SEC Open Meeting on Executive Clawbacks
Securities and Exchange Commission
Open Meeting
Wednesday, July 1, 2015
Key Topics & Takeaways
- Approval of Executive Compensation Recovery Proposal: The SEC approved, by a vote of 3-2, a proposal to implement Section 954 of the Dodd-Frank Act, which requires national securities exchanges and associations to adopt listing standards for companies to recover incentive-based compensation erroneously awarded to executive officers.
- Listing Standards and Disclosure Mandate: SEC’s Krauskopf noted that recovery would be required from current and former executive officers who “received incentive-based compensation during the three fiscal years preceding an accounting restatement to correct a material error” on a “no fault” basis. She further highlighted that companies would be required to recover amounts in excess of the amount that would have been received had the determination based on the accounting restatement.
- Benefits vs. Negative Consequences: SEC’s Flannery noted that while the proposed rule would enhance the quality of financial reporting and capital allocation, it could lead to changes to the pay packages of executives to offset the uncertainty generated by the provision.
- Republican Commissioners Concerns: Commissioner Gallagher said both the scope of the definition for executive officers and the scope of the clawback authority is too broad. He also noted the harm that could come to smaller reporting companies and the problems associated with inclusion of total shareholder return metrics. Commissioner Piwowar cautioned that introducing additional uncertainty would have the unintended consequence of executives demanding an increase in compensation to offset the result of the proposal.
SEC Commissioners & Staff
- Mary Jo White, Chair, Securities and Exchange Commission
- Luis A Aguilar, Commissioner, Securities and Exchange Commission.
- Daniel M. Gallagher, Commissioner, Securities and Exchange Commission.
- Kara M. Stein, Commissioner, Securities and Exchange Commission.
- Michael S. Piwowar, Commissioner, Securities and Exchange Commission.
- Keith F. Higgins, Director, Division of Corporation Finance, Securities and Exchange Commission
- Anne Krauskopf, Senior Special Counsel, Securities and Exchange Commission
- Mark Flannery, Director and Chief Economist, Division of Economic and Risk Analysis, Securities and Exchange Commission
Opening Statements – Chair White
Securities and Exchange Commission (SEC) Chair Mary Jo White, in her opening remarks, noted that the proposed rule would implement Section 954 of the Dodd-Frank Act to require national securities exchanges and associations to adopt listing standards for companies to recover incentive compensation erroneously awarded to executive officers. White stated that the proposed rule, referred to as the “clawback” rule, is the last of the of the executive compensation rulemakings mandated under Dodd-Frank to be proposed.
White noted the proposal seeks to address incentive-based compensation received by executive officers on the basis of inaccurate reporting measures. Under the proposal, both current and former executives would be liable to return such compensation in excess of what would have been paid had the inaccurate reporting not occurred. In addition, she noted that officers do not have to be explicitly involved in the accounting process of the company in order to be subject to the provision, highlighting that the proposal applies to a broad group of executive officers and to compensation based on accounting-related metrics or stock price and total shareholder return metrics.
White went on explained that each listed issuer would be required to file a recovery policy and “if a restatement is completed that requires recovery, to disclose instances in which executives did not repay promptly, or the issuer exercised its limited discretion not to pursue recovery.” White said she is interested in receiving comments on how boards would make determinations not to pursue recovery, and how the information would be used more broadly, if available.
Staff Presentations
Keith Higgins, Director of the Division of Corporate Finance, explained that the proposal adds Rule 10D-1 to the Securities Exchange Act of 1934. He noted that the proposal requires disclosures be filed using “eXtensible Business Reporting Language” (XBRL) and said companies that fail to comply would be subject to delisting.
Anne Krauskopf, Senior Special Counsel, noted that the listing standards mandate will apply to each issuer, including foreign private issuers, and that all executives and former executives are subject to the mandate within three fiscal years previous to the accounting re-statement. Krauskopf added that the proposal uses the definition of “officer” supplied in Section 16 of the Exchange Act for the definition of “executive officer” in the proposal.
Compensation, she noted, can only be recovered if it was “granted, earned, or vested solely on the performance of a financial reporting measure,” and only the amount exceeding what the executive would have received had the accounting error not occurred. She then detailed the two exceptions for mandatory recovery: 1) if the board decides the direct expense of seeking recovery outweighs the benefits and 2) if the home country of a foreign private issuer forbids recovery.
In terms of the disclosure mandate of the proposal, Krauskopf stated that policies must be filed with the Commission along with the Exchange Act Annual Report, as well as within the executive compensation sections of an issuer’s annual report and proxy statement.
Mark Flannery, Director of the Division of Economic and Risk Analysis, described the potential benefits and impacts that were considered, noting that the proposed requirements would serve to enhance the quality of financial reporting and capital allocation, thus increasing capital formation. He said, however, that it was necessary to appropriately balance the benefits of the proposed approach against possible negative consequences, including potential changes to the pay packages of executives to offset uncertainty generated by the clawback provision and the possibility that costs of the compensation recovery could outweigh the benefit to shareholders.
Commissioner Luis Aguilar, in his statement, noted that Americans believe “you should earn your money” and “you should not keep what you did not earn.”
The proposal, Aguilar noted, defines “incentive-based compensation” to include compensation based upon any “financial reporting measure” including stock price and total shareholder return (TSR). Since “approximately 51 percent of the top 200 public companies making performance-based grants for executive compensation based it on a TSR measure,” Aguilar noted, capturing this category in the proposal is important.
Aguilar detailed the two exceptions wherein the board can choose not to pursue recovery. He noted that the Commission seeks public comment on whether the rule presents adequate protections to prevent these exceptions from creating “unintentionally large loop-holes” and closed by saying he supports the proposal and that it should “go a long way” toward limiting “improper enrichment for executives.”
Commissioner Gallagher
Commissioner Daniel Gallagher, in his statement, noted that he is “no fan” of the Dodd-Frank Act, especially of the executive compensation mandates and while this rulemaking could have been “half-decent,” the Commission instead created a “tortured and nightmarish” proposal.
Gallagher first stressed that both the scope of the definition for executive officers and the scope of the clawback authority in the proposal are too broad and said, taken collectively, these two provisions create the potential for “substantial injustice.” He noted that a proposal that either applied broadly to officials but provided narrow clawback authority or applied to few officials and had a broader clawback authority “would have been more equitable.”
Second, Gallagher noted the harm that could come to smaller reporting companies and emerging growth companies from fixed costs of compliance associated with the proposal. He also said foreign private issuers should be exempt, as applying U.S. corporate governance theory abroad is an “overreach.”
Finally, Gallagher cited the inclusion of TSR metrics in the proposal as problematic. He noted that determining the appropriate clawback amount for TSR-based compensation is imprecise and requires “substantial use of assumptions and judgments,” however, excluding TSR metrics from the proposal is also not appropriate. Gallagher concluded that he does not support the proposal.
Commissioner Stein
Commissioner Kara Stein, in her statement, said the proposal would realign compensation to focus on “long-term performance” and the “quality of earnings” instead of short-term results.
She noted that the proposal requires compensation recovery not only when misconduct occurs, but also whenever there are “material errors” in financial statements. She said that the use of XBRL tagging, as mandated, will increase “comparability across companies” and access to market information.
Stein concluded that she supports the recommendation, and looks forward to comments on the workability of the Commission’s definitions of “executive officer” and “incentive-based compensation” and whether disclosures are sufficient to ensure compliance.
Commissioner Piwowar
Commissioner Michael Piwowar, in his statement, said while a properly designed clawback rule could “yield real benefits to shareholders,” the proposal presented is unlikely to do so. Instead, he said, it could “unintentionally” further increase executive compensation while also using a “substantial” amount of shareholder and SEC resources. By introducing additional uncertainty, Piwowar cautioned, executives are likely to demand an offset in their compensation packages to “bear the increased uncertainty.”
Piwowar noted interest in public comments about the fixed costs imposed upon smaller reporting companies and the XBRL tagging requirement. He concluded that he does not support the proposal.
VoteResults
The Commission voted 3-2 to approve a proposal.
For more information on this meeting and to view an archived webcast, please click here.
Additional Materials:
Fact Sheet on Proposed Rule Requiring Companies to Adopt Clawback Policies on Executive Compensation
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Securities and Exchange Commission
Open Meeting
Wednesday, July 1, 2015
Key Topics & Takeaways
- Approval of Executive Compensation Recovery Proposal: The SEC approved, by a vote of 3-2, a proposal to implement Section 954 of the Dodd-Frank Act, which requires national securities exchanges and associations to adopt listing standards for companies to recover incentive-based compensation erroneously awarded to executive officers.
- Listing Standards and Disclosure Mandate: SEC’s Krauskopf noted that recovery would be required from current and former executive officers who “received incentive-based compensation during the three fiscal years preceding an accounting restatement to correct a material error” on a “no fault” basis. She further highlighted that companies would be required to recover amounts in excess of the amount that would have been received had the determination based on the accounting restatement.
- Benefits vs. Negative Consequences: SEC’s Flannery noted that while the proposed rule would enhance the quality of financial reporting and capital allocation, it could lead to changes to the pay packages of executives to offset the uncertainty generated by the provision.
- Republican Commissioners Concerns: Commissioner Gallagher said both the scope of the definition for executive officers and the scope of the clawback authority is too broad. He also noted the harm that could come to smaller reporting companies and the problems associated with inclusion of total shareholder return metrics. Commissioner Piwowar cautioned that introducing additional uncertainty would have the unintended consequence of executives demanding an increase in compensation to offset the result of the proposal.
SEC Commissioners & Staff
- Mary Jo White, Chair, Securities and Exchange Commission
- Luis A Aguilar, Commissioner, Securities and Exchange Commission.
- Daniel M. Gallagher, Commissioner, Securities and Exchange Commission.
- Kara M. Stein, Commissioner, Securities and Exchange Commission.
- Michael S. Piwowar, Commissioner, Securities and Exchange Commission.
- Keith F. Higgins, Director, Division of Corporation Finance, Securities and Exchange Commission
- Anne Krauskopf, Senior Special Counsel, Securities and Exchange Commission
- Mark Flannery, Director and Chief Economist, Division of Economic and Risk Analysis, Securities and Exchange Commission
Opening Statements – Chair White
Securities and Exchange Commission (SEC) Chair Mary Jo White, in her opening remarks, noted that the proposed rule would implement Section 954 of the Dodd-Frank Act to require national securities exchanges and associations to adopt listing standards for companies to recover incentive compensation erroneously awarded to executive officers. White stated that the proposed rule, referred to as the “clawback” rule, is the last of the of the executive compensation rulemakings mandated under Dodd-Frank to be proposed.
White noted the proposal seeks to address incentive-based compensation received by executive officers on the basis of inaccurate reporting measures. Under the proposal, both current and former executives would be liable to return such compensation in excess of what would have been paid had the inaccurate reporting not occurred. In addition, she noted that officers do not have to be explicitly involved in the accounting process of the company in order to be subject to the provision, highlighting that the proposal applies to a broad group of executive officers and to compensation based on accounting-related metrics or stock price and total shareholder return metrics.
White went on explained that each listed issuer would be required to file a recovery policy and “if a restatement is completed that requires recovery, to disclose instances in which executives did not repay promptly, or the issuer exercised its limited discretion not to pursue recovery.” White said she is interested in receiving comments on how boards would make determinations not to pursue recovery, and how the information would be used more broadly, if available.
Staff Presentations
Keith Higgins, Director of the Division of Corporate Finance, explained that the proposal adds Rule 10D-1 to the Securities Exchange Act of 1934. He noted that the proposal requires disclosures be filed using “eXtensible Business Reporting Language” (XBRL) and said companies that fail to comply would be subject to delisting.
Anne Krauskopf, Senior Special Counsel, noted that the listing standards mandate will apply to each issuer, including foreign private issuers, and that all executives and former executives are subject to the mandate within three fiscal years previous to the accounting re-statement. Krauskopf added that the proposal uses the definition of “officer” supplied in Section 16 of the Exchange Act for the definition of “executive officer” in the proposal.
Compensation, she noted, can only be recovered if it was “granted, earned, or vested solely on the performance of a financial reporting measure,” and only the amount exceeding what the executive would have received had the accounting error not occurred. She then detailed the two exceptions for mandatory recovery: 1) if the board decides the direct expense of seeking recovery outweighs the benefits and 2) if the home country of a foreign private issuer forbids recovery.
In terms of the disclosure mandate of the proposal, Krauskopf stated that policies must be filed with the Commission along with the Exchange Act Annual Report, as well as within the executive compensation sections of an issuer’s annual report and proxy statement.
Mark Flannery, Director of the Division of Economic and Risk Analysis, described the potential benefits and impacts that were considered, noting that the proposed requirements would serve to enhance the quality of financial reporting and capital allocation, thus increasing capital formation. He said, however, that it was necessary to appropriately balance the benefits of the proposed approach against possible negative consequences, including potential changes to the pay packages of executives to offset uncertainty generated by the clawback provision and the possibility that costs of the compensation recovery could outweigh the benefit to shareholders.
Commissioner Luis Aguilar, in his statement, noted that Americans believe “you should earn your money” and “you should not keep what you did not earn.”
The proposal, Aguilar noted, defines “incentive-based compensation” to include compensation based upon any “financial reporting measure” including stock price and total shareholder return (TSR). Since “approximately 51 percent of the top 200 public companies making performance-based grants for executive compensation based it on a TSR measure,” Aguilar noted, capturing this category in the proposal is important.
Aguilar detailed the two exceptions wherein the board can choose not to pursue recovery. He noted that the Commission seeks public comment on whether the rule presents adequate protections to prevent these exceptions from creating “unintentionally large loop-holes” and closed by saying he supports the proposal and that it should “go a long way” toward limiting “improper enrichment for executives.”
Commissioner Gallagher
Commissioner Daniel Gallagher, in his statement, noted that he is “no fan” of the Dodd-Frank Act, especially of the executive compensation mandates and while this rulemaking could have been “half-decent,” the Commission instead created a “tortured and nightmarish” proposal.
Gallagher first stressed that both the scope of the definition for executive officers and the scope of the clawback authority in the proposal are too broad and said, taken collectively, these two provisions create the potential for “substantial injustice.” He noted that a proposal that either applied broadly to officials but provided narrow clawback authority or applied to few officials and had a broader clawback authority “would have been more equitable.”
Second, Gallagher noted the harm that could come to smaller reporting companies and emerging growth companies from fixed costs of compliance associated with the proposal. He also said foreign private issuers should be exempt, as applying U.S. corporate governance theory abroad is an “overreach.”
Finally, Gallagher cited the inclusion of TSR metrics in the proposal as problematic. He noted that determining the appropriate clawback amount for TSR-based compensation is imprecise and requires “substantial use of assumptions and judgments,” however, excluding TSR metrics from the proposal is also not appropriate. Gallagher concluded that he does not support the proposal.
Commissioner Stein
Commissioner Kara Stein, in her statement, said the proposal would realign compensation to focus on “long-term performance” and the “quality of earnings” instead of short-term results.
She noted that the proposal requires compensation recovery not only when misconduct occurs, but also whenever there are “material errors” in financial statements. She said that the use of XBRL tagging, as mandated, will increase “comparability across companies” and access to market information.
Stein concluded that she supports the recommendation, and looks forward to comments on the workability of the Commission’s definitions of “executive officer” and “incentive-based compensation” and whether disclosures are sufficient to ensure compliance.
Commissioner Piwowar
Commissioner Michael Piwowar, in his statement, said while a properly designed clawback rule could “yield real benefits to shareholders,” the proposal presented is unlikely to do so. Instead, he said, it could “unintentionally” further increase executive compensation while also using a “substantial” amount of shareholder and SEC resources. By introducing additional uncertainty, Piwowar cautioned, executives are likely to demand an offset in their compensation packages to “bear the increased uncertainty.”
Piwowar noted interest in public comments about the fixed costs imposed upon smaller reporting companies and the XBRL tagging requirement. He concluded that he does not support the proposal.
VoteResults
The Commission voted 3-2 to approve a proposal.
For more information on this meeting and to view an archived webcast, please click here.
Additional Materials:
Fact Sheet on Proposed Rule Requiring Companies to Adopt Clawback Policies on Executive Compensation