SEC signals shift in executive pay disclosure rules
Paul Atkins has wasted little time in his first year in charge of the Securities and Exchange Commission (SEC) – and shows little to no sign of slowing down next year.
In a speech at the New York Stock Exchange this week, Atkins said disclosure reform – specifically around executive compensation – was one of three pillars, alongside depoliticizing shareholder meetings and raising the threshold for securities litigation, of his “plan to make IPOs great again.” That should come as little surprise, given Atkins described the current disclosure requirements as “a Frankenstein patchwork of rules” in his opening statement at an SEC roundtable in June featuring experts from asset managers, legal and compensation consulting firms, and several large-cap issuers.
What might make it into the SEC’s reforms is harder to predict. After all, the agency has yet to complete all the rulemaking requirements from the 2010 Dodd-Frank Act, the Congressional response to the global financial crisis, despite having introduced pay-versus-performance (PVP), a clawback rule, and pay ratio and committee disclosure requirements.
Investors, issuers, and advisors are understandably divided over what steps to take, even if there is more agreement than disagreement over the excessive length of compensation disclosure and analysis (CD&A) sections of proxy statements.
At the heart of executive compensation disclosure are a handful of paradoxes. For one, everyone wants plain English explanations of something oft best conveyed numerically, but where numbers are hard to reconcile by changing circumstances. And while investors often want simpler compensation structures, issuers frequently reply that complexity is introduced to meet the approval of proxy advisors who base their analysis on rules derived from investor voting preferences.
Nonetheless, some broad themes emerge from comment letters and the signals the SEC itself has sent out.
Atkins has said he wants smaller companies – such as those with a public float of $250 million or less – to face less onerous disclosure requirements than bigger companies. He referenced the JOBS Act, which allowed newly listed companies to provide streamlined CD&A disclosures – a provision utilized by 77% of so-called emerging growth companies that went public in the year after the law came into effect.
Other flash points are likely to be pay-versus-performance (PVP), named executive officer (NEO), perquisites, and summary compensation table disclosures. Among other things, comment letters have beseeched the SEC to reduce the number of NEOs that need to be included in disclosures, which would likely appeal to Atkins’s more stringent definition of materiality, and offer an alternative to the proliferation of equity-related tables.
PVP, which is one of the SEC’s more recent introductions, is likely to be a tougher fight despite introducing complexity to the CD&A. The Council of Institutional Investors (CII) warns, for example, that non-GAAP financial measures should be subject to the same quantitative reconciliation as GAAP financials, which would tighten rather than weaken the SEC’s disclosure requirements.
Non-governmental organizations or liberal-leaning campaign groups which support the pay ratio, PVP and certain perquisite disclosures may carry less weight with a Republican-majority SEC. But it will be interesting to see whether the SEC takes a slash-and-burn approach to the disclosure requirements, puts the onus on Congress to repeal elements of Dodd-Frank, or opts for some technical tweaks.
One more paradox looms. Many participants urge the SEC to shift from prescriptive rules to a more principles-based approach. Yet principles-based disclosure is not inherently simpler. When companies are freed from checklists, they may feel compelled to justify their choices at length. In pursuit of flexibility, disclosure could actually become longer, more subjective, and more burdensome.
