Yesterday, December 16, 2009, the Securities and Exchange Commission ("SEC") voted to approve final amendments to the proxy disclosure and solicitation rules, enhancing executive compensation and corporate governance disclosures for public companies, including operating companies and registered investment companies (the "Final Rules"). As with the proposed regulations (the "Proposed Rules") that we described in our July 15 and 16, 2009 Executive Compensation Alerts, the amendments are applicable to proxy and information statements, annual reports, and registration statements under the Securities Exchange Act of 1934, and registration statements under the Securities Act of 1933 and Investment Company Act of 1940. The new rules are effective on February 28, 2010, although there is some confusion as to whether the rules should be interpreted to apply to proxies filed, or only to annual meetings held on, or after, that date. While awaiting clarification on that point, however, public companies should immediately begin analyzing these rules in anticipation of the 2010 proxy season.

The most significant enhanced disclosures are briefly described below:

Company's Overall Compensation and Risk Policies. The Final Rules require companies to include separately in their proxy statement a new section discussing the company's policies and practices of compensating its employees, including non-executive officers, as they relate to risk management practices and risk-taking incentives to the extent that risks arising from such policies and practices are "reasonably likely" to have a material "adverse" effect on the company. The Final Rules reflect a stricter standard for disclosure, triggered where a risk is "reasonably likely" to have a material "adverse" effect on a company. In contrast, such disclosure under the Proposed Rules would have been required where a risk "may have" a material effect (not adverse) on the company. The Final Rules also remove this disclosure out of the Compensation, Discussion, and Analysis, as proposed in the Proposed Rules. Any company that has not already begun a risk management analysis of its compensation policies should focus on this issue as soon as possible.

Annual Stock and Option Awards to Company Executives and Directors. The Final Rules revise the Summary Compensation Table and Director Compensation Table disclosure of stock awards and option awards to require disclosure of the aggregate grant date fair value of such awards. This replaces the currently mandated disclosure of the dollar amount recognized for financial statement reporting purposes, and reverts to the original standard proposed by the SEC in 2006, when the compensation disclosure rules were last significantly expanded. For purposes of the Summary Compensation Table, companies with fiscal years ending on or after December 20, 2009 are required to present recomputed disclosure for each preceding fiscal year required to be included in the table, so that the stock awards and option awards columns present the applicable full grant date fair values, and the total compensation column is correspondingly recomputed. Further, the value of performance awards reported in the Summary Compensation Table, Grants of Plan-Based Awards Table, and Director Compensation Table are to be computed based upon the probable outcome of the performance condition(s) as of the grant date rather than the amount payable for maximum performance. The SEC stated that such disclosure will better reflect how compensation committees take performance-contingent vesting conditions into account in granting such awards. To provide investors additional information about an award's potential maximum value subject to changes in performance outcome, the Final Rules also require in the Summary Compensation Table and the Director Compensation Table footnote disclosure of the maximum value of performance awards assuming the highest level of performance conditions is probable.

Qualifications of Directors, Executive Officers and Nominees. The Final Rules expand the disclosure requirements for director candidates. Specifically, for each director or director nominee, the company must discuss (i) the specific experience, qualifications, and attributes/skills that led the board to conclude that the person should serve as a director, in light of the company's business and structure (ii) any directorships held during the past five years at other public companies (rather than only current directorships), and (iii) certain legal proceedings involving directors, executive officers, and nominees over the past ten years (increased from five years). The Final Rules also expand such disclosure by requiring companies to disclose whether they have a policy for considering "diversity" in identifying director nominees, and if so, how this policy is implemented and how the company assesses the effectiveness of this policy.

Board Leadership Structure. The Final Rules require companies to discuss their board's leadership structure, such as whether the same person serves as both principal executive officer and chairman of the board, or whether two individuals serve in those positions. If one person serves as both principal executive officer and chairman of the board, or if the chairman of the board, the company must disclose whether it has a lead independent director and what specific role the lead independent director plays in the leadership of the board. The disclosure must also indicate why the company has determined that its leadership structure is appropriate given the specific characteristics or circumstances of the company. Companies also must discuss the board's role in the company's risk oversight process (e.g., does the board implement and manage its risk oversight function itself or through a separate risk committee or the audit committee) and the effect that this has on the board's leadership structure.

Compensation Consultants. In addition to the current requirement under Item 407 of Regulation S-K to describe the role of compensation consultants in determining or recommending the amount or form of executive and director compensation, the Final Rules require fee disclosure related to the retention of a compensation consultant in certain circumstances. This enhanced disclosure is intended to allow shareholders to better assess whether the company's compensation consultants may have any conflicts of interest.

Generally, the Final Rules provide the following:

  • If the Board or compensation committee has engaged its own consultant to provide advice and recommendations regarding form/amount of compensation and that consultant or any of its affiliates provide other services in excess of $120k, then all fees paid to such consultant (and affiliates) (i.e., both for executive compensation services and other services) must be disclosed. Disclosure will also be required regarding whether the decision to engage the compensation consultant for the additional services was made by management and whether the compensation committee or the Board approved such decision.
  • If the Board does not engage its own outside compensation consultant to provide advice or recommendations regarding form/amount of compensation, and management has engaged a consultant that provides such advice or recommendations and that consultant or any of its affiliates provide other services in excess of $120k, then all fees paid to such consultant (and affiliates) (i.e., both for executive compensation services and other services) must be disclosed.
  • Fee and related disclosure for consultants that work with management (whether for only executive compensation services or for both executive compensation services and other services) is not required if the Board has its own consultant.
  • Services involving only broad-based non-discriminatory plans or the provision of information, such as surveys, that are not customized for the company, or are customized based on parameters that are not developed by the consultant, are not treated as executive compensation consulting services for purposes of these new rules.

Voting Results. The Final Rules transfer the requirement to disclose shareholder vote results from Forms 10-Q and 10-K to Form 8-K, and require a Form 8-K filing disclosing shareholder voting results within four business days after the end of the meeting at which the vote was held.

If you have any questions regarding the Final Rules, how the Final Rules differ from the Proposed Rules, or any other executive compensation disclosure issues, please contact one of the members of Reed Smith's executive compensation and employee benefits team.

This article is presented for informational purposes only and is not intended to constitute legal advice.