Following up on my blog yesterday afternoon, the reason for the SEC’s hurry to get out an adopting release is simple – these new rules apply to the coming proxy season as they are effective February 28th. My guess is that the effective date is pushed out so far because a “major” rulemaking requires a 60-day waiting period before implementation – and perhaps the SEC has deemed this a “major” rulemaking (or the OMB forced that determination upon the SEC). The “major rule” determination comes out of SBREFA – the “Small Business Regulatory Enforcement Fairness Act.”
Unfortunately, the SEC barely addressed the issue of compliance dates during its open Commission meeting – and then continued to be opaque in the adopting release (the release says nothing about effective dates other than the February 28th date on the cover). During the course of yesterday, I easily received over 100 emails and calls on this topic and continue to do so. So I imagine Corp Fin is receiving many more.
We are assuming that the February 28th effective date applies to the filing of proxy statements, not the annual meeting dates. Since there is no transition discussion in the adopting release (as Mark Borges has blogged), I’m not sure how this effective date applies to preliminary vs. definitive proxy statements for those that straddle both sides of this date. Or what about companies that file their Form 10-Ks in early February who decide to include the Part III information when they file? If you decide to voluntarily comply beforehand, do you also need to comply with the old rules (only issue is whether to use new or old SCT rules)? I’ll update this blog as we find out more on this critical topic.
I know complying with these new rules is gonna be a real bear for those of you that need to revise D&O questionnaires – or send out supplemental ones – so we just pushed up our CompensationStandards.com webcast to January 7th – “The Latest Developments: Your Upcoming Proxy Disclosures – What You Need to Do Now!” – featuring Mark Borges, Alan Dye, Dave Lynn and Ron Mueller. And to handle the other new SEC rules that don’t deal with compensation issues, we just announced a companion webcast on TheCorporateCounsel.net – “How to Implement the SEC’s New Rules for This Proxy Season” – featuring Marty Dunn, Amy Goodman, Ning Chiu, Howard Dicker and Dave Lynn to be held on January 6th.
Not only did the SEC adopt new proxy enhancement rules today at its open Commission meeting, it actually just posted the adopting release (a same-day practice that the PCAOB often follows). The reason for the hurry is simple – these new rules apply to the coming proxy season as they are effective February 28th. Here is the SEC’s press release – and the SEC Chair’s opening statement. More to come…
Last Wednesday, the Financial Times’ Francesco Guerrera wrote a piece entitled “GE Chief Attacks Executive ‘Greed'” that is reproduced below:
Jeffrey Immelt, General Electric’s chief executive, said on Wednesday his generation of business leaders had succumbed to “meanness and greed” that had harmed the US economy and increased the gap between the rich and the poor. Mr Immelt’s attack on his fellow corporate chiefs – made in a speech at the West Point military academy – is one of the strongest criticisms by a top executive of the compensation and business practices that prevailed before the financial crisis.
“We are at the end of a difficult generation of business leadership … tough-mindedness, a good trait, was replaced by meanness and greed, both terrible traits,” said Mr Immelt, who succeeded Jack Welch, one of the toughest leaders of his generation, at the helm of the US conglomerate. “Rewards became perverted. The richest people made the most mistakes with the least accountability.” Several executives, especially in financial services, have apologised for their companies’ role in the crisis but Mr Immelt’s remarks went further, linking bad leadership to growing inequality.
“The bottom 25 per cent of the American population is poorer than they were 25 years ago. That is just wrong,” he said. “Ethically, leaders do share a common responsibility to narrow the gap between the weak and the strong.” GE wants to win a large slice of the infrastructure projects funded by governments around the world in an effort to kick-start their economies. Mr Immelt said business should welcome government as “a catalyst for leadership and change”.
Mr Immelt also issued a mea culpa over his inabilty to foresee the financial turmoil, which slashed GE’s profits and put its financial arm, GE Capital, under pressure, saying he should have been a better listener. “I felt like I should have done more to anticipate the radical changes that occurred,” he said. The GE chief now gathers GE’s top 25 executives to twice-monthly Saturday sessions to talk about the company and its future.
In the speech, Mr Immelt indicated GE would continue to shrink GE Capital, which accounted for around half of the company’s profits as recently as two years ago. He said it was wrong for the US economy to have “tilted toward the quicker profits of financial services” at the expense of the manufacturing industry and research and technology investments.
Interesting that Mr. Immelt made these comments about greed before the NY Times published today’s front-page article about Goldman’s almighty reach for profit…
As Mark Borges blogged, Goldman Sachs announced last Thursday that its board had decided to implement a say-on-pay advisory vote starting next year (the first U.S. banking institution to so so) and eliminate cash bonuses fro the top 30 executives (and use clawbacks on the shares given as bonuses, which must be held five years).
This announcement was made before yesterday’s stern warning from President Obama to the banking industry’s fat cats, some of whom couldn’t attend the meeting due to fog. This skeptical skit is pretty funny.
Below are some thoughts on Goldman’s pay plan from RiskMetrics’ Ted Allen:
After negotiations with investors, Goldman Sachs Group has agreed to hold an annual advisory vote on executive compensation in 2010 and adopt bonus-deferral provisions.
Under the new policies announced Dec. 10, the financial company’s 30-person management committee will receive all of their discretionary compensation in the form of “shares at risk” that may not be sold for five years. Those shares would be an “enhanced” clawback policy in the event that “an employee engaged in materially improper risk analysis or failed sufficiently to raise concerns about risks.” In a press release, the company said the new policy “is intended to ensure that our employees are accountable for the future impact of their decisions, to reinforce the importance of risk controls to the firm and to make clear that our compensation practices do not reward taking excessive risk.”
“The measures that we are announcing today reflect the compensation principles that we articulated at our shareholders’ meeting in May. We believe our compensation policies are the strongest in our industry and ensure that compensation accurately reflects the firm’s performance and incentivizes behavior that is in the public’s and our shareholders’ best interests,” CEO Lloyd C. Blankfein said in the press release. “In addition, by subjecting our compensation principles and executive compensation to a shareholder advisory vote, we are further strengthening our dialogue with shareholders on the important issue of compensation.”
In response to Goldman’s decision, Walden Asset Management and Connecticut’s state pension fund plan to withdraw the “say on pay” proposal they filed for the company’s 2010 meeting. In 2008, a Walden-Connecticut advisory vote proposal received 45.5 percent support at Goldman.
“As Congress considers whether to require all public companies to have an annual shareholder advisory vote on executive compensation, Goldman Sachs’ action today is a tremendous step that demonstrates its support of this important corporate governance reform,” Connecticut State Treasurer Denise Nappier said in a Dec. 10 press release.
The Goldman press release did not specify the frequency of the advisory vote after 2010. That issue may become moot; proponents expect that Congress will pass legislation soon that would require marketwide annual votes starting in 2011.
Goldman received 97.9 percent support for its pay practices this past May when it held an advisory vote that was required for all companies participating in the U.S. government’s Troubled Asset Relief Program (TARP). After exiting TARP, Goldman was criticized by investors over its plan to pay more than $20 billion in year-end bonuses. A coalition of religious investors filed a pay disparity proposal at the firm in October.
Goldman is the first U.S.-based banking company to agree to hold an advisory vote, and the firm appears to be the first to adopt a bonus-deferral policy. Swiss banks UBS and Credit Suisse previously adopted deferral provisions, and French bankers agreed in late August to do so. In late September, Britain’s five largest financial firms endorsed the Group of 20’s principles on compensation, which call for deferring at least 40 percent of variable pay and a deferral period of at least three years.
In addition to Goldman Sachs, at least 31 U.S. firms have agreed to conduct voluntary shareholder votes on compensation, according to RiskMetrics Group data.
On Friday, the House of Representatives – by a vote of 223-202 – passed the “Wall Street Reform and Consumer Protection Act of 2009” (it appears that this will be referred to as the “Wall Street Reform Bill”). As I’ve blogged, this bill consolidates and revises numerous reform bills that have been introduced in the House this Fall (eg. Title I contains what was the Financial Stability and Improvement Act of 2009). As of the start of last week, there were 238 amendments offered to this bill. As noted on page 2 of this House “highlights,” the bill includes a mandatory say-on-pay provision as well as a provision requiring a vote on golden parachutes.
I’m not convinced I’ve seen a final copy of the bill actually passed since so many amendments were at play. I believe its changed since this version that was floated heading into last week – but that old version is what is linked to from this press release announcing the passage of the bill. [I’ll blog if a newer version becomes available].
With all of the wild gyrations in the stock market lately, we couldn’t help but wonder what this might mean for the future of stock options. Options have already experienced a decline in popularity in recent years thanks to the onerous expensing issues of FAS 123(R), as well as their lack of “line-of-sight” motivational impact on company operational goals, but if you throw into the works the wrenches of white-hot executive pay scrutiny, significantly declined capital markets, as well as significant increases in volatility and Black-Scholes values, you have a potent witch’s brew indeed.
Not being able to let this unique executive pay situation go untouched, Veritas ran some quick calculations of volatility for the Dow 30 stocks – read about these calculations in this article.
Recently, Cisco shareholders narrowly supported a say-on-pay proposal by a majority. In this podcast, Julie Tanner of Christian Brothers Investment Services discusses the recent Cisco vote on say-on-pay and other CBIS activities, including:
– What were the results of your say-on-pay proposal on Cisco’s ballot? How did that compare to last year?
– How does Christian Brothers select which companies to which it will submit shareholder proposals?
– What types of proposals has Christian Brothers submitted for the 2010 proxy season?
– Does Christian Brothers engage with companies before – or after – it submits shareholder proposals?
Just a few moments ago, the SEC issued a notice that it will hold an open Commission meeting next Wednesday, 12/16 to consider adoption of its executive compensation and other corporate governance proposals. It’s unknown at this time whether they will apply to the upcoming proxy season.
In the UK, the final Walker Review recommendations were recently issued. This is a sweeping governance reform of the United Kingdom’s financial industry, including strengthening the role of non-executive directors and giving them new responsibilities to monitor risk and compensation. Here’s an excerpt from a recent RiskMetrics’ newsletter:
The review’s more than three dozen recommendations remain largely unchanged from a draft released in July for public comment, which prompted a broad spectrum of financial market participants, including institutional investors, remuneration consultants, shareholder associations, and bank representatives to weigh in on the proposed guidance.
However, many of the recommendations, particularly those regarding remuneration, have been re-worded to be less prescriptive in nature. Britain’s Financial Services Authority has taken a similar approach with respect to its own remuneration code, which will take effect next year. A primary example of this is the definition of “high end” employees, who fall under a variety of Walker recommendations, which are now defined as those who perform a “significant influence function,” rather than meeting a certain pay level threshold. Still, other defined elements, such as the level of bonus deferral, have remained untouched.
A key element of better executive compensation practices is whether an employer has a clawback policy which enables the employer to recoup incentive compensation from an employee under certain circumstances. Typically, a clawback may apply if an employee has committed an egregious act or if there is a restatement of the financial results from which the incentive compensation payment was derived. To the delight of corporate governance reform advocates, many public companies have voluntarily adopted clawback policies.
The federal government has also increasingly mandated the clawback of incentive compensation. The Sarbanes-Oxley Act of 2002 and the American Recovery and Reinvestment Act of 2009 each compel a clawback of incentive compensation paid to certain enumerated employees if the employer has a financial accounting restatement. Even more recently, in October 2009, the Federal Reserve Board of Governors proposed guidance that would generally compel banks under its supervision to delay the actual payout of an incentive award to an employee until significantly beyond the end of the applicable performance period. This proposed guidance would require that any such payments should be decreased for actual losses or other aspects of performance that become clear only during the deferral period.
The California Supreme Court recently rendered a decision in the Schachter v. Citigroup case which dealt with incentive compensation. The ruling itself was not all that surprising – but the court’s opinion did indirectly highlight a potential pitfall for clawbacks. In Citigroup, the employer maintained a program whereby an employee could voluntarily elect to reduce his/her salary by a stated percentage and in exchange receive restricted shares (at a discount) that would vest over time. The restricted shares would be forfeited without consideration if the employee resigned employment prior to vesting. However, if the company terminated the employee’s employment without cause prior to vesting, then the employee would receive a cash payment equal to the amount of the foregone salary as consideration for the forfeited shares.
A former employee, who had resigned his employment, filed suit challenging the compensation arrangement. He argued that he should have received his foregone salary after his resignation on the theory that various California labor code statutes generally prohibiting the disgorgement or nonpayment of wages were violated. The California Supreme Court disagreed and ruled that, as is typically the case with unvested equity compensation arrangements, failure to satisfy the vesting conditions meant that the incentive compensation was not earned and that the employee was not deprived of any wages.
However, the court’s opinion took notice of the differing consequences for the incentive compensation depending on whether the employer or employee had initiated termination of employment. The court noted that payment of the incentive compensation if the employer was the initiating party to terminate employment was consistent with “contract law principles prohibiting efforts by one party to a contract to prevent completion by the other party.” The court further noted that an employee may be able to recover at least a pro-rata share of a potential bonus if the employee’s employment is terminated by the employer without a valid cause prior to completion of the terms of the bonus agreement. In addition to the applicable California labor code statutes, as support the court cited California state regulatory agency opinions and state appellate law decisions.
The point is that state laws, regulations and/or agency decisions could potentially impede the ability of an employer to recoup or delay/deprive an employee from receiving incentive compensation. For example, California Labor Code Section 221 specifically states “It shall be unlawful for any employer to collect or receive from an employee any part of wages theretofore paid by said employer to said employee.” If a clawback was implemented to comply with a specific federal law, then such clawback may be better able to withstand a challenge under state law by virtue of federal law pre-emption.
But what if the clawback was being voluntarily implemented by the employer purely as a matter of good corporate governance? In such case, the clawback could be vulnerable to being invalidated based on state laws that protect an employee’s rights to compensation particularly if the employee was not culpable and/or if the employee could argue that the incentive compensation was already “earned” (or paid) under applicable state law.