It’s been just a little over one year since
the Securities and Exchange Commission (SEC) amended its disclosure rules around executive and board pay
packages. The new rules require specific
and more extensive reporting of prequi-sites, pension benefits, equity, non-qualified deferred compensation and compensation-related performance measures than
have been reported in the past. While these
new rules go further than ever before in
revealing just how and how much executives are paid, making more transparent
previously hard-to-find information, it’s
only now that the first year of proxy statements have been filed that the SEC can
make their reviews of the rules’ effectiveness. Recently, the SEC began by issuing
more than 300 letters to companies requesting further information.
CEOs and boards can now begin to anticipate some of the likely changes that the
SEC will require going into year two, says
Ann Costelloe, San Francisco office practice leader of Executive Compensation for
Watson Wyatt Worldwide.
“Certainly the results from implementation of round one of the new disclosure
rules is that we’re getting a much clearer
understanding of the process around executive compensation, including who’s
involved and how the plans operate,” says
Costelloe. “But the proxy filings fell short
of actually establishing the relationship
between pay and performance for the
executives, and when we look to measure
the pay of executives against peer companies with a similar performance, the link
just isn’t clear.”
Smart Business spoke with Costelloe
about what CEOs can learn from the
results following the first year under the
new reporting regulations and what
changes to expect going into year two.
Which disclosure areas scored the worst following round one?
You can look at the proxies and see that
less than 50 percent of the companies reported what the executives’ compensation-related performance goals actually were.
For example, when you review the section
of the proxy that describes the amount of
bonus that the executive was granted in
relation to the firm’s performance objectives and results, it becomes clear that, in
many cases, the companies simply didn’t want to state the specific performance
measurements and goal benchmarks.
Many of the proxy statements weren’t
written in plain English and I think,
because the process was new, many
authors erred on the side of caution and
included more information to the detriment of clear, concise explanation. Also,
many of the proxies failed to consolidate
all of the key information in one single
place where the reader could easily access
it. After this first round, the SEC is going
back to ask for more information about the
performance thresholds that are tied to
executive compensation pay-outs and a
more reader-friendly format.
What were some of the best elements from
the proxies?
The best proxies included an executive
summary that clearly listed what the executive was paid and how the pay-out tied
back to performance in a condensed easy-to-read format. Also, I think after reviewing
the first year’s proxies, the best proxies
resulted from the cumulative work effort
of HR, the legal department and finance.
When the document is created solely by
the legal department, it starts to take on the
characteristics of a legal document and can
become overly wordy and hard to understand from a layman’s perspective. Investors want to see a straightforward and
transparent approach to providing the required information that is easy to understand.
What other trends have emerged in the areas
of plan changes, change in control provisions, retirement or other executive benefits
as a result of the new disclosure rules?
What’s really interesting is that we are
definitely starting to see companies take a
harder look at the business rationale for
these programs. Many companies took a
proactive approach in anticipation of the
new disclosure rules and eliminated some
of the traditional perks, like country club
memberships, post-retirement perquisites
and extra travel benefits. In relation to
change of control provisions, we saw some
organizations begin to make or consider
changes (reductions) to existing arrangements, although generally companies are
holding fast to the contracts that have
already been executed. I think on a go-forward basis, as new contracts are negotiated or new plans are implemented, you’re
going to see a more conservative approach
to severance payments and elimination of
some of the kickers in supplemental executive retirement plans.
What other changes should CEOs expect
around reporting and what else should CEOs
do to prepare for next year?
I think to prepare, companies should
expect to fully explain the link between
executive pay and performance. Many people think that the SEC will have higher
expectations and will demand more rigor
around the metrics that are used to measure executive goals and detail about how
the compensation was actually earned and
how the executive’s performance ties back
to the compensation payment.
It will be important for the proxy author
to understand the differences between the
pay opportunity and the pay that was actually realized by the executive and be able to
articulate it. Most importantly, start early,
involve numerous members of the team in
completing the metrics for the document
and exercise the utmost transparency in
providing the necessary information to
comply with the regulations.
ANN COSTELLOE is the San Francisco office practice leader of
Executive Compensation for Watson Wyatt Worldwide. Reach her
at (415)733-4244 or [email protected].