U.S. public companies recently began disclosing their CEO-to-median employee pay ratios, as required by the Dodd-Frank Act and Item 402(u) of Regulation S-K. It is still too early to draw conclusions, but this memorandum outlines some preliminary observations based on our review of the pay ratio disclosure included in 35 SEC filings through February 2018, including the range of pay ratios and calculation methodologies disclosed.
Dodd-Frank
Subscribe to Dodd-Frank RSS FeedSEC Staff Examines Impact of Regulation on Capital Formation and Market Liquidity
In response to a statutory requirement, the SEC Staff of the Division of Economic and Risk Analysis (DERA) has issued a lengthy report to Congress on the combined impacts of the Dodd-Frank Act and other financial regulations on access to capital for consumers, investors and businesses and market liquidity. DERA studied (a) capital raising in the primary markets by analyzing evidence on the evolution of the issuance of debt, equity and asset-backed securities across registered and exempt offerings and (b) secondary market liquidity by analyzing market activity and liquidity in corporate bonds and US treasuries, along with funds and investment companies that invest in those securities.
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Mr. Clayton Goes to Washington
SEC Chair nominee Jay Clayton’s March 23rd hearing before the Senate Banking Committee covered much of the expected ground. In a series of responses designed to avoid controversy, Clayton repeatedly returned to the three core mandates of the SEC – capital formation, investor protection and efficient markets – as touchstones for his future leadership of the Commission, should he be confirmed. Beyond these general areas, Clayton offered few specifics or signals as to how he might steer the Commission during his term as Chair. He did, however, discuss concerns about growing companies finding the U.S. public markets unattractive due to the burdens of being a public company.
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Dodd-Frank Update: Incentive Compensation for Financial Institutions
On Monday, May 2, 2016, the Federal Reserve and, on Friday, May 6, 2016, the SEC issued their versions of a reproposed rule to regulate incentive compensation at the financial institutions under their purview, as required by Section 956 of the Dodd-Frank Act. These issuances follow the releases in the prior weeks of the proposed rule by the National Credit Union Administration, the Federal Deposit Insurance Corporation, Office of the Comptroller of the Currency and the Federal Housing Finance Agency. We reported on the release of the proposed rule in our visual memorandum released last Monday.
As a reminder, Section 956 of Dodd-Frank generally requires that these agencies jointly issue rules that:
(1) prohibit incentive compensation that encourages inappropriate risks by certain financial institutions by providing excessive compensation or that could lead to material financial loss; and
(2) require those financial institutions to disclose information concerning incentive compensation to the appropriate federal regulator.
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Court Orders SEC to Issue Resource Extraction Rules
Oxfam America scored a recent victory when the U.S. District Court in the District of Massachusetts decided that the SEC must file with the Court an expedited schedule for promulgating a final rule on resource extraction disclosure within 30 days of the decision. The Court intends to monitor the schedule and ensure compliance. We previously discussed Oxfam’s complaint here and our memo on the original resource extraction rules is here.
Section 1504 of Dodd-Frank requires publicly traded oil and gas companies to annually disclose payments made to foreign governments or the federal government for the commercial development of oil, natural gas or minerals.
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Congress Tries to Influence Timing of Pay Ratio Rule
The SEC’s proposed rules on pay ratio disclosure is again the focus of Congressional attention, as three members of the House, Congressional Progressive Caucus Co-Chairs Representatives Raúl Grijalva (D-AZ) and Keith Ellison (D-MN), joined by Financial Services Committee member Maxine Waters (D-CA), sent a letter to the SEC asking them to finalize those rules.
The letter states that as Dodd-Frank was enacted more than four years ago, the SEC should finalize the rule since boards, investors and others “need this information to better understand and assess CEO compensation” when casting say-on-pay votes, and also “whether company employees are fairly compensated.” The letter goes on to discuss ongoing concerns regarding the level of executive compensation.
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Using the Courts to Force the SEC to Act on Dodd-Frank Rulemaking
It has been nearly four years since April 17, 2011, the original deadline under Dodd-Frank for the SEC to adopt a resource extraction disclosure rule. After the SEC adopted a rule 2012, the U.S. District Court for the District of Columbia vacated it the next year, which we previously discussed here. The court remanded it to the SEC, and it has not been re-proposed since then.
Last fall, Oxfam America sued the SEC to get the agency to act, filing a summary judgment motion for an injunction in the U.S. District Court for the District of Massachusetts. Oxfam contends that the SEC should be forced to propose a rule by August 2015 and issue a final rule by November 1.
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Another SOX Clawback from Executives Without Wrongdoing
A federal district court in Texas recently upheld the right of the SEC to seek clawbacks of bonus and other compensation under Section 304 of Sarbanes-Oxley from executives who have not been accused of any wrongdoing, by denying the executives’ motion for summary judgment. In the case, SEC v. Baker, the SEC is seeking reimbursement of bonuses, incentives and compensation from the CEO and CFO of Arthrocare in connection with the company’s restatement of its financial statements. The restatements were due to alleged fraud by two senior vice presidents of Arthrocare. The SEC did not allege that the CEO and CFO committed any conscious wrongdoing.
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NYSE Updates Its Rule Filing on Compensation Committees
The NYSE has published an updated rule filing submitted to the SEC on the recent proposed listing standards related to compensation committees. The rule filing notes that “Amendment No. 1 corrects a single error in the rule text in Exhibit 5 as originally filed. The error was in Section 303A.00 under the heading ‘Transition Periods for Compensation Committee Requirements.’”
To be clear, listed companies will have until the earlier of their first annual meeting after January 15, 2014, or October 31, 2014, to comply with the new director independence standards with respect to compensation committees. Other proposed changes, including those related to compensation committee advisers, will become operative on July 1, 2013.
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Nasdaq Proposed Standards on Compensation Committees Differs from NYSE Approach
We just discussed the NYSE’s proposed standards applicable to compensation committee members and their advisers, which closely follow the SEC final rules. Nasdaq has posted its proposed version, which contains some differences worth mentioning. Details will follow in a client memorandum, but headline items include:
Compensation Committee Requirement
Nasdaq currently permits CEO and executive officer compensation to be determined by an independent compensation committee or independent directors constituting a majority of the board’s independent directors, but has proposed to eliminate the latter alternative and to require companies to have a standing compensation committee, with a minimum of at least two members.
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NYSE Proposed Listing Standards Affecting Compensation Committees
The NYSE has posted its proposed filing with the SEC to implement the SEC rules for compensation committees and advisers. We are preparing a client memorandum to describe the standards in more detail shortly, but headline items include:
Compensation Committee Independence
The NYSE has not added any additional bright-line prohibitions to its independence standards. Rather, it has followed the SEC final rules in giving a board discretion to determine how consulting, advisory and other compensatory fees and affiliate status may affect a compensation committee member’s independence. The standards make clear that these factors should be considered, as part of its affirmative determination of all factors, specifically relevant to determining whether a director has a relationship to the company which is material to that director’s ability to be independent from management in connection with the duties of a compensation committee member.
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SEC Updates Its Dodd-Frank Governance Rulemaking Schedule
As we remarked back in August 2011, the SEC website with its rulemaking schedule on Dodd-Frank initiatives is changed with little notice, as it has been again. Back in August 2011 we even speculated whether the corporate governance rules would apply to the 2012 proxy season, but the SEC did not meet most of its previously stated timeline with the exception of the rules on mine safety. The current schedule for January to June 2012 is as follows:
Final rules: (a) disclosure by institutional investor managers on how they voted on executive compensation; (b) listing standards on compensation committee independence and compensation advisers; and (c) disclosure on conflict minerals and by resource extraction issuers.
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Controversy Over Methods to Determine Median Employee Pay for Dodd-Frank CEO Pay Ratio Disclosure
Although the SEC staff has publicly stated that the clawback provision is the most complex of the remaining Dodd-Frank governance rulemaking, the most controversial provision appears to be the requirement to disclose the ratio between the CEO total compensation and the employee median. Given the specific and prescriptive nature of the legislation, interested parties have been struggling for some time to come up with a workable solution, while some continue to argue for outright repeal.
In August, the AFL-CIO suggested that the SEC could permit issuers to comply through the use of statistical sampling, with SEC guidance on how to construct the sample methodology, such as sample size and specific confidence levels, as well as allowing issuers to identify the median employee based solely on cash compensation.
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Whistleblowers and Internal Certifications
We’ve been discussing with a number of clients whether it is appropriate to require employees to certify periodically that they are not aware of violations of the company’s code of conduct or, put another way, that they have reported to the company all violations of which they are aware. Some companies believe that this requirement can be a useful complement to a compliance program in that it requires employees to focus on the issue. Others have been concerned that it could generate a lot of noise in the form of false leads, creating an investigative burden that could actually complicate the record.
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Spotlight on Shareholder Proposals: Internal Pay Ratio Disclosure
Section 953(b) of Dodd-Frank requires companies to disclose the internal pay ratio between the total annual compensation of their CEO and the median total annual compensation of their employees. Effectiveness of the requirement has been delayed until the SEC promulgates implementing rules. Meanwhile, companies have complained that the calculations required to comply with the disclosure requirement are burdensome and unfeasible, and proposals for Section 953(b)’s repeal have been introduced in Congress.
Against this background, it is somewhat surprising that shareholder proposals seeking disclosure of the internal pay ratio decreased in 2011, and average shareholder support for this disclosure has remained low (although it increased slightly in 2011).
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SEC Enforces SOX Clawback in Shadow of Dodd-Frank
Earlier this week, the SEC announced a settlement with the former CFO of Beazer Homes USA to clawback incentive compensation and profits from the sale of Beazer stock of more than $1.4 million pursuant to the Sarbanes-Oxley Act. Neither the CFO nor Beazer’s CEO, who reached a similar settlement with the SEC earlier this year for almost $6.5 million, was charged with personal misconduct. Notably, the SEC blames Beazer’s chief accounting officer as the main perpetrator of the fraudulent actions that led to accounting restatements, but in accordance with the Sarbanes-Oxley Act, the SEC could not seek recoupment from any officers other than the CEO and CFO.
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Reading the Tea Leaves on SEC Rulemaking Schedule
The SEC website contains a schedule of Dodd-Frank rulemaking, which has been helpful but at times confusing when the schedule is updated with little notice. Currently, the schedule for the next five months of August – December includes:
Final rules: (a) disclosure by institutional investor managers on how they voted on executive compensation; (b) listing standards on compensation committee independence and compensation advisers; (c) disclosure on conflict minerals, mine safety and by resource extraction issuers; and (d) end-user exception to mandatory clearing of security-based swaps.
Proposed rules: (a) disclosure of pay-for-performance, pay ratios; and hedging by employees and directors and (b) recovery of executive compensation.
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Proxy Access Strikedown Could Impact Other Dodd Frank Rulemaking Across Many Agencies
The DC Circuit’s vacating of the SEC’s proxy access rule has wider applications for the possible challenge of regulations under the Dodd Frank Act on the grounds that they fail to analyze the economic impact. Even though we all know that the DC circuit is especially hard on the SEC, other agencies could also find themselves in a similar position given the fact that the speed of deadlines under the Dodd Frank Act has essentially forced a very minimal economic review of hundreds of regulations. The court’s view that the SEC “inconsistently and opportunistically framed the costs and benefits of the rule; failed adequately to quantify the certain costs or to explain why those costs could not be quantified; neglected to support its predictive judgments; contradicted itself; and failed to respond to substantial problems raised by commenters” is a warning shot across the bow of Dodd Frank implementation.
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Activist Judges Strike Down SEC Proxy Access Rule
A unanimous D.C. Circuit panel this morning invalidated Rule 14a-11 as “arbitrary and capricious”, ruling that the SEC had failed to consider the potential costs and other impacts of the rule. This outcome was fairly predictable given the composition of the panel that decided the case, but even so the scathing and dismissive tone of the opinion is remarkable. The panel essentially swallowed the Business Roundtable and Chamber of Commerce arguments hook, line and sinker, even to the point of second guessing which academic studies the Commission should have relied upon and which it should have disregarded.
Where do we go from here?
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SEC Adopts Rule on Beneficial Ownership of Security-Based Swaps
Earlier this month, the SEC readopted rules to ensure that its current definition of “beneficial ownership” would continue to apply to persons who purchase or sell security-based swaps (“SBS”) on and after July 16, 2011. The reproposal was prompted by Dodd-Frank’s addition of Section 13(o) to the Exchange Act, which would have otherwise excluded security-based swaps from the disclosure and short-swing profit rules. The SEC did not give any guidance as to when SBS constitute beneficial ownership for Section 13. However, the SEC staff is evaluating possible changes to the Section 13 reporting requirements but the outcome and timing of that evaluation remains uncertain.
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Whistleblowers and Corporate Compliance Programs
We presented a webcast today discussing the final Dodd-Frank whistleblower rules that the SEC adopted a couple of weeks ago. It was a good discussion covering the range of challenges that companies are facing and expecting to face. Based on questions raised by listeners both during and after the podcast it’s apparent that many are struggling with how to continue to motivate employees to submit information internally through existing compliance systems, such as hotlines, rather than starting with the government. Lots of variations on the theme:
- Can I provide by policy that employees are required to provide the company with information concerning suspected noncompliance?
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Updated: SEC Adopts Final Whistleblower Rules
The SEC held an open meeting today at which it adopted final rules implementing the whistleblower provisions in the Dodd-Frank Act. As expected, the final rules do not require employees to first report allegations through a company’s corporate compliance system before coming to the SEC, despite numerous comments by members of the corporate community urging the SEC to do so. The rules do contain additional provisions that purport to incentivize whistleblowers to report their concerns internally first although it is unclear what practical effect these provisions can reasonably be expected to have. Our Client Newsflash summarizing the final rules is available here.
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5/25 Whistleblower Meeting Confirmed
As was rumored, the SEC has announced that it will hold an open meeting at 9:30 a.m. EDT on May 25, 2011 to consider the adoption of final rules implementing the Dodd-Frank whistleblower provisions. The SEC’s announcement is here. We’ll be focusing on the open meeting with great interest.
Our memo from last November on the proposed rules is here. Our webcast on the proposed rules is here.
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The Impact of the Elimination of Broker Discretionary Votes on Executive Compensation
When the SEC decided to eliminate the ability of brokers to vote on a discretionary basis without specific client instruction for director elections in July 2009, many predicted that it would seriously affect the ability of directors to obtain majority support. The concern proved to be a false alarm. As a result, when the Dodd-Frank Act required the elimination of broker discretionary voting for executive compensation matters, including say-on-pay, there wasn’t nearly the same chatter.
But it turns out that given the closeness of many of the failed say-on-pay votes, the reported broker non-votes would have made a real difference. We calculated that 7 of the 21 companies reporting failed votes so far would have passed, in some cases by a decent margin, if the non-votes had actually been counted as “for” say-on-pay, which is not an unreasonable assumption given these discretionary votes generally favored management.
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