Compensation Committee Corner : Executive Compensation Lawyer & Attorney : Winstead Law Firm : Director Liability, Employee Benefit Arrangements

Over the last week I discussed clawbacks (Post 1 of 8), say-on-pay voting requirements and a new prohibition on certain votes from brokers (Post 2 of 8) under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the "Act"), signed into law by President Obama on July 21, 2010.  As stated in those prior posts, the Act contains significant executive compensation and corporate governance rules that apply to most public companies.  This Post 3 of 8 discusses a new requirement under the Act relating to golden parachute payments.

New Disclosure and Vote Requirement on Golden Parachute Payments

In addition to the new say-on-pay requirement discussed in a prior post (Prior Post), certain payments to named executive officers ("NEOs") in mergers and acquisitions must be adequately disclosed in the proxy or consent solicitation materials and submitted to the shareholders for their approval in the form of a non-binding shareholder resolution.  The disclosure must:

• Describe in clear and simple terms any compensation arrangements with NEOs that are related to the transaction.
• Describe the aggregate amount of all compensation that will or could be paid to the NEOs (including any conditions to payments).  AND
• Include a separate non-binding advisory vote to approve the payments (though a separate vote is not required if the arrangements were previously subject to a say-on-pay vote).

Effective Date

The above disclosure and vote requirements apply to shareholder meetings that occur after January 21, 2011.

Issues to Consider

Some of the issues a company should consider when implementing the above include:

• Consider reviewing current payment arrangements with NEOs to determine whether any golden parachute payments are aligned with the company's current compensation philosophy.  This should include a review of all prospective payments, including payments derived from employment agreements, incentive plans, bonus programs, etc.
• Once a list of prospective payments is compiled, the next step is to ensure the payments will be adequately disclosed in accordance with rules to be issued by the SEC.  It may be that the disclosure rules will resemble current requirements under Item 402(j) of Regulation S-K.
• Once the SEC issues disclosure rules, a determination should be made as to whether any prospective golden parachute payments should be disclosed and submitted to the shareholders for a say-on-pay vote prior to any known merger or acquisition.  Such prior disclosure and vote could avoid having to obtain additional disclosure and vote at the time of a merger or acquisition.

Over the next few months the SEC will likely provide guidance on the above disclosure and voting rules.  Until then, stay tune for more posts on the Act (Posts 4 through 8)!

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A few days ago I discussed clawbacks (Post 1 of 8) under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the "Act"), signed into law by President Obama on July 21, 2010.  As stated in that prior post, the Act contains significant executive compensation and corporate governance rules that apply to most public companies.  This Post 2 of 8 discusses a say-on-pay requirement under the Act (the other say-on-pay requirement applies to golden parachute payments and will be addressed in Post 3 of 8) and a new prohibition on the ability of brokers to vote on compensation-related matters.

New Say-on-Pay Requirement

Under the Act, shareholders of most public companies must be provided with a non-binding advisory vote on executive compensation as disclosed under SEC rules.  Specifically: 

• A vote is required at least once every three years, beginning with the first shareholder meeting that occurs after January 21, 2011.  In other words, say-on-pay will be required for many public companies this upcoming proxy season.
• At this first annual meeting, the shareholders must also decide on whether the vote should be held every one, two or three years (thereafter a vote on frequency must be held by a separate resolution no less often than every six years). 

New Prohibition on Certain Votes from Brokers

The Act requires national securities exchanges to prohibit brokers from voting on executive compensation matters (including say-on-pay), director elections and any other significant matter (as determined by the SEC). 

Effective Date

Say-on-pay votes apply to shareholder meetings that occur after January 21, 2011.  The rule prohibiting certain discretionary voting by brokers is effective July 21, 2010.

Issues to Consider

There are many issues a company should consider when implementing say-on-pay, and even more if the company has a large percentage of retail shareholders.  These include:

• How should a company revise its proxy statement to incorporate the mechanics of the say-on-pay mandate?  How should it frame the resolution?  Should the board of directors make a recommendation on the frequency of the vote? 
• Consider whether a company should make changes to its CD&A and tabular disclosure since shareholders will now be voting on its overall disclosure.
• Assuming retail shareholders typically vote with management, it would follow that the influence of institutional shareholder advisory services (e.g., RiskMetrics Group, Glass Lewis) could be disproportionately increased if the beneficial owners of the shares do not provide voting instructions to the retail shareholders.  This means a company may want to revisit its ability to comply with mandates set by shareholder advisory services (e.g., review change in control policies, employment agreements, separation pay arrangements, etc.).
• For those companies with a large percentage of retail shareholders, consider implementing ongoing educational campaigns with shareholders and beneficial owners to explain the company's compensation programs and educate beneficial owners that a failure to provide the broker with specific instructions would be the equivalent of a "no vote."
• Though say-on-pay is "nonbinding," keep in mind that compensation committee members would need to react to a failed say-on-pay proposal or risk receiving withhold votes during their reelection.  Last proxy season the shareholders of three companies voted against management say-on-pay proposals (KeyCorp, Occidental Petroleum and Motorola).  It could happen.

Given the number of action items a public company will need to consider or implement, the best advice is to prepare early, especially if shareholder educational campaigns need to be conducted.  Until then, stay tune for more posts on the Act (Posts 3 through 8)!

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The legislation I have been following (Prior Post 1, Prior Post 2) is no longer a bill sitting on the steps of Capitol Hill.  On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the "Act").  The Act represents significant legislation containing executive compensation and corporate governenance rules that apply to most public companies.  Due to the significance of the Act and the fact blog entries are not intended to be lengthy, I will address the Act in 8 separate entries, beginning with clawbacks.

New Clawback Requirement More Expansive than Section 304 of SOX

As a listing requirement, national securities exchanges will require companies to implement clawback policies (a.k.a. recoupment policies) that are more expansive than current requirements under Section 304 of the Sarbanes-Oxley Act (“Section 304”).  Under the Act:

• The clawback policy must be triggered any time the company prepares an accounting restatement resulting from material noncompliance with any financial reporting requirement (in contrast, Section 304 applies only when a restatement of financial statements is “required” and is the result of “misconduct”).
• Once the clawback policy is triggered, it would apply to all incentive-based compensation paid to current and former executive officers (in contrast, Section 304 applies only to the CEO and CFO).
• The look back period for which incentive-based compensation is subject to clawback is the three-year period preceding the date on which the restatement is required (in contrast, the look back period under Section 304 is twelve months).
• The amount subject to the clawback is the difference between the amount paid and the amount that should have been paid under the accounting restatement.

Effective Date

No deadline was provided within which national securities exchanges must implement this rule.

Issues to Consider

Previously (Prior Post) I set forth issues that should be considered in designing clawback policies.  Due to the Act's requirements, I am updating that Post with the following:

• Clawback policies should be revisited to determine what changes would be required under the Act.
• Determine “who” should be responsible for clawback enforcement (e.g., a risk assessment officer, the compensation committee, the full board of directors) and what repayment procedure should be used once a clawback is triggered.
• Determine whether the clawback policy should be more expansive than required under the Act.  For example, consider adding more events that would trigger the clawback than currently required under the Act, such as poor performance, violation of noncompetes, negligence, etc.  As I previously addressed (Prior Post), one reason for a strong clawback policy is that it can act as a mitigating factor to negate risk assessment disclosure under recent SEC rules (which require narrative disclosure of compensation policies and practices that are “reasonably likely” to have a “material adverse effect” on the company). Plus, a strong clawback policy acts as positive CD&A disclosure.
• The above should involve a current analysis and review of all compensation arrangements between a company and its executive officers (e.g., employment agreements, bonus arrangements, equity awards) to ensure proper integration between such arrangements and a company's new clawback policy.

 We will likely see more activity in this area as the national securities exchanges begin to implement this rule.  Until then, stay tune for more posts on the Act (Posts 2 through 8)!

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 It looks like Senator Dodd's bill entitled "Restoring American Financial Stability Act of 2010" (PDF, pages 1056-1090) finally got its legs in that it was approved by the Senate on May 20, 2010 (though a copy of the bill did not become available to us until last week).  The purpose of this Post is to highlight some of the compensation and corporate governance changes within the Senate bill that would affect public companies. 

Reconciliation

In July 2009 the House of Representatives passed the Corporate and Financial Institution Compensation Fairness Act of 2009, which was introduced by Representative Frank (the "Frank Bill").  In December 2009 the House passed the Wall Street Reform and Consumer Protection Act of 2009, which incorporated a variety of bills, including the Frank Bill.  The Senate bill will have to be reconciled with the House bill.  It may be a few months before legislation is enacted. 

Overview of the Senate Bill

As discussed in a prior post (Prior Post), the compensation and corporate governance provisions of the Senate bill and House bill are similar in many respects.  Thus, the following is intended to highlight the more significant provisions under the Senate bill: 

• Say-on-Pay.  Say-on-pay provides shareholders of public companies with a non-binding vote on the compensation of named executive officers.  This is not a new development in terms of proposed legislation and is similar to the House bill. 
• Discretionary Voting by Brokers.  Discretionary voting by brokers in connection with executive compensation matters (including say-on-pay) and other "significant matters" would be eliminated absent specific instructions from the beneficial owner.  This provision is not present in the House bill.  If this provision survives reconciliation, it is likely to result in fewer shares of retail shareholders being voted absent a specific effort by issuers to educate their shareholders that voting is necessary.
• Majority Voting.  This provision would generally require a board member to tender his resignation if his election was uncontested and he failed to receive a majority of the votes cast. 
• Pay v. Performance.  The annual proxy statement would have to describe the relationship between compensation actually paid and the financial performance of the company.  This could be disclosed in a graph or pictorial.
• Clawbacks.  Continued listing on a national securities exchange would require the issuer to develop a clawback policy more robust than currently required under Section 304 of Sarbanes-Oxley.  The more robust clawback policy would (i) include all executive officers (not just the CEO and CFO), (ii) eliminate the requirement that a clawback be triggered due to "misconduct," and (iii) expand the period covered from 12 months to 3 years. 

More posts will follow as this legislation develops.  Till then, if you would like to learn more about the differences between the House and Senate bills, you can sign up for our free webinar entitled "Hot Topics in Executive Pay," to be held at 10:00 am (CST) on June 9, 2010.  Sign up can be found at http://www.winstead.com/AboutWinstead/ContinuingEducationWebinarSeries/CompensationBenefits.

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Over the years I have seen a number of poor practices and procedures associated with granting equity to key employees of a public company.  The purpose of this Post is to highlight some (not all) basic rules that public companies should consider when granting equity.

Authority to Effectuate Grants

Absent a valid delegation, only the board of directors has authority to grant equity.  If no delegation exists, the compensation committee may only make recommendations to the board.  The following assumes a valid delegation to the compensation committee exits.

Delegation from the Compensation Committee

Typically the compensation committee charter and the equity plan document that was approved by the company's shareholders will allow the compensation committee to delegate its granting authority to an inside director or a non-director officer of the company.  I generally disfavor such delegations.  My thought is that the administrative burdens associated with the compensation committee acting through written consent resolutions is not high enough to warrant additional delegations.  However, I do recognize there are instances where delegations to an inside director or a non-director officer of the company may be appropriate (e.g., in connection with routinely granting equity to new hires who are not executive officers and where the equity is granted within a limited period of time from the date of hire).  If a delegation from the compensation committee is appropriate, the following points should be considered:

• Delegations must comply with applicable state law. 
• Delegations should be governed by a written equity grant policy (the "Policy") that was approved by the compensation committee and/or the board.
• The Policy should include a reporting mechanism to the compensation committee of all equity grants.  To avoid "date of grant" issues discussed below, the Policy should clearly state that only a "reporting" to the compensation committee is required (i.e., no ratification or approval by the compensation committee is required).
• Attached as exhibits, the Policy should contain award agreements that were pre-approved by the board or the compensation committee.  This will help to avoid successful arguments that delegated awards contained favorable definitions and terms not previously approved by the board or the compensation committee.
• The Policy should specify the total number of awards (individually and collectively) that may be made pursuant to the delegation.
• Delegations should exclude the ability to make grants to those who are Section 16 insiders as of the date of grant (i.e., compliance with Rule 16b-3 (Link) requires the full board of directors or a committee of two or more non-employee directors to approve in advance all grants to Section 16 insiders).
• Delegations should exclude grants to those who would be "covered employees" as of the exercise date (if a stock option) or vesting date (if a stock grant) (i.e., compliance with the performance-based exemption under Section 162(m) of the Internal Revenue Code requires such grants to be approved in advance solely by two or more outside directors).

Determining the Date of Grant

Another issue to consider is the date of grant.  An accurate date of grant is important to support accurate accounting charges and to avoid adverse tax consequences under Section 409A of the Internal Revenue Code.

The date of grant is generally the date the board or the compensation committee "approves" a grant containing "definitive terms."  If the board or the compensation committee acts prior to knowing the definitive terms, then the date of grant would typically be the date all definitive terms become known.

• For purposes of the above, a grant is "approved" on the date the board or the compensation committee acts pursuant to written minutes.  If instead the board or the compensation committee acts pursuant to unanimous written consent resolutions, then the grant is approved on the date of the last signature.
• Generally, definitive terms include the identity of the recipient, the number of shares subject to the award, the vesting schedule and the exercise price (if applicable).

Again, this Post does not cover all of the instances in which sloppy equity grant practices arise, however, it does cover the issues I see on a more frequent basis.

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I spent a fair amount of time this proxy season advising public companies on nuances associated with net-exercised stock options and/or stock-settled stock appreciation rights ("SARs").  The purpose of this Post is to highlight some advantages and disadvantages of these types of awards.

Background

In the stock option context, a net-exercise is similar to a broker-assisted cashless exercise except in the former there is no open market transaction.  Instead, a portion of the exercised shares equal in fair market value to the exercise price is tendered to the company in lieu of paying the exercise price in cash.  For example, assume a holder is granted a stock option to acquire 8 shares of stock with an exercise price of $1.00 per share (its then fair market value).  Assume further that at the time of exercise the fair market value of the underlying stock is $4.00 per share.  In this example, a net exercise means the holder would tender 2 of the 8 shares of common stock to the company in exchange for paying the exercise price of $8.00.  Immediately thereafter the holder would own 6 shares of common stock having a then fair market value of $24.00.

Stock-settled SARs generally provide the holder with a number of shares of stock equal in fair market value to the accumulated appreciation in the underlying stock from its fair market value at the date of grant; however, unlike net-exercised stock options, no shares are tendered to the company with stock-settled SARs.  Using the above example, the accumulated appreciation of the underlying stock from the date of grant would also provide the holder with 6 shares of common stock (i.e., $24.00 of accumulated appreciation divided by $4.00 per share). 

Advantages 

Compared to stock options utilizing a cashless exercise feature, the advantages of using net-exercised stock options and/or stock-settled SARs generally include:

• Assuming the plan document contains appropriate share counting provisions, the life expectancy of the share reserve under the plan should be longer because a lesser number of shares are issued.  This could lessen the frequency within which shareholders are asked to increase the plan's share reserve.
• Reduced shareholder dilution because only the net shares are considered issued and outstanding.
• The holder receives the same economic benefit as stock options with a cashless exercise feature. 
• Broker fees associated with cashless exercises are avoided.
• There could be less problems associated with insider trading blackout periods since net-exercises and/or stock-settled SARs do not use open market transactions.
• More favorable treatment in calculating basic earnings per share.  

Disadvantages 

Compared to stock options utilizing a cashless exercise feature, the disadvantages of using net-exercised stock options and/or stock-settled SARs generally include:

• Company may have decreased cash flow because no monies are paid to the company in conjunction with an exercise.
• The holder may be unable to obtain favorable incentive stock option treatment.
• Depending on the underlying facts, it may become more burdensome for the company to satisfy its withholding obligation.
• Shareholder advisory services such as RiskMetrics Group might assign a higher cost to the awards than it would traditional stock options. 

Given that many of the disadvantages could be lessened with careful planning, companies should consider whether it makes sense to utilize net-exercised stock options and/or stock-settled SARs.  At least don't wait until next proxy season!!

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Yesterday Senator Dodd (Chairman of the Senate Banking Committee) introduced the "Restoring American Financial Stability Act of 2010" (PDF), yet another piece of legislation to address perceived abuses in executive compensation.  As I read all 1,336 pages of the bill (just kidding, the executive compensation provisions are contained in pages 868 through 900), I noticed that many of the issues addressed are substantially similar to prior bills introduced over the last 12 months.  I thought readers might benefit from a summary of the most repeated issues.

Background on Recent Legislation

The following are the more significant items of legislation that was introduced or passed within the last 10 months or so.

• On May 19, 2009, Senator Schumer introduced the "Shareholder Bill of Rights Act of 2009."
• On July 22, 2009, Senators Levin and McCain introduced "Ending Excessive Corporate Deductions for Stock Options Act."
• On July 31, 2009, the House of Representatives passed the "Corporate and Financial Institution Compensation Fairness Act of 2009," which was introduced by Congressman Frank.
• On November 10, 2009, Senator Dodd (with 8 other Senators, including Senator Schumer) introduced the "Restoring American Financial Stability Act of 2009," which was referred to the Senate Banking Committee.
• On February 26, 2010, Senator Menendez introduced the "Corporate Executive Accountability Act of 2010."
• On March 15, 2010, Senator Dodd introduced the "Restoring American Financial Stability Act of 2010."

Summary of Certain Issues Repeatedly Addressed

It is not certain which legislation or issues will become law, however, it is safe to assume any such law would include some or all of the following issues (not intended as an exhaustive list):

• Say-on-Pay.  This is an obvious one.  It would require a public company to provide its shareholders with an annual non-binding vote on all compensation disclosed in the proxy statement.  In some cases a separate non-binding vote would apply to change-in-control payments and any related gross-ups.
• Independence of Compensation Committee Members.  It would require the SEC to bolster its rules relating to independence of compensation committee members.  Additionally, it would require independence of those hired by the compensation committee (as opposed to the new SEC proxy disclosure rules which attempt to influence such behavior through disclosure). 
• Clawbacks.  It would amend Section 304 of SOX to (i) include all executive officers (not just the CEO and CFO), (ii) eliminate the requirement that a clawback be triggered due to "misconduct," and (iii) expand the period covered from 12 months to 3 years.  As indicated in a previous post (Prior Post), there are a few deficiencies within Section 304 of SOX that could be bolstered either through enacted legislation or by proactive efforts of compensation committees, preferably the latter. 

The following are not repeated among the various bills, but listed because they are somewhat interesting (not intended as an exhaustive list):

• CD&A Pay Comparisons.  Senator Dodd's bill would require a graph or pictorial showing the relationship between executive compensation actually paid and the financial performance of the company.  Senator Menendez's  bill would require a comparison of the CEO's pay to the median pay of all employees, disclosed in the form of a ratio.     
• Stock Options.  Senators Levin/McCain's bill would limit tax deductions for stock options to the amount expensed under ASC Topic 718 (formerly FAS 123R).  Additionally, it would eliminate stock options from qualifying as "performance-based" compensation under Section 162(m) of the Internal Revenue Code of 1986, as amended.  

It is likely there will be some form of enacted legislation this year.  So stay tuned!   

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The purpose of this Post is to highlight issues that compensation committee members should consider when designing an effective "clawback policy" for compensation paid to certain executive officers.

Background

A clawback policy (also known as a "recoupment policy") generally refers to a company's ability to recover compensation it paid to an employee (or former employee) due to a specific triggering event.  Effective clawback policies can provide positive CD&A disclosure, are generally considered shareholder friendly by shareholder advisory services such as RiskMetrics, and can help negate "materiality" under the new SEC risk assessment disclosure rules (Prior Post).

Section 304 of SOX May Not Be Sufficient

Under Section 304 of the Sarbanes-Oxley Act of 2002 ("Section 304"), the CEO and CFO of a public company are required to reimburse the company for certain cash and equity compensation received (and any profit realized) during the 12-month period following the company's first issuance or filing of erroneous financial statements.  However, Section 304 has a number of deficiencies, including:

• Only the CEO and CFO are covered. 
• Clawbacks are mandated only when the company is "required" to restate its financial statements (it is not always clear whether a restatement is required, e.g., consider whether a restatement to follow advice of a new accounting firm would be considered voluntary or required).
• Clawbacks are triggered only as the result of "misconduct," which is not defined.
• Only the SEC can bring an action against the CEO and/or CFO (i.e., private plaintiffs such as a company or its shareholders cannot bring a claim under Section 304 against the CEO and/or CFO).

In light of these possible deficiencies, compensation committees should consider implementing a more robust clawback policy.

Issues to Consider When Designing a Clawback Policy

The following are a few issues compensation committees should consider when designing a clawback policy:

• Which employees should be subject to the clawback policy?  Minimally, it should include one or more employees who have influence on critical business issues.  For example, the policy could be designed to cover: (i) the CEO and CFO (comparable to Section 304), (ii) all named executive officers (though this could become burdensome if NEOs change from year to year under the new SEC disclosure rules), (iii) all Section 16 officers, or (iv) all executive officers.
• Should it cover current and/or former employees?
• Which events should trigger a clawback (e.g., restated financial statements, fraud, misconduct, negligence, poor performance, and/or violation of non-competes or other restrictive covenants)?
• Should the policy require the executive to have some culpability or should the culpability of a subordinate be sufficient?
• What compensation should be subject to clawback (e.g., cash payments, equity, etc.)?  Should it include profit (e.g., recover any profit arising from sale of stock options)?
• Who should be responsible for enforcement (e.g., a risk assessment officer, the compensation committee, the full board of directors)? 

To conclude, increased compensation governance standards, public outrage over perceived compensation abuses and prospective say-on-pay mandates are just a few of the reasons compensation committees should discuss implementing or bolstering clawback policies prior to their upcoming annual meeting.

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New SEC rules require narrative disclosure of compensation policies and practices that are "reasonably likely" to have a "material adverse effect" on the company. The purpose of this Post is to highlight that implementation (or increased use) of mitigating factors could negate risk assessment disclosure while simultaneously bolstering a company's compensation governance practices.

Background

On December 16, 2009, the SEC adopted final rules (Prior Post) that broaden executive compensation disclosure within proxy statements and annual reports. The new disclosure rules are generally effective February 28, 2010 (Prior Post).

One requirement of the new rules is that a company must provide narrative disclosure of compensation policies and practices that are "reasonably likely" to have a "material adverse effect" on the company. An important point is that no disclosure is required unless the materiality threshold is satisfied (though financial institutions participating in TARP are subject to different requirements).

Mitigating Factors

A risk assessment should be conducted to determine whether the materiality threshold is satisfied. This assessment should (i) focus on individuals (and groups of employees) who could cause risk to the company, and (ii) identify features of compensation programs that could entice executives (or groups of employees) to take risks that might threaten the company's value.

However, these risks (and the subsequent "materiality" analysis) should be balanced against mitigating factors such as:

• stock ownership guidelines that require an employee or director to own a meaningful amount of equity in the company until some future date (e.g., retirement, termination of employment);
• clawback provisions or policies that are more stringent than currently required under Section 304 of the Sarbanes-Oxley Act of 2002; and/or
• compensation limits or caps to ensure an employee's total pay does not exceed acceptable levels.

In addition to helping negate risk assessment disclosure, the above mitigating factors (and others not addressed above) are a form of good compensation governance (and positive CD&A disclosure) that every compensation committee should consider implementing or enhancing this proxy season.

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As publicly held companies prepare for their annual meetings, consideration should be given to whether or not performance goals within certain incentive compensation arrangements should be re-approved by their shareholders.  This is a worthwhile endeavor because failure to comply with Section 162(m) of the Internal Revenue Code of 1986, as amended, could result in a loss of deduction associated with certain executive officer pay.

As background, Section 162(m) generally provides that compensation paid by a public company to a covered employee is not deductible to the extent it exceeds $1,000,000 ("$1mm"); however, an exemption to the $1mm limit applies for performance-based compensation that satisfies certain conditions (the "Exemption").  One such condition is that the material terms of the performance goals must be disclosed and approved by the company's shareholders before the underlying compensation is paid.

However, if the compensation committee has the authority to change the targets under a performance goal after shareholders approved the goals (which is often the case), then ". . . the material terms of the performance goal must be disclosed to and reapproved by shareholders no later than the first shareholder meeting that occurs in the fifth year following the year in which shareholders previously approved the performance goal."  See Treas. Reg. 1.162-27(e)(4)(vi).  In other words, approximately every five years the shareholders would have to re-approve the performance goals in order for the Exemption to apply (i.e., to protect the deductibility of compensation paid to covered employees that exceeds $1mm).  

Shareholder approved performance goals are typically contained within equity incentive plans, long-term incentive plans (LTIPs), annual bonus programs/plans, and in rare instances, employment agreements.  So don't forget to at least consider the issue! 

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Moving into the 2010 proxy season, companies may want to consider 2010 Policy Updates recently issued by RiskMetrics Group (PDF) and their related Frequently Asked Questions (PDF) (collectively, the "Policy Updates").  Consideration of the Policy Updates may be particularly warranted for NYSE companies because RiskMetrics and/or institutional shareholders may have increased influence this proxy season due to changes under NYSE Rule 452 (PDF) (i.e., the elimination of discretionary voting by brokers in uncontested director elections).

Under the Policy Updates there is a continued emphasis on pay for performance.  For example, a company should consider whether a negative correlation exists between CEO pay and company performance.  According to the Policy Updates, such a negative correlation may exist if:

• the company's one- and three year total shareholder returns ("TSR") are in the bottom half of the company's Global Industry Classification Group, and
• the CEO's total compensation has increased in the last year-over-year.

If a negative correlation exists, then RiskMetrics will assess (over a time horizon of five years) the CEO's total compensation relative to the company's TSR, with the most recent year being a key consideration.

The Policy Updates also provide that a company should ensure its compensation arrangements do not constitute "poor pay practices," which according to RiskMetrics include: 

• pay that encourages excessive risk taking,
• multi-year employment contracts,
• excessive bonus payouts,
• excessive perquisites,
• excessive severance provisions, and 
• gross-ups.

There are other changes to the Policy Updates that make it a worthwhile read for any compensation committee member, especially since RiskMetrics may recommend a negative vote on the re-election of compensation committee members if pay for performance is not correctly aligned or poor pay practices exist.

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On December 16, 2009, the SEC adopted final rules (PDF) that broaden executive compensation disclosures within proxy statements and annual reports. The new rules are effective on February 28, 2010, just in time for the 2010 proxy season.

As a summary, the final rules generally:

• expand director qualification disclosures,
• require a description of the board's role in risk oversight and an explanation of its leadership structure (e.g., whether it combines the CEO and Chairman positions),
• require disclosure of certain fees paid to compensation consultants,
• require a discussion of compensation risk management policies that are "reasonably likely to have a material adverse effect on the company", and 
• change the valuation of equity awards reported in the Summary Compensation Table and Director Compensation Table (from the accounting expense recognized during the year to the grant date fair value).

Though the final rules are straight forward and for the most part consistent with the proposed rules, companies should review these rules to determine whether immediate action is required. For example, director and officer questionnaires will likely need to be revised, the company may need to gather information on engagements with its compensation consultants, and it is possible that using the grant date fair value of equity awards may change the identity of a company's named executive officers for 2009.

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