As Mike Melbinger detailed in his blog yesterday, the FDIC and the Obama Administration have combined for a historic one-two punch that would have made Muhammad Ali blink to batter financial institutions doing business in the US. Here are Paul Hodgson’s thoughts on the FDIC’s actions.
But it’s not just the government acting against banks. As noted in this BusinessWeek article, Goldman Sachs has been sued by a shareholder – in Ken Brown v. Goldman Sachs, NY Supreme Ct (1/5/10) – over its bonus payouts. The bottom line is that citizens all over this country are extremely mad that things are tough for them but rosy for bailed out banks – and until boards and senior managers understand this, the consequences will continue to get worse. Just adopting a plan to give a percentage of earnings to charity won’t dent this anger.
I’m firmly in the camp that many of these regulatory responses don’t make sense – or may even make things worse. And I also have blogged that problems with executive pay practices are a different animal than issues related to paying bankers generally. But boards and senior managers of Wall Street firms need to understand the circumstances that they are living in. I still think they don’t “get it” – and it reminds me of Gilbert Arenas spending the day with enforcement authorities and the NBA and then later that night, playfully pretending to shoot his teammates. Gil was just fooling – but most basketball fans didn’t see it that way…
On Tuesday, after a sharply divided vote of 3-2, the FDIC Board voted to request public comment on whether compensation policies should be incorporated as a factor in the risk-based insurance premiums charged to insured depository institutions. The premise is that compensation systems that encourage excessively risky behavior pose a risk to the depository institution and its stakeholders, including the Deposit Insurance Fund, and the FDIC’s goal is to provide incentives for depository institutions to align employee and other stakeholders’ interests.
The FDIC joins a crowded field of regulators in this area. For example, the Federal Reserve announced in October 2009 a new regulatory framework intended to address risky incentive compensation practices at financial institutions. Additionally, just last month, the SEC finalized its rule to require all public companies to disclose more information about how they compensate their employees, including disclosure on how risks arising from a company’s compensation arrangements are reasonably likely to have a material adverse effect on the company.
The two FDIC Board members that opposed the proposal were the Comptroller of the Currency John Dugan and OTS acting director John Bowman. They voted against the proposal stating, among other things, that the FDIC is acting prematurely because other regulatory or legislative bodies, including the Federal Reserve and Congress, were looking to address banker compensation using different standards. The FDIC indicated that its proposal would not be inconsistent with other proposals being considered because it is meant to incentivize good behavior, such as good risk management practices, and not set limits on compensation.
While there is nothing in the rulemaking process that establishes a specific timeline for the final rule, there is speculation in the press that it will take the FDIC until the end of this year to put the final rule in place. Ultimately the timing will be up to the FDIC; however, issuing an advance notice of proposed rulemaking is an uncommon preliminary step available to the regulators which usually reflects an agency’s view that more information is necessary in order to issue a proposed rule. This indicates that the FDIC is not ready to issue a rule on this matter anytime soon.
As an example of how the criteria would be used in practice, the FDIC suggested that if a depository institution could attest that its compensation program contained the features below, it would pay a lower risk based assessment rate than a firm that could not make such an attestation. The compensation program features being considered are the following:
– A significant portion of compensation for employees, including senior managers, whose business activities present significant risk to the institution and who also receive a portion of their compensation based on performance goals, should be comprised of restricted, non-discounted company stock.
– Restricted, non-discounted company stock that becomes available to the employee at intervals over a period of years should be subject to a look-back mechanism (e.g., clawback). Additionally, the stock would initially be awarded at the closing price in effect on the day of the award.
– The compensation program should be administered by a committee of the Board composed of independent directors with input from independent compensation professionals.
Request for Comments
The FDIC has requested comment on all aspects of the proposal, including comments on the FDIC’s stated goals and the features of compensation programs that could meet such goals. For example, the FDIC invites comment on:
– Whether the size or types of activities of a depository institution should be taken into account in applying the criteria or whether compensation should be used as a criteria to decrease or increase deposit insurance fees across all types of institutions;
– How large of an adjustment to the initial risk-based assessment rate would be required to influence the practices of a depository institution;
Whether compensation systems of holding companies or affiliates should be considered as well; and
– Any other alternatives that would be effective in aligning the interests of employees with the firm’s stakeholders.
The release is subject to a 30-day comment period beginning upon its publication in the Federal Register. There are alternatives for the submission of comments in this advance notice of proposed rulemaking.
We have posted the transcript to the popular webcast: “The Latest Developments: Your Upcoming Compensation Disclosures – What You Need to Do Now!” As we do every year, we have updated our “SEC Rules” Practice Area – including posting these memos & checklists that raise considerations for this proxy season.
We have also posted a new sample D&O questionnaire – anonymously donated by a NYSE company member – updated for the new rules in our ” “D&O Questionnaires” Practice Area. To make sure you haven’t missed anything, you will still want to review the sample model D&O items that Dave Lynn and Mark Borges wrote as part of the Winter 2010 issue of “Proxy Disclosure Updates.”
As noted in this WSJ article from yesterday, a number of companies are moving away from using advisors from the larger multiservice consultants in the boardroom for advice on executive pay packages. This has been spurred by the SEC’s new disclosure requirements about conflicts (although some of these new requirements are still a little ambiguous), possible Congressional action in this area and pressure from some shareholders.
Over the past few years, key compensation consultants have left these larger consulting firms to form their own small shops. The most recent is Ira Kay, who has left the newly combined Towers Watson. It may be a matter of time before the Mercers and Towers Watsons of the world stick to general HR consultancy (ie. actuarial and other non-exec comp services) and don’t handle the much smaller practice of executive compensation consulting.
If your company is struggling with what to do in this area and is trying to decide whether to go with an “independent” consultant, please let me know and I will keep it confidential. I know other companies in the same situation who want to confer with like-situated companies.
As was recently written in The Corporate Library Blog, the spread of clawback policies is progressing at a snail’s pace, according to our new report. While the number of companies with such policies has increased slightly over the past two years, the overall level of adoption remains low for all the indices studied.
For example, the incidence of clawback provisions in the S&P 500 rose by just over three percentage points. Forty-four companies had clawback policies in 2008, compared to 66 in 2009.
We’ve been collecting data for our annual ownership guidelines report and we found a number of interesting trends. One such trend was the significant jump in the number of hardship provisions disclosed. Recently, we released a short article in our Executive Compensation Trends newsletter titled “Decline in Equity Values have more Companies Disclosing Hardship Provisions” and found:
– 82.1% of Fortune 250 companies disclosed that they have ownership guidelines.
– 32 companies stated that they had executives that did not achieve the required ownership level, which is the same amount of companies as the previous year.
– Since ownership guidelines are typically tied to a requirement to hold a certain value in shares, many executives had equity values that were pinched in the declining market. Rather than having to comply immediately with the ownership guidelines, many companies triggered hardship provisions. In fact, there was a significant jump of nearly 75% year-over-year in companies disclosing hardship provisions. These provisions typically allow for more time or amended ownership requirements in order to meet those guidelines.
I recently posted the latest annual update of Alan Kailer’s chapter regarding preparation of the executive compensation tables.
Renew Today: Since all memberships are on a calendar-year basis and expired at the end of December, if you don’t renew today, you will be unable to access this webcast. Renew now for ’10! [Here is our “Renewal Center” to better enable you to renew all your expired memberships and subscriptions.]
Don’t forget yesterday’s TheCorporateCounsel.net webcast – “How to Implement the SEC’s New Rules for This Proxy Season” – during which Marty Dunn, Amy Goodman, Ning Chiu, Howard Dicker and Dave Lynn provided practical guidance on how to handle the new SEC rules that don’t deal with compensation issues. The audio archive is already up.
In response to the SEC’s new proxy disclosure requirements, Dave Lynn and Mark Borges have just finished sample model questions for your D&O questionnaire (and much more analysis) as part of the Winter 2010 issue of “Proxy Disclosure Updates.” Here is a blurred copy of that 20-page issue to give you a sense of it.
You will receive a full copy of this issue, which is posted on CompensationDisclosure.com, immediately upon taking advantage of a no-risk trial to Lynn, Borges & Romanek’s “Executive Compensation Service” for 2010 (which includes the just-mailed 2010 version of Lynn, Borges & Romanek’s “Executive Compensation Disclosure Treatise and Reporting Guide”).
Compensation consultant Frederic W. Cook & Co. just published a study of recent changes in change in control agreements. The study focuses on the practices of the 125 largest public companies. Frederic Cook found that, of the companies that use change in control agreements, 57% made changes in the past three years, including a number of changes that make the agreements less “executive-friendly”. The changes included the following:
– Many of the companies modified their excise tax gross-ups – the commitment to reimburse the executive for excise taxes payable as a result of excessive change in control payments. Eleven percent of the companies eliminated the gross-ups entirely. Another eight percent modified their gross-ups, moving to a modified gross-up formula instead of a full gross-up.
– Nine percent moved from single-trigger vesting of equity awards upon a change in control to double-trigger vesting.
– Nine percent modified their severance multiples. In many cases, the multiples for top officers were changed from 3X to 2X.
The Cook study also describes numerous other changes:
– It points out that the first two provisions described above (tax gross-ups and single-trigger vesting) are considered “poor pay practices” under the standards of RiskMetrics Group. If these provisions are contained in new or materially amended agreements, RiskMetrics may recommend to shareholders that they vote against compensation committee members at the next annual meeting. This factor may have resulted in pressure on compensation committees to change these provisions in their change in control agreements.
– It points out that some of the legislation being considered in Congress would not only require “say on pay” but would also require “say on severance” – an annual non-binding shareholder vote to approve golden parachutes. The study predicts continuing changes in change in control agreements.
As we emerge from the holiday period, I thought it might be worth pointing out this new study from Professor Wells – entitled “No Man Can Be Worth $1,000,000 A Year:The Fight Over Executive Compensation in 1930s America” – that claims that the furor over CEO comp has actually been going on since the 1930s.
The furor may have been going on since then, but the circumstances have dramatically changed. For example, on page 23 of Well’s study, he states that large compensation was not the norm; they were the outliers back then. I would argue that’s not the case for the past 10-15 yrs,at least for large companies. Still,the study makes interesting reading…