance and change in control arrangements; and
      – tally of total compensation
    • Why the compensation committee report should include a statement that all compensation arrangements were reviewed and tallied up and deemed not excessive – including model language
    • What compensation contracts and arrangements need to be filed with the SEC – when, where and how
    • What a compensation committee member's signature on the report means for liability purposes
       
  15. Airplane Use Practice Area
     
  16. Director Perks Practice Area

     
 

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