The Dodd-Frank regulatory reform bill, which recently passed the House, includes a number of executive compensation reforms. The executive compensation provisions in the bill include reforms to both SEC-reporting company disclosure and financial institution specific disclosure.
The Dodd-Frank reform bill expounds on current TARP say-on-pay requirements and makes them generally applicable to SEC-reporting companies. Under the reform bill, not less than once every three years, SEC registrants must include in annual meeting proxy statements a shareholder resolution on the compensation of executive officers. In addition, not less than once every six years, SEC registrants must have a shareholder vote to determine the frequency of a vote on executive compensation by shareholders, which may occur, as determined by shareholders, every one, two or three years.
Under the bill, SEC registrants must disclose golden parachute agreements in a proxy statement where shareholders are asked to approve an acquisition, merger, consolidation or proposed sale of substantially all of the assets. The aggregate total compensation that may be paid in such transaction, pursuant to a golden parachute agreement, must be included in this disclosure and be submitted for shareholder approval in a separate resolution.
Similar to the TARP say-on-pay requirements, the say-on-pay and golden parachute resolutions applicable to all SEC-reporting companies are not binding on SEC registrants or directors. Institutional investors, however, will be required to disclose annually how they voted on such disclosures. Although the bill does not explicitly exclude certain registrants from these requirements, the bill gives the SEC the authority to exempt certain registrants and encourages the SEC to take into consideration whether these requirements “disproportionately burden small issuers.”
The Dodd-Frank reform bill addresses independence standards for compensation committee members and gives the SEC authority to direct national securities exchanges and national securities associations to set requirements. As a result, registrants will be required to comply with this requirement only if they are subject to the rules of an exchange or securities association. The bill requires that all compensation committee members must be independent directors, which is determined by the source of a director’s compensation and affiliation with the registrant.
The Compensation Committee, in its sole discretion, may retain compensation consultants or advisors, including legal advisors, and will also be responsible for oversight and compensation. The bill expounds on the current proxy disclosure requirements that went into effect for the 2010 proxy season, which require the disclosure of compensation consulting services and fees.
Pay vs. Performance
To the extent a registrant has executive compensation tied to its performance, it will be required to disclose in its proxy statement the relationship between the compensation actually paid to executive officers and the registrant’s financial performance. In addition to this disclosure, registrants will be required to disclose the median annual total compensation of all employees (excluding the CEO), the annual total compensation of the CEO, and the ratio between the two. Although this may be burdensome to some registrants, the bill does not provide for an exemption, nor does it grant the SEC with the authority to set an exemption.
The Dodd-Frank bill requires the SEC to direct national securities exchanges and national securities associations to require listed registrants to have a policy on incentive compensation based on financial information reportable under securities laws. Similar to current requirements for TARP recipient institutions, in the event any SEC registrant subject to the rules of an exchange or association is required to make an accounting restatement, the registrant will be permitted, pursuant to its policy, to recover, or “clawback,” any excess compensation based on such erroneous financial information for a period of three years.
Financial Institution Specific Reporting
The bill requires financial institutions to disclose the structure of all incentive-based compensation to federal banking regulators, which will allow regulators to determine if such compensation is excessive or could lead to a material financial loss. This is similar to the disclosure that TARP recipient financial institutions must make to their primary federal regulators and to the U.S. Department of the Treasury. This provision in the Dodd-Frank bill, however, is only applicable to financial institutions with a minimum of $1 billion in assets.
In addition to the executive compensation requirements above, the Dodd-Frank bill requires SEC-reporting registrants to disclose hedging securities held by employees or directors and used to offset a decrease in the market value of its equity securities. The bill also prohibits brokers from voting on executive compensation and uncontested director elections, similar to the recent broker restrictions issued by national securities exchanges and national securities associations.
Although many on the executive compensation requirements are addressed in TARP specific requirements and the recently enacted proxy disclosure requirements, the Dodd-Frank reform bill appears to expound on current disclosure requirements and require, at a minimum, that all SEC registrants, or financial institutions in certain cases, comply with such provisions.