The Advisors' Blog

– Broc Romanek

Recently, State Street issued these guidelines about mitigating reputational risk in C-Suite pay. We have posted them among other investor guidelines about pay in our “Investor Voting Policies” Practice Area…

Also see this article from the CEO & Head of Governance at State Street about changing board practices & culture to meet investor expectations…

– Broc Romanek

Anecdotally, I am hearing that some companies haven’t been doing much yet to prepare for the implementation of the SEC’s pay ratio rules. That’s not surprising given how busy people are – and that the implementation date seems so far away. As this Mercer spot survey notes, advance planning is key – and now is the time to start preparing.

Here are some key findings from the survey:

– Companies are making significant progress toward compliance. Three-quarters of respondents have already determined a method to identify the median employee or are considering one or more methods.

– A majority (60%) of respondents have estimated their ratio, with more than half reporting ratios under 200:1 and only 20% reporting ratios of more than 400:1.

– Ratios vary by industry. Industries with low ratios tend to have more professional staff, and those with high ratios have more part-time, temporary, and less-skilled employees. Sectors with the lowest ratios are in banking/financial services, technology, and nonfinancial services. The highest ratios are in retail/wholesale and consumer goods.

– About one-third of respondents are using or considering statistical sampling as a method to identify the median employee.

– Over 80% of respondents believe their data systems are ready or, with some manual effort, adequate to identify the median employee.

Note that compensation consultants are starting to roll out new memos on how to best prepare – including these ones from Deloitte Consulting & Willis Towers Watson posted in our “Pay Ratio” Practice Area…

Our Executive Pay Conferences: Only 3 Weeks Left! Here’s the registration information for our popular conferences – “Tackling Your 2017 Compensation Disclosures: Proxy Disclosure Conference” & “Say-on-Pay Workshop: 13th Annual Executive Compensation Conference” – to be held October 24-25th in Houston and via Live Nationwide Video Webcast. Here are the agendas – 20 panels over two days.

Register Now: Huge changes are afoot for executive compensation practices with pay ratio disclosures on the horizon. We are doing our part to help you address all these changes – and avoid costly pitfalls – by offering a reasonable rate to help you attend these critical conferences (both of the Conferences are bundled together with a single price). So register now.

– Broc Romanek

As noted in this Compensia memo, the House approved a bill – the ‘Empowering Employees Empowering through Stock Ownership Act’ (HR 5719) – last week that would enable employees of certain privately-held companies to defer the income tax liability associated with the exercise of their stock options and the vesting of their restricted stock unit awards prior to an IPO. A similar bill has been introduced in the Senate, but has yet to be reported out of committee…

As noted in this Willis Towers Watson blog, on a mostly symbolic party-line vote, the House Financial Services Committee recently approved legislation (H.R. 5983) that would repeal the Dodd-Frank CEO pay ratio disclosure rule and make changes in a number of other Dodd-Frank requirements…

– Broc Romanek

As noted in this NY Times article, MarketWatch article and Reuters article, CEO John Stumpf and the (now former) head of community banking for Wells Fargo have agreed to forfeit unvested equity awards to the tune of $41 million and $19 million, respectively (the CEO also agreed to forego bonuses for this year, nor draw any salary while an internal investigation is ongoing). These actions by the board more than effectuate what the company’s clawback policy would have otherwise required. The look of clawbacks going forward, perhaps? Here’s the related Form 8-K that Wells Fargo filed yesterday.

Here’s five notable items:

– The board was able to impose an “unvested equity” clawback that was much easier than clawing back dollars/stock that had already been delivered into the executive’s hands.
– Avoids possible need for the executive to amend past tax returns & file for a credit under Code Section 1341 (which Mike Melbinger has discussed in a few blogs).
– Necessary PR move, as the board was under a lot of pressure to show responsiveness. This came at little immediate cost to the company or the CEO (merely cancelling unvested equity awards for Stumpf). In theory, these forfeited awards could be made up in the future.
– We’ll see whether this situation leads to a restatement for the company. So far, news reports suggest it’s immaterial to the company’s financials. “Restatement” is such a subjective term as the numbers of “formal” restatements – those deemed material enough for an Item 4.02 8-K – are way, way down. In comparison, revision restatements (stealth?) are over 70% of all restatements now.
– Maybe a good lesson for drafting future clawback policies: don’t provide for a clawback triggered only upon a restatement…

Our Executive Pay Conferences: Only 3 Weeks Left! Clawbacks will be tackled during our upcoming “Tackling Your 2017 Compensation Disclosures: Proxy Disclosure Conference” & “Say-on-Pay Workshop: 13th Annual Executive Compensation Conference” to be held October 24-25th in Houston and via Live Nationwide Video Webcast. Here are the agendas – 20 panels over two days.

Register Now: Huge changes are afoot for executive compensation practices with pay ratio disclosures on the horizon. We are doing our part to help you address all these changes – and avoid costly pitfalls – by offering a reasonable rate to help you attend these critical conferences (both of the Conferences are bundled together with a single price). So register now.

– Broc Romanek

This column from LA Times Michael Hiltzik about the Wells Fargo scandal is quite powerful & raises some good points. This Reuters piece says that the company’s board was successful in getting a voluntary clawback from the CEO to the tune of $41 million in unvested equity. It will be interesting to see if institutional investors give the directors here a pass – or does this rise to the Enron level? Here’s an excerpt from the LA Times column:

But symbolism cuts both ways, positively and negatively. Stumpf’s management, or lack of it, gives the lie to Wells Fargo’s facile “vision and values” statement, which states (next to a photo of Stumpf that could have been taken directly from a Brooks Bros. catalog page), “Everything we do is built on trust….It’s earned relationship by relationship.” No one takes such blather seriously, but seldom is it undermined as vividly by corporate behavior as it is at Wells Fargo.

In any event, more than symbolism is at issue. Wells Fargo’s share price fell by as much as 10% after the settlement; as of Monday, it’s still down 8%. That’s a cost to shareholders. The $185-million settlement will also come out of their pockets, not senior executives’. The questions sure to be raised by regulators about whether Wells Fargo has become too big to manage will be a further threat, as will the prospect of further civil actions or even criminal prosecution.

Warren’s question about clawing back Tolstedt’s pay is apt, but it doesn’t go far enough. The clawback provision appearing in the company’s proxy statement applies to “improper or grossly negligent failure, including in a supervisory capacity, to identify, escalate, monitor or manage… risks material to the Company.” How could that not apply to the chairman and CEO on whose watch the very reputation of the company was shattered, opening it up to perhaps billions of dollars in civil judgments and redoubled scrutiny by banking regulators? Stumpf received more than $100 million in compensation in 2011-15, which would make for a good start in covering the company’s penalties.

That brings us to the other players in this tragic drama: the Wells Fargo Board of Directors. The firm’s proxy statement brims with testimonials to how the directors’ “leadership and management experience” enhances Wells’ performance. But the only skill they really seem to exhibit is the ability (to quote George Orwell) to hold onto their board seats as if with “prehensile bottoms.”

Some have served since the 1990s, and one for nearly a quarter-century. That suggests that cobwebs have been growing in the board suite for years. The board cost Wells Fargo $20.8 million in compensation during the five years of scandal, each member collecting an average of nearly $300,000 a year. What Wells Fargo’s shareholders got for this money was scandal and a $185-million bill.

– Broc Romanek

Here’s an excerpt from this Bloomberg article:

The lender’s turmoil over fake accounts, fees that shouldn’t have been charged and thousands of firings comes at a bad time. It created an awkward backdrop for House Republicans this week, as some of them hyped a bill that would repeal much of the Dodd-Frank Act. Wells Fargo’s settlement with regulators also emerged just as banks are arguing that a proposed pay rule meant to rein in excessively risky behavior went way too far.

Facing allegations that demanding sales targets incentivized employees to break the law, Wells Fargo’s conduct in many ways underscores exactly what the Federal Reserve and other agencies were trying to tackle in April when they issued their proposal on Wall Street compensation. In addition to forcing executives to wait longer before they can spend their bonuses, it says big banks would have as long as seven years to take back pay from employees tied to major misconduct or enforcement actions, even if the bonus is already vested or the person no longer works for the firm.

– Broc Romanek

Here’s a rebuttal from a member to the blog that I excerpted from on Friday: About this new study about how to calculate “total compensation” for purposes of the Summary Compensation Table, not only are the authors misstating what goes into the SCT – but that even is of little consequence to their analysis. The grant date value of awards issued during the year (not vested) are reported in the Summary Compensation Table. What these these authors are saying is realized compensation (W-2 pay) is far more valuable than SCT pay:

– For example, they reference data from 2014, which indicated S&P 500 company CEOs’ SCT pay averaged $19.3 million, while average realized compensation was $34.3 million.

– The authors conclude that pay is seriously underreported – and the SEC is aiding and abetting this understatement.

The problem with the paper’s analysis is that realized equity gains are based on awards granted several years ago – and comparing gains realized in the current year to awards granted during the year is largely irrelevant & very misleading (to quote Mark Twain: “there are lies, damn lies and then there are statistics”):

– A careful statistician would have examined the grant date value of the specific awards from prior years and compared it to the actual value of the award; in that way, they would be truly matching grant date and realized values of the same award.

– A likely distortion in their analysis is gains realized in the current year might include several years of prior awards (for example 2-3 years of stock options exercised in a single year), thus one year’s pay reported in the SCT is being compared to multiple years’ awards reported in the gain realized table.

– Stock price performance could have soared since the awards were granted, thus realized values are far more valuable than anticipated ( as are shareholders’ gains); why do the authors believe this is a bad outcome?

– Executives who hold onto stock options until expiration (rather than exercise at vest) are likely to report the largest realized gains; arguably, the gains realized after vesting are investment rather than compensation decisions, and should not be included in the authors’ analysis of grant date versus realized pay.

The SEC’s proposing release on pay-for-performance includes a table that attempts to address the lack of disclosure of realized pay, as equity awards will be reported as they vest – but this wouldn’t completely address the authors’ concerns as they are using the value of options when exercised, not when vested.

– Broc Romanek

Here’s the intro from this blog entitled “How the SEC Enabled the Gross Under-Reporting of CEO Pay” by “truthout”:

Think it’s scandalous that the average 2014 pay of the CEOs of the 500 biggest companies was 373 times that of the typical worker, as the AFL-CIO reported? You aren’t scandalized enough. Their take home pay, which is reported in the bowels of SEC filings, as opposed to the Summary Compensation Table that the AFL-CIO, along with most analysts and reporters rely on, was a stunning 949 times that of the average worker in 2014.

How did this massive disparity come about, and why is the SEC on the side of such gross understatement?

An important new paper by William Lazonick and Matt Hopkins, which is recapped in detail in The Atlantic, explains this gaping disparity. The culprit is the differences in the approach used to measure stock-related compensation, which is the bulk of top executive pay.

– Broc Romanek

Recently, a member posted this query in our “Q&A Forum” (#1145):

What are the disclosure implications of a company using the anointed, “independent” consultant of the compensation committee to help the company on pay ratio compliance? This question is getting at the implications for comp advisor independence when serving in this capacity for the company.

We advised that this would be a task that the consultant would be performing for management rather than the committee, and it would need to be treated that way (considered by the committee in determining independence and potentially disclosed). The consultant purportedly felt strongly to the contrary.

Two responses were posted. Here’s the one from Mark Borges:

One of the issues that companies appear to be struggling with involves this question what I’ll call “verifiability.” That is, does a company need to have its pay ratio number checked or verified and, if so, by whom.

Typically, the question comes up in the context of whether a company’s auditors will request or be asked to check the number. Since it doesn’t have financial implications, it’s not yet clear what practices will emerge.

I expect that we will see many compensation consultants assist companies in preparing their ratio disclosure. As for whether this raises independence concerns, I imagine that this will be handled by working through the Compensation Committee or with the express approval of the Committee chair and through disclosure.

I’m not sure that it otherwise raises any more independence issues than helping with the executive compensation disclosure for the proxy statement. In most instances, this assistance isn’t likely to be a “big ticket” item (although I can see how for some companies it most likely will be expensive – and thus create independence concerns if the consultant is driving the process).

Our Executive Pay Conferences: Only 4 Weeks Left! Here’s the registration information for our popular conferences – “Tackling Your 2017 Compensation Disclosures: Proxy Disclosure Conference” & “Say-on-Pay Workshop: 13th Annual Executive Compensation Conference” – to be held October 24-25th in Houston and via Live Nationwide Video Webcast. Here are the agendas – 20 panels over two days.

Register Now: Huge changes are afoot for executive compensation practices with pay ratio disclosures on the horizon. We are doing our part to help you address all these changes – and avoid costly pitfalls – by offering a reasonable rate to help you attend these critical conferences (both of the Conferences are bundled together with a single price). So register now.

– Broc Romanek

John & I had a lot of fun taping our first “news-like” podcast. This 9-minute podcast is about director compensation & Smithsonian museums – the new African-American museum is opening this weekend (it’s already “sold out” for a few months)! I highly encourage you to listen to these podcasts when you take a walk, commute to work, etc. And as we tape more of these, it’s inevitable we’ll figure out how to be more entertaining…

This podcast is also posted as part of my “Big Legal Minds” podcast series. Remember that these podcasts are also available on iTunes or Google Play (use the “My Podcasts” app on your iPhone and search for “Big Legal Minds”; you can subscribe to the feed so that any new podcast automatically downloads…