– Broc Romanek, CompensationStandards.com

Based on a number of requests from members, we have posted a “Quick Survey on Clawback Policies.” It’s anonymous and just takes a few seconds to complete. Once you participate, you will see a link with running results.

And while you’re at it, please participate in this “Quick Survey on Disclosure Controls and Disclosure Committees.”

– Andy Mandel and Larry Schumer, Buck Consultants

Late last year, the SEC issued final rules that require companies to provide narrative disclosures in their proxy filings of their compensation policies and practices that create risks that are “reasonably likely to have a material adverse effect” on the company. These rules were generally effective for proxy filings occurring on or after February 28, 2010 and apply to all compensation arrangements that could result in material adverse risk — not just those covering senior executives of the company. The rules do not require affirmative disclosure in cases where it is determined that a company’s compensation policies and practices do not rise to the “reasonably likely” level.

Recently, we researched proxy filings of over 200 S&P 400 non-financial companies that filed their proxy statements on or after February 28, 2010 for the purpose of examining how companies addressed the SEC’s compensation risk disclosure. Our study concludes that there is very little consistency among companies’ disclosure practices involving compensation risk assessments.

The SEC’s risk disclosure requirement was intended to provide meaningful information for investors to evaluate how compensation programs affect risk taking. Because the assessment of risks as they relate to compensation practices and policies is a complex and subjective area and guidance has been limited, many believed that there would be a great deal of uncertainty during the 2010 proxy filing season. Our study affirms this belief and raises two key questions:

– If companies do not apply a consistent approach towards risk assessment and disclosures, can investors truly benefit from the SEC’s requirement to provide narrative disclosures where compensation practices and policies create risks that are reasonably likely to have a material adverse effect?

– Is the lack of overall consistency within proxy disclosures creating confusion and thus achieving the opposite effect of what had been intended by the SEC?

Some of the key findings of the study include:

– Although affirmative statements are not required where the “reasonably likely” threshold is not met, most companies (67 percent) included some discussion of risk assessment within their proxies.
– Of those companies, 63 percent provided an affirmative statement that there were no risks that would rise to the level of “material adverse effect.”
– Not surprisingly, no company indicated that they uncovered material adverse risks within their compensation programs.
– Very few companies described the process they used to determine that there were no material adverse risks. Rather, the disclosures emphasized how plan design elements have served to mitigate risk. Most companies (58 percent) indicated a balance of short-term and long-term incentive structures as a risk mitigation element.
– Although the majority of companies (60 percent) identified a specific employee group covered by their risk assessment, the composition of the employee groups varied widely. Only 27 percent covered all employee groups (as opposed to only executives) and 40 percent of the companies that performed a risk assessment did not identify a specific group.
– Corporate boards and their compensation committees have almost universally left day-to-day risk management in the hands of management while maintaining an oversight role.

SEC’s Response to Disclosures

The SEC has begun to question whether companies have truly established risk assessment policies and procedures that would allow for a conclusion that there are no arrangements in place that would be “reasonably likely to have a material adverse effect” on the company. The SEC has been sending out letters to companies requesting confirmation for how they drew this conclusion. While the letters have generally been targeted at companies whose proxy disclosures were silent about compensation risk, some companies have received letters even though they included a statement in the proxy about their conclusion but did not describe the risk assessment process. Certain public comments by SEC staff are revealing – e.g.,” Where there was no disclosure, did it mean the company went through an analysis or that they were not paying attention?”

The Bottom Line

As compensation risk assessment continues to evolve, both conceptually and procedurally, one could surmise that disclosures involving risk assessment (versus nondisclosure) will emerge as a “best practice.” A reasonable disclosure would be one that clearly conveys that: (i) a comprehensive risk-assessment was performed covering, not just plan design, but internal processes as well and (ii) the assessment was not just focused on plans covering executives but also covered all compensation plans covering employees throughout the organization.

Further, in light of the Dodd-Frank Act, compensation committees will be required to take a closer look at all of their policies, charters, guidelines, and procedures which includes standards associated with assessment of risk within the company’s compensation plans. While compensation committees will still maintain an oversight role, there will be more of a need for committees to fully understand the rigor with which management has conducted a risk assessment and drawn its conclusions.

– Melissa Burek, Margaret Engel and Kelly Malafis , Compensation Advisory Partners

In this survey, we present the findings of our review of 2010 proxy disclosures from a sample of Fortune 500 companies. The study includes 85 companies, representing seven industry groups. Here are some highlights from our findings:

– 75 companies or 88% make some type of affirmative disclosure related to their assessment of risk in the compensation program.

– Of the 10 companies that did not address compensation risk in their proxy statements, 5 or 50% filed their proxy statements prior to the publication of the SEC’s final disclosure rules in December 2009.

– 71% of the companies that make risk-related disclosures indicate that a formal risk review was conducted and comment on their assessment.

– Reflecting broad market trends, a significant majority of our research companies–68 of 85 companies or 80%–maintain some form of clawback provision.

– A financial restatement is required in nearly all cases. Further, 48 companies (71% of those with a clawback) disclose that fraud or misconduct are triggering events. Twelve companies (18%) disclose a non-compete/non-solicitation/confidentiality violation as a trigger, and three include improper ‘risk analysis’ as a trigger.

– The majority of companies have stock ownership guidelines for their executives, typically expressed as a multiple of salary. While less common, many companies also have stock holding requirements where executives must hold a percentage of net shares from stock option exercises or vesting of restricted shares for a period of time. Within our sample, 17 companies, or 20% made changes to their stock ownership requirements.

– Howard Dicker and Rebecca Grapsas, Weil Gotshal

On September 9th, the SEC approved an amendment to NYSE Rule 452 that prohibits any member broker from voting on an executive compensation matter without customer instructions. This amendment, which is immediately effective, implements Section 957 of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

The new prohibition on broker discretionary voting will extend not only to the “say-on-pay” and other executive compensation votes added by Section 951 of the Dodd-Frank Act, but also to any kind of executive compensation matter that is the subject of a shareholder vote. It will affect all member brokers voting shares of companies listed on the NYSE, Nasdaq or other national securities exchange, or not listed at all. The same voting practices are likely to be followed by bank custodians, consistent with current practices.

The amendment to NYSE Rule 452 and related changes to the NYSE Listed Company Manual Section 402.08 add any matter that “relates to executive compensation” to the list of matters on which member brokers may not give or authorize a proxy to vote customer shares without instructions from beneficial owners. According to the commentary, a matter “relating to executive compensation” includes – but is not limited to – the three advisory votes required by Section 951 of the Dodd-Frank Act (i.e., “say-on-pay,” “say-when-on-pay,” and advisory votes on “golden parachutes”).

As noted above, Rule 452 as amended eliminates broker discretionary voting on any kind of executive compensation matter that is the subject of a shareholder vote. This could include, for example, cash-based incentive plans for executive officers (irrespective of the impact on average annual income), executive officer performance measures and other executive compensation matters that may be presented to shareholders in accordance with stock exchange rules and/or Section 162(m) of the Internal Revenue Code.

Under Section 957 of the Dodd-Frank Act, the SEC is authorized to determine by rule any other “significant matters,” beyond executive compensation, as to which national securities exchanges must prohibit broker discretionary voting. The SEC has not to date identified any such other “significant matters.”

– Broc Romanek, CompensationStandards.com

I pulled the following from this press release from Carter Ledyard, the law firm which won this case:

On September 30, 2010, in an important case of first impression, the United States Court of Appeals for the Second Circuit held that public companies may not indemnify their CEOs or CFOs from liability under Section 304 of the Sarbanes Oxley Act, which mandates that if a public company is required to restate its financial reports as a result of misconduct, the CEO and CFO must reimburse the company for any bonuses, incentive compensation, or trading profits that they earned during that period.

The Second Circuit held that Section 304, whose purpose is to prevent CEOs and CFOs from profiting by misleading investors and regulators about the financial health of their companies, does not provide a private cause of action and may only be enforced or waived by the SEC. Allowing a public company to indemnify and release its officers and directors from liability under Section 304 would nullify the SEC’s authority to pursue the Section 304 remedy or to grant exemptions from the statute.

The case before the Second Circuit, In re: DHB Industries, Inc. Derivative Litigation, Docket No. 08-3860-cv (2d Cir. Sept. 30, 2010), was an appeal from the approval by the United States District Court for the Eastern District of New York of a settlement of derivative lawsuits brought on behalf of shareholders of a public company formerly known as DHB (now Point Blank Solutions, Inc.) against former CEO David H. Brooks, former CFO Dawn Schlegel, and other former officers and directors of the company. One of the key provision of the settlement was that DHB would indemnify Brooks and Schlegel from any liability under Section 304 of the Sarbanes Oxley Act.

On September 14, 2010, Brooks and former COO Sandra Hatfield were convicted on 31 criminal charges stemming from their participation in a conspiracy involving massive securities fraud and theft of company assets. Schlegel had earlier pled guilty to having participated in this conspiracy. The SEC currently has actions pending against Brooks, Schlegel and Hatfield in the Southern District of Florida, in which it seeks disgorgement of $186 million under Section 304. The effect of today’s ruling by the Second Circuit is that DHB, which is currently undergoing bankruptcy proceedings in the United States Bankruptcy Court for the District of Delaware, In re Point Blank Solutions, Inc., Case No. 10-11255-PWJ, is no longer bound by the terms of the settlement to reimburse its officers and directors for their liability under Section 304, and is instead eligible to recoup those funds itself if the SEC’s pending actions are successful.

– Broc Romanek, CompensationStandards.com

I just posted the Fall 2010 issue of the Compensation Standards newsletter, in which Mark Borges provides ten timely tips for preparing say-on-pay disclosure.

Note that we are making a big change for 2011 – we are moving the online version of “Lynn, Borges & Romanek’s Executive Compensation Disclosure Treatise & Reporting Guide” onto this site from CompensationDisclosure.com. So that when you renew for 2011 – remember that all memberships expire at the end of the year – you gain immediate access to it. And the 2011 version of the Treatise will be posted within the next few weeks; the 2010 Treatise is posted now for renewers.

In addition, Mark and Dave will be writing more content for the quarterly issues of Compensation Standards newsletter, as that newsletter will now include the content that would have otherwise gone into the now-merged “Proxy Disclosure Updates.” Drop our HQ an email if you have questions how this will work going forward at info@compensationstandards.com. Renew your CompensationStandards.com membership today.

– Broc Romanek, CompensationStandards.com

Yesterday, the Boston Globe ran this breathless story at the top of page one. I went into it expecting an analysis about the judgment calls we all make in drafting compensation disclosure and thought there might be journalistic oversimplification as typically happens in the mass media. Some might say that pay disclosure is not necessarily a science, but an art.

However, one has to concede that math is still a science – and the Globe’s research certainly raises eyebrows about how seriously some companies are taking their pay disclosures. The Globe looked at about 210 local company proxy statements, adding up the columns in the summary compensation tables. It turns out that 55 times – at 34 companies – the totals of the columns did not match the number the company reported in the “Total” column. Um, that’s over 15%.

At most of these companies, the Globe determined (or the company conceded) that it was some sort of math or clerical error – transposed numbers, extra digits, etc. In some cases, when the company updated the stock compensation numbers for the past years using the SEC’s new methodology, they just changed the column in the middle of the table but didn’t update the total. Truly, the devil is always in the details and I would urge companies to double-check their numbers this year as I imagine a lot of newspapers are going to be following the Globe’s lead and do the math themselves in their local areas. Thanks to Mike Andresino of Posternak for bringing the article to my attention!

– Broc Romanek, CompensationStandards.com

On Friday, the SEC listed the specific rulemakings that are planned for October in this schedule. As noted earlier, the schedule includes proposals for say-on-pay and say-on-golden parachutes, as well as disclosure of voting by institutional money managers on executive pay. Proposals regarding compensation committee/advisor independence; mine safety and disclosure relating to resource extraction issuers are not coming until November.

Among other planned rulemakings, October also includes a request for comment on a study regarding reducing the costs of smaller companies complying with Section 404 of Sarbanes-Oxley (ie. internal controls). The SEC will also establish five new Offices this month: Whistleblowers, Credit Ratings, Investor Advocate, Women and Minority Inclusion and Municipal Securities. Here is testimony before the Senate Banking Committee from SEC Chair Schapiro regarding how the rulemaking is proceeding.