SEC Commissioner Mark Uyeda isn’t a fan of the pay-versus-performance rule — or the process by which the SEC adopted it. He gave his thoughts on the PvP disclosure requirements in a recent speech.
The speech has gotten a fair amount of attention — mostly for suggesting that the SEC re-propose climate disclosure requirements before the Commission adopts a final rule that significantly deviates from the proposed. But his PvP comments are also noteworthy — as he cites some of the eccentricities of PvP disclosures as his “case study” on why re-proposing rules is often appropriate. Here’s an excerpt from his remarks:
Approximately 34% of companies subject to the new rule reported a negative amount for the principal executive officer’s “compensation actually paid” in one of the three years included in the new pay versus performance table. Although the statute’s focus is on the relationship between an executive’s “compensation actually paid” and the company’s financial performance, it is hard to believe that Congress would have expected the Commission to adopt a rule where more than one-third of companies explain this relationship by reporting a negative number.
[…] In reporting on pay versus performance disclosure, one publication questioned whether shareholders might interpret negative “compensation actually paid” as if the CEOs theoretically owed their companies money and another observed that “the new ‘compensation actually paid’ in not compensation actually paid.”
It is bad enough that the disclosure may not be understandable or material, but even worse, preparing the disclosure may impose significant costs on companies. Much of these costs arise from hiring consultants to make the equity award fair value calculations not otherwise required by the Commission’s prior executive compensation rules. According to one trade association survey, over 50% of companies expect to spend at least $40,000 on consultants to make these calculations.
Since the treatment of equity awards was changed from the proposed to final rule, he then speculates that the calculation of CAP — and ultimately the utility of the PvP disclosure — could have been improved through the comment process:
In the 2015 proposing release, the Commission discussed the approach of including equity awards based on changes in fair value and noted that such changes could result in a negative number. Of the more than 150 comments received on the rulemaking, only two commenters supported this approach. The only mention of this approach in the 2015 proposing release was as an “implementation alternative” in the economic analysis section.
If the Commission had re-proposed the rule in 2022 with the modified calculation of “compensation actually paid” based on changes in fair value, would things have come out differently? While we may never know, doing so would have at least offered market participants an opportunity to focus on the issue. The Commission would then have had a broader set of views on the approach’s advantages and disadvantages. Some commenters might have discussed whether the potential for disclosure of negative “compensation actually paid” is useful to investors.
As for the title of this blog, according to Cydney Posner’s Cooley PubCo post, one panelist at the Annual Institute on Securities Regulation remarked that no proxy advisor or institutional investor has incorporated PvP disclosure into their decision-making. Another speaker referred to it as a “nothingburger.” While I’ll be adding that term to my lexicon — especially since it was used multiple times at the Institute — I’m not sure we can conclude that just yet with only one year of disclosure behind us. Only time will tell!
As we’ve covered extensively on TheCorporateCounsel.net, the SEC’s Enforcement Division has been on the lookout for provisions in employment or separation agreements that violated whistleblower protection rules for years, and, in the last few months, multiple enforcement actions have again been brought targeting these provisions. As Liz noted, that brings the running total of Rule 21F-17 enforcement actions to “nearly 20” since 2015. As we’ve seen, these provisions continue to linger on in forms, and the SEC’s view seems to be that added language and/or communications to employees that the provisions shouldn’t be construed to prevent whistleblower claims may not be sufficient to address the problem.
This recent Proskauer blog says these settlements should remind “companies to review their existing employment documents and internal policies, including confidentiality policies, to ensure that restrictive language is removed and that appropriate whistleblower carveout language is included” and that “even a minor deviance from the SEC’s recommended verbiage could result in a costly enforcement action – scrutiny which may be avoided by closely hueing to language the SEC has previously approved in other enforcement actions.” To that end, the blog describes provisions the SEC has taken issue with in enforcement actions:
– Release stating that the individual would not discuss the matter with FINRA, the SEC, or anyone else.
– Language stating that the employee was “waiving your right to any monetary recovery or other individual relief” in connection with any charge or complaint filed with governmental agencies.
– Separation agreement providing that reporting to administrative agencies was allowed, “but only if I notify the Company of a disclosure obligation or request within one business day after I learn of it and permit the Company to take all steps it deems to be appropriate to prevent or limit the required disclosure.
– Separation or similar agreements requiring the employee to certify that they had “not filed any complaint or charges against [the company], or any of its respective subsidiaries, affiliates, divisions, predecessors, successors, officers, directors, shareholders, employees, representatives or agents…with any state or federal court or local, state or federal agency.”
– Separation agreements providing that employees would not “at any time in the future voluntarily contact or participate with any governmental agency in connection with any complaint or investigation pertaining to the Company, and [may] not be employed or otherwise act as an expert witness or consultant or in any similar paid capacity in any litigation, arbitration, regulatory or agency hearing or other adversarial or investigatory proceeding involving the Company.”
– Compliance policy language stating that employees are “strictly prohibited from initiating contact with any Regulator without prior approval from the Legal or Compliance Department.”
– Employee confidentiality agreements broadly defining “Confidential Information” to include all company financial information and financial reports and imposing a liquidated damages provision for violations, where the agreements did not also include “whistleblower carve-out” language.
– A settlement agreement with investors that required confirmation that investors and their counsel have not contacted, and would not in the future contact, the SEC or other governmental agencies concerning matters in the agreement.
It also provides examples of carveout language that the SEC has cited with approval:
– “Nothing in this Section shall be construed or deemed to interfere with any protected right to file a charge or complaint with any applicable federal, state or local governmental administrative agency charged with enforcement of any law, or with any protected right to participate in an investigation or proceeding conducted by such administrative agency, or to recover any award offered by such administrative agency associated with such charge or complaint.”
– “Nothing in this policy or any other Company policy or agreement is intended to prohibit you (with or without prior notice to the Company) from reporting to or participating in an investigation with a government agency or authority about a possible violation of law, or from making other disclosures protected by applicable whistleblower statutes.”
– Where restrictive confidentiality provisions exist: “Employee can provide confidential information to Government Agencies without risk of being held liable for liquidated damages or other financial penalties.”
Here are the results from our recent survey on clawback policies:
1. Did your company have a clawback policy in place prior to the final Dodd-Frank mandate?
– Yes, a standalone policy – 61%
– No standalone policy, but equity award and/or contractual provisions allow forfeitures and/or clawbacks – 26%
– No standalone policy or contractual provisions – 13%
2. If your company has a pre-Dodd Frank clawback policy and/or provisions, what do they cover?
– Restatements resulting from misconduct – 63%
– Misconduct (e.g., harassment) or gross negligence that may cause reputational harm – 34%
– Allows the board/compensation committee to determine triggers in their discretion – 21%
– Restatements regardless of misconduct – 18%
– A policy violation or breach of a noncompetition obligation or similar agreement – 17%
– Inadequate oversight of behavior by subordinates that may impact financial results or cause reputational harm – 9%
– Not applicable: We don’t currently have a clawback policy or provisions – 18%
3. When the stock exchange clawback listing rules are final, do you intend to adopt and/or maintain the clawback and forfeiture triggers that go beyond the proposed rules?
– No, we will just comply with the listing standards – 46%
– Yes – 43%
– We haven’t decided – 11%
4. When the stock exchange clawback listing rules are final, do you plan to have one policy or multiple?
– A standalone Dodd-Frank policy, plus maintain existing policies and/or provisions – 42%
– A single policy that will satisfy the listing exchange standards – 41%
– One combined policy that will cover restatements and other triggering events – 17%
5. How will you ensure you have the ability to enforce your clawback policy?
– We will have each executive sign a standalone document, such as an acknowledgment of the clawback policy or amendment to an existing agreement – 46%
– We will rely on provisions in equity award agreements and contracts – 39%
– We’ll cross that bridge when we come to it – 25%
– We will adopt a mandatory deferral program – 0%
– Something else – 5%
5. Do you intend to make any changes to your compensation program as a result of the new listing standards?
– No, we are not considering any changes to our compensation program – 86%
– Yes, we are considering shifting compensation more toward types not covered by the clawback rules (such as time vesting, non-financial/stock price measures or discretionary awards) – 5%
– Yes, we may move away from metrics that would complicate the recovery process, like stock price or TSR – 2%
– Yes, we are considering other changes – 8%
ISS has announced that for companies with annual meetings between January 15th and September 30th of next year, its peer group review & submission window will open Monday, November 20th – and will close at 8pm ET on Tuesday, December 5th. ISS opens this window twice per year for companies to provide input (but note that the company-submitted peers are just one factor in the ISS determination process).
Submissions should reflect peer companies used (or to be used) by the submitting company for pay-setting for the fiscal year ending prior to the company’s next upcoming annual meeting (for your 2024 annual meeting, this would mean peers used for the 2023 fiscal year). Here’s more detail:
Companies that have made no changes to their previous proxy-disclosed executive compensation benchmarking peers, or companies that do not wish to provide this information in advance, are under no obligation to participate. For companies that do not submit any information, the proxy-disclosed peers from the company’s last proxy filing will automatically be factored into ISS’ peer group construction process.
Additional information on the ISS peer submission process, including links to ISS’ current recent peer selection methodology for the U.S., Canada, and Europe, is available on the ISS website here.
We recently fielded a member inquiry on our “Q&A Forum” (#1475) about changing compensation consultants during the last few months of the fiscal year. John gave these thoughts on whether a company should request that its outgoing consultant provide an assessment of compensation programs:
There’s no requirement that a board or comp committee retain a compensation consultant or, if they do, any rule that would require that consultant to provide such an assessment.
Assuming the Comp Committee has retained another consultant, they could certainly ask that consultant to provide the assessment. If not, and assuming your board doesn’t have a policy requiring such an assessment, I think the biggest issue is likely going to be how you address the absence of a third party assessment in your CD&A disclosure, particularly if you’ve previously disclosed that your comp consultant provided this assessment in prior years.
When it comes to the implications for the Item 407 assessment of independence for the advisor that served for more than half the year, he followed up:
I think obtaining the memo from the former consultant would be prudent. The disclosure requirements of Item 407(e)(3)(iii) and Item 407(e)(3)(iv) require the company to provide the required disclosures, including conflict of interest disclosure, with respect to any compensation consultant who played a role in determining or recommending any form of executive or director comp during the most recent fiscal year. The information in that memo will be important in assessing whether there are any disclosable conflicts of interest.
Meredith also chimed in on whether investors or proxy advisors have any preference for “rotation” of compensation consultants:
I’m not aware of any ISS/GL preference on this. The Center On Executive Compensation recently released a guide on best practices. I discussed this guide in more detail – including policies, the rotation concept, assessments and RFPs – with Ani Huang, CEO of the Center On Executive Compensation, in this 14-minute podcast.
Speaking of podcasts, I’m excited to share that Meredith has more episodes of “The Pay & Proxy Podcast” in the hopper! Reach out to either of us if you have a topic that’s good for a practical “quick take” – it’s a fun & easy experience, and you get to meet Meredith! She’s at mervine@ccrcorp.com and I’m at liz@thecorporatecounsel.net. Remember that our contact info is at the bottom of every blog email if you ever want to drop us a line! We love hearing from members.
Clearbridge Compensation Group is out with its “Long-Term Incentive Plan Report” for the “Clearbridge 200” – which consists of 100 mid-cap companies in the S&P MidCap 400 Index and 100 large-cap companies in the S&P 500 Index. The 18-page report looks at design changes from 2020 to 2023, including practices around:
– LTI Vehicles
– Time-Vested Award Vesting Period & Schedule
– Performance-Vested Award Design
– Relative TSR Goal Setting
A big question in the wake of the new Dodd-Frank clawback rules is whether companies will shift away from tying most incentives to financial measures and stock price. For the period covered by this report, almost all companies used these types of metrics in their incentive plans, with relative TSR being most prevalent. Here’s an excerpt (with more detail in the chart on pg. 8):
Across both mid-cap and large-cap companies, stock price/TSR measures, followed by earnings measures (e.g., EBITDA), are most commonly used to measure long-term performance (either as a weighted measure or as a modifier). In addition to increasing shareholder alignment, stock price/TSR goals are generally easier to establish in uncertain times compared to financial goals.
When companies use a stock price/TSR measure, the overwhelming majority use relative TSR. In 2023, 55% of mid-cap and 70% of large-cap companies used relative TSR as a measure.
Meredith is out with a new episode of “The Pay & Proxy Podcast”! In this 21-minute episode, she is joined by Sheri Adler at Troutman Pepper to discuss equity award delegations in Delaware. Topics include:
1. The differing requirements for option/RSU and restricted stock award delegations in Delaware before the 2022 DGCL amendments
2. The welcome changes to the DGCL in August 2022
3. How the further amendments in 2023 addressed interpretive issues
4. Remaining areas of ambiguity
5. Best practices for equity award delegations, documentation and recordkeeping
6. Avoiding the constraints of Sections 152 or 157 by delegating to a one-member board committee
WTW’s Global Executive Compensation Analysis Team recently conducted a study of the 100 largest U.S. mergers from 2018 to 2022 focused on the use of special synergy awards. Of the companies surveyed:
– 14% granted special synergy awards to NEOs
– Of that 14%, 5% granted special synergy awards to NEOs and had synergy goals in their STI programs
– 23% only included synergy goals in their STI programs
The WTW team stressed that these special awards are only appropriate in limited circumstances — the annual executive compensation package should generally provide sufficient alignment with long-term strategy. When used, the disclosure of these awards needs to clearly articulate their purpose and highlight that they are non-recurring. With respect to the circumstances and structure of these awards, when used:
– 79% were granted in mergers that exceeded the median deal value of the survey ($13.8 billion)
– They were typically in the form of PSUs, but performance shares, performance stock options, performance cash awards or a combination were also used
– The vesting periods were typically between three and four years
– 57% included synergy and financial goals and 43% used only synergy goals (cost reduction or revenue improvement)
Earlier this month, the IRS updated its Internal Revenue Manual to permit the use of e-signatures on certain forms, including Code Section 83(b) elections, indefinitely. The temporary permission for e-signatures granted during the pandemic was set to expire on October 31. Here’s a snippet from a Shearman & Sterling alert regarding requirements for e-signatures:
The IRS’ electronic signature policy for Section 83(b) Elections and certain other specified tax forms provides that electronic and digital signatures may take various forms and can be created by different technologies. No specific technology is currently required for Section 83(b) Elections (though specific technologies may be required by the IRM in the future). Accordingly, acceptable forms of electronic signature for Section 83(b) Elections should include a name typed into a signature block, a scanned image of a handwritten signature or a signature created by third-party software (such as DocuSign).
This FW Cook blog contains a helpful discussion of two of the recently released PvP CDIs. Those are CDI 128D.18 on retirement eligibility and when an award is vested and CDI 128D.22 regarding the requirement to disclose changes in equity award valuation assumptions and the application of the exception in instruction 4 to Item 402 for competitive harm.
CDI 128D.22 addresses the requirement in Item 402(v)(4) to disclose in a footnote “any assumption made in the valuation that differs materially from those disclosed as of the grant date of such equity awards.” While not directly addressed by the CDI, the FW Cook team believes it implies that the SEC interprets this requirement as eliciting more expansive disclosure than many companies and advisors believed in the 2023 proxy season — specifically, that a change in the probable outcome of a PSU from the grant date to the reassessment date might constitute a “materially different assumption” that needs to be disclosed in a footnote. Based on this reading, when a company seeks to omit footnote disclosure of changes in assumptions due to competitive concerns, “while it is hard to tell what is now required […] it seems clear that CDI 128D.22 requires some type of footnote disclosure if the company was relying solely on the competitive harm exception and the probable performance outcome is now significantly different than target.”
On CDI 128D.18, the blog says:
This language appears to indicate that, if retirement eligibility is the only vesting condition, vesting occurs for purposes of determining CAP in the year during which the holder first becomes retirement eligible, regardless of whether the holder terminates employment. For example, if a grant recipient already meeting the applicable definition of retirement (typically a combination of age and years of service) receives a time-based restricted stock unit (RSU) award that contains favorable retirement vesting provisions and there are no additional vesting conditions other than service, then the award is considered vested on the grant date.
However, the CDI also refers to the need to consider other “substantive conditions,” and the blog goes on to say that what might constitute such a condition isn’t crystal clear:
The SEC did not include an exhaustive definition of such “substantive conditions” but noted it includes a “market condition,” and we can think of no reason why financial performance goals could not also qualify as substantive conditions. Therefore, an RSU with favorable retirement vesting does not become vested for CAP purposes upon retirement eligibility if the award is also subject to the achievement of a market condition, such as a three-year relative total shareholder return goal, provided the payout is tied to actual performance results (if, instead, payout is based on the target award regardless of performance results, then the performance goal is no longer a substantive condition).
It is less clear what else may constitute a substantive condition. For example, would a required notice period (prior to retirement) or compliance with restrictive covenants constitute such a substantive condition? Another question is whether a condition is determined to be “substantive” is always the same or depends on the circumstances of the executive. If a retirement eligible holder is 55 years old, a covenant not to compete might be considered substantive since that holder may potentially seek employment elsewhere, while a holder who is 72 years could generally be considered less likely to pursue post-retirement employment. Companies should also consider whether their equity awards contain a requisite minimum service period (usually six to 12 months) following grant, before favorable retirement treatment becomes available.
We’ve repeatedly recommended here that companies start thinking now about what needs to change for year two of PvP. I would add these interpretive issues to your list of things to discuss with your advisors — or conversations to have with your clients — earlier rather than later to understand and address how they apply to each company’s unique circumstances.