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May 5, 2015Client Alert

SEC Proposes Executive Pay-Versus-Performance Disclosure Rule

For years, the U.S. Securities and Exchange Commission (SEC) has been proposing, revising and adjusting the executive compensation disclosure requirements that are contained in Item 402 of Regulation S-K; disclosure which is generally required to be included in prospectuses and proxy statements of reporting companies. They have gone back and forth between focusing on information to be provided through narrative discussion and that to be provided in tables. On April 29, 2015, as required by the Dodd-Frank Wall Street Reform and Consumer Protection Act, the SEC proposed a new rule in the form of amendments to Item 402, which will require registrants to disclose a clear description of the relationship between executive compensation actually paid and the financial performance of the issuer.

Format and Location of Proposed Disclosure

The proposed disclosures do not need to be made in any specific location; however, the general expectation is that the disclosures will be made with the other executive compensation disclosure (likely following the Summary Compensation Table).

The new rule would require issuers to disclose the following information in a new table:

1.    Summary Compensation Table Total for the Principal Executive Officer;

2.    Compensation “Actually Paid” to the Principal Executive Officer (discussed below);

3.    Average Summary Compensation Table Total for the remaining Named Executive Officers;

4.    Average Compensation “Actually Paid” to the remaining Named Executive Officers;

5.    Total Shareholder Return; and

6.    Peer Group Total Shareholder Return (discussed below).

Executives Covered

The proposed rule will require disclosure of information about the same executive officers for whom compensation disclosure is required in the Summary Compensation Table.

Determination of “Executive Compensation Actually Paid”

Executive compensation “actually paid” will be total compensation as reported in the Summary Compensation Table, modified by amounts from the following sources:

  • Equity Awards: Considered actually paid on the date of vesting and valued at fair market value on that date, rather than fair market value on the date of the grant as required in the Summary Compensation Table; and
  • Pension Benefits: The change in the actuarial present value of all defined benefit and pension plans would be deducted from the Summary Compensation Table total, as long as such value is positive.

Measure of Performance (Total Shareholder Return)

In determining its and its peers’ total shareholder return, an issuer should use the definition of total shareholder return from the performance graph required pursuant to Item 201(e) of Reg. S-K, and may use either the peer group used for purposes of that performance graph or a peer group used in the compensation discussion and analysis (CD&A) for purposes of disclosing registrants’ compensation benchmarking practices (which really ought to be similar peer group lists, except in unusual circumstances).

Exempted Companies

Emerging growth companies (as defined under the 2012 JOBS Act), foreign private issuers and registered investment companies will not be required to make the pay-versus-performance disclosure.  

Smaller Reporting Companies

While smaller reporting companies (generally those with a public float of less than $75 Million) will be required to make the pay-versus-performance disclosure, such companies can provide scaled-back disclosures, as follows:

1.    Only need to provide the required disclosure for the three most recently completed fiscal years. On the other hand, other registrants will have to provide the disclosure for the five most recently completed fiscal years;

2.    Not required to disclose amounts related to pensions for purposes of disclosing executive compensation “actually paid”; and

3.    Not required to present a peer group total shareholder return, as smaller reporting companies are not subject to the performance graph requirement of Item 201(e) of Reg. S-K.

Conclusion

The expanded, more specific pay-versus-performance disclosure rule is intended to provide shareholders with information to help them assess a registrant’s executive compensation when they are exercising their rights to advisory votes on executive compensation (“say-on-pay”). In addition, the disclosure is intended to give shareholders a new metric for assessing a registrant’s executive compensation relative to its financial performance. 

A relatively small percentage of reporting companies currently provide a pay-versus-performance disclosure, so the new rule will definitely lead to more work for registrants.  However, it’s anyone’s guess as to how much of an impact this newly-disclosed information will have on investors. Little of the required information is not already to be found in an issuer’s public filings, and it is unlikely that this new disclosure would have a significant impact on the attitude of an investor (particularly a sophisticated institutional investor) in its analysis regarding the advisory “say-on-pay” votes, the approval of executive compensation plans or the election of directors.

Nonetheless, registrants will have some time to prepare for and ease into these new disclosures, as the proposed rule will be phased in over three years, with only three years of disclosure initially required.

The proposed rule is currently pending a 60-day comment period.

Click here to download a full copy of the proposed rule: Pay Versus Performance

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