United States: SEC Adopts Final Rules On Compensation Committee Listing Standards And Consultant Conflicts Of Interest

On June 20, the SEC adopted final rules implementing the provisions of Section 952 of the Dodd-Frank Act relating to compensation committee independence, the use of compensation advisers and conflicts of interest. The rules become effective 30 days after publication in the Federal Register, although, as discussed below, the listing standards require rulemaking by NYSE and Nasdaq.

Most of the final rule takes the form of a direction to the exchanges to modify their listing standards. The exchanges will be required to propose the standards no later than 90 days after publication of the final rule in the Federal Register, and final listing standards must be in place within one year. The required disclosure about conflicts of interest, on the other hand, is implemented through an amendment to Regulation S-K and will be in effect for annual meetings held after January 1, 2013.

Listing Standards

Compensation Committee Independence. Section 952 requires the SEC to direct the national securities exchanges to adopt rules prohibiting the listing of companies that do not have independent compensation committee members. In determining independence, the exchanges are to consider the sources of compensation of a committee member, including any consulting or advisory fees paid by the issuer, and whether the committee member is an affiliate of the issuer.

The final rule does not stray far from the statute in setting forth the compensation committee independence standards the exchanges must consider. Several points are worth noting:

  • The final rule applies only to issuers that have listed equity securities
  • The independence requirements will apply to directors who make compensation decisions where there is no separate compensation committee
  • The final rule does not specify additional factors beyond those specified in the statute – compensatory arrangements and affiliate status – that the exchanges should consider in defining independence, although in the release the SEC
    • reiterated the belief it expressed in the proposing release that significant stockholdings should not necessarily disqualify someone from serving on a compensation committee
    • "emphasized" that the exchanges should consider ties between a compensation committee member and management in assessing independence.

The rules do not apply to controlled companies, limited partnerships, companies in bankruptcy, open-end investment companies or foreign private issuers that disclose in their annual reports the reasons they do not have an independent compensation committee.

Authority to Retain Compensation Advisers, Oversight and Funding. Dodd-Frank requires that a compensation committee of a listed issuer have the authority to retain compensation consultants, independent legal counsel and other advisers and that it be responsible for the appointment and oversight of such advisers. Listed issuers are also required to provide "appropriate funding" to the compensation committee for payment of "reasonable compensation" to advisers. These provisions are rather unremarkable and some or all of them are already found in many compensation committee charters.

Compensation Adviser Independence. Dodd-Frank requires that the compensation committee of a listed issuer consider independence factors in selecting its advisers. The statute sets forth five factors that a committee must consider:

  • The provision by the adviser of other services to the issuer
  • Fees received from the issuer as a percentage of the adviser's total revenue
  • Policies and procedures of the adviser designed to prevent conflicts
  • The adviser's business or personal relationships with members of the compensation committee
  • Stock of the issuer owned by the adviser

The compensation committee is not required to retain, or seek advice from, only independent advisers. A compensation committee may retain advisers with conflicts; the committee simply must consider independence factors when making retention decisions. This determination must be made by all of the independent directors who make compensation decisions if there is no compensation committee.

The final rule tracks the five statutory independence requirements and adds a sixth. Committees will have to consider, in addition to business or personal relationships with the members of the compensation committee, any such relationships advisers have with executive officers of the issuer.

This consideration applies to any adviser to the compensation committee, whether or not independent, other than in-house legal counsel. Thus, for example, if the issuer's regular outside counsel provides advice to the compensation committee, the committee must consider outside counsel's independence based on the six factors enumerated in the rule. The same would be true if the compensation consultant engaged by management provided advice to the committee. The line between when advice is provided to management and when it is provided to the committee may not always be clear.

The release makes clear that the "stock ownership" assessment will apply to the individuals at a firm who actually provide the advice, not to the entire firm. By contrast, the other services, fees and business and personal relationship analyses must be undertaken firm-wide.

Except for disclosure of conflicts for compensation consultants discussed below, the rules do not require any specific disclosure of the results of the independence consideration or the process by which it is undertaken. However, based on our experience with compensation risk assessments, one can imagine an SEC staff comment on a proxy statement asking whether the compensation committee received the advice of any person or firm other than in-house counsel to the issuer and, if so, what process it employed to assess independence. Compensation committees who obtain such advice should consider using an "independence checklist" to be able to demonstrate that they met the applicable requirements.

Opportunity to Cure Defects. The final rule states that the exchange standards may provide that, if a compensation committee member ceases to be independent for reasons outside the member's reasonable control, the individual may remain on the committee until the earlier of the next annual meeting or one year after the event. This provision is patterned after a similar cure provision for audit committees.

Exemptions from the Listing Standards. As noted above, Dodd-Frank exempts from the compensation committee independence requirements controlled companies, limited partnerships, companies in bankruptcy, open-end investment companies and certain foreign private issuers. Consistent with the statute, the final rule allows the exchanges to exempt particular categories of relationships from the independence requirements and to exempt additional categories of issuers (such as newly listed issuers) from the applicable listing standards altogether.

The statute itself exempts controlled companies from all of the listing standards. In the final rule, the SEC also provided a complete exemption for smaller reporting companies. Although smaller reporting companies will still have to evaluate their directors using the general independence requirements of the listing standards, and thus there may not have been any significant additional burden in assessing additional independence standards, the SEC recognized that the process of assessing adviser independence could be more time-consuming and costly.

Compensation Consultant Disclosure and Conflicts of Interest

Item 407(e)(3) of Regulation S-K currently requires companies to disclose any role compensation consultants had in determining or recommending executive or director compensation. The item excludes disclosure about advice on broad-based plans or non-customized survey data. Dodd-Frank requires the SEC to adopt rules providing for disclosure, in proxy or consent materials for an annual meeting, of whether a compensation committee retained or obtained the advice of a compensation consultant, whether the work raised any conflict of interest and, if so, how it was addressed.

The final rule integrates the new conflict disclosure requirement with the existing requirements to disclose "any role" a compensation consultant played in determining compensation. The SEC elected not to use the "retained or obtained the advice of" language of Dodd-Frank in favor of the "any role" language in existing Item 407(e)(3). Thus, the conflict disclosure will be required about a compensation consultant that management engaged, if that consultant had any role in determining or recommending compensation. The SEC has added an instruction to Item 407 to the effect that in determining whether a consultant's work raised any conflict of interest, the six independence factors described above for advisers "are among" the factors that should be considered.

The conflict of interest disclosure applies only to compensation consultants and not to other advisers, such as outside counsel, that may play a role in the committee's determinations.

The conflict of interest disclosure will be in effect for annual meetings after January 1, 2013.

What to do now?

The compensation consultant conflict disclosure will be in effect for next proxy season. And even though the listing standards will not be in effect for some time, the following are some issues that companies should be thinking about – and doing – to prepare.

  • Independence. Make sure that no compensation committee member is receiving any compensatory payments (other than standard director compensation) – even below the threshold that would currently be permitted without disqualifying the member's independence. If these payments will continue, companies should make plans to find a replacement on the compensation committee. There is not much that can be done presently on the stockholdings/affiliate aspect of independence, other than to hope that the exchanges take the enlightened view the SEC expressed that significant stockholdings should not, on its own, be a disqualification.
  • Compensation Adviser Independence Factors. The SEC has made clear that companies will have to consider the adviser conflict factors set forth in the listing standards when making their compensation consultant conflict disclosure in the proxy statement. So, even though the listing standards may not be in effect for next proxy season, the independence factors will need to be considered if a compensation consultant played any role in determining or recommending compensation. Companies, at a minimum, should use an independence questionnaire for compensation consultants, using the six factors set forth in the final rule. It will likely also make sense to gather this information for all advisers on compensation matters.
  • Compensation Committee Charters. Review the charter of the compensation committee to see whether it has all of the provisions that the listing standards as proposed by the SEC would require. Although things may change with the final adoption of these listing standards by the exchanges, it will help to have identified any changes that will need to be made. If it looks as if an amendment to the charter will be necessary, it may make sense to wait for more clarity on the final listing standards, although they are unlikely to diverge too sharply from the SEC's final rule.

www.ropesgray.com

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions