This piece, by Senior Research Associate Paul Hodgson, appeared in the September 2009 issue of IDS Executive Compensation Review's Speaker's Corner.
‘When America sneezes Europe catches a cold’ is one of those maxims intended to show how developments on the other side of the Atlantic impact on the UK. One area where the influence has been especially evident is executive remuneration, with much UK practice closely following the US lead. But as over here, pressure has mounted to reform board pay and Paul Hodgson of The Corporate Library explains how the US is witnessing an outbreak of ‘legislationitis’.
It all started back on the campaign trail at the height of the economic crisis, when investment banks were falling like dominos, and both candidates for the presidency indicated they would support legislation to introduce a shareholder advisory vote on executive remuneration. That, and the worsening economic crisis, seemed to open up a flood of legislation. It started even before the new President took power, when the Democrats tried to insist that pay limits accompany government bailouts coming from the Troubled Assets Relief Program (TARP). Eventually, in February this year, remuneration regulations put forward in the American Recovery and Reinvestment Act (ARRA) – better known as the ‘Stimulus Bill’ – introduced a series of rules going further than anything proposed in the UK (see margin). One of these regulations became effective almost immediately following a decision by US stock market regulator, the Securities Exchange Commission (SEC), to mandate TARP companies to introduce a ‘Say on Pay’ vote for the 2009 proxy season.
But this has not been the end of it and since then the desire to legislate has spread like a rash. In May this year, for example, Senator Charles Schumer introduced the Shareholder Bill of Rights Act of 2009 to the US Congress. If the bill is passed, shareholders are going to have to come up with a whole new set of ideas for shareholder proposals as the bill requires companies to implement almost all of the most popular shareholder activist ideas of the past 10 years. These are: introduce a non-binding vote on executive remuneration (a Say-on-Pay vote); introduce a vote to approve golden parachutes; provide shareholder access to the proxy for the purpose of nominating directors; split the roles of chairman and CEO; make all director elections annual; and introduce majority voting for directors. And the bill would also require all of the above to be an exchange listing requirement. Other pay bills abound Following Schumer’s bill, Congressman Gary Peters introduced The Shareholder Empowerment Act, and all of a sudden it seemed like everyone, the Senate, the House of Representatives, the Treasury, the President, the SEC, was queuing up to support shareholders’ rights . Congressman Peters’ act attempts to codify into law some of the proposals made by the Secretary to the Treasury (see below). It also expanded on Senator Schumer’s bill while covering a lot of the same ground. Proposals include: majority voting for directors; independent chairman of the board of directors; shareholder approval of executive remuneration; independent remuneration advisers; clawbacks of unearned pay; no severance payments for poor performance and improved disclosure of performance targets. There are several other remuneration-related bills up for consideration as well. Other key bills currently in committee in Congress include the Excessive Pay Shareholder Approval Act which seeks to cap the multiple of a company’s average salaried employee that can be used to determine CEO pay and the Corporate Governance Reform Act of 2009 introduced by Representative Keith Ellison that calls for, among other things, an SEC study to consider director certification. Treasury proposes… In July, the US Treasury added its voice and issued two sets of proposals. The first on ‘Say-on-Pay’ runs along the same lines as the other legislative initiatives and the second on greater independence for remuneration committee members mirrors the post-Enron audit committee reforms. New, tougher rules for board Both measures take on more significance, however, if coupled with proposals the SEC issued a few days previously that aim to give shareholders easier access to corporate proxies. Given that any shareholder vote on pay is likely to be nonbinding, there remains a further opportunity for shareholders to effect changes or influence if they can get their own directors on the board. …and the SEC gets in on the act At the same time as issuing its proposals for shareholder access to the proxy statement, the SEC also issued another 137 pages of proposals on risk, remuneration, directors, boards, remuneration consultants, and proxy voting. In the area of executive remuneration and risk the SEC is looking for better disclosure about the relationship between a company’s overall remuneration policies and its risk profile. It also wants changes to The SEC’s proposals on director nominations and qualifications go well beyond those put out by the Treasury on increased independence for remuneration committee members. Under the SEC guidelines, a company will have to provide a great deal of evidence to persuade a shareholder to vote for the director, including risk assessment skills, past experience and what use it might be, the nominee’s area of expertise, and what benefit he or she would bring to the board. With all the discussion about splitting the chairman and CEO positions, the commission is also asking companies to explain why they combine or do not combine the roles, or why they have a lead independent director and what benefits this decision might bring for shareholders. As part of this, a much more comprehensive description of the board’s role in the risk management process is likely to be required. In response to much shareholder activism, a raft of additional disclosures surrounding the hire of remuneration consultants by the board are also being proposed, including the disclosure of other work they do for the company, what each of these services cost, the involvement of management in the hiring decision and the board’s involvement in approving other work. House passes legislation Finally, on July 31, 2009, the House of Representatives passed legislation mandating public companies to hold annual non-binding shareholder votes on executive remuneration. The legislation, known as the Corporate and Financial Institution Compensation Fairness Act, was introduced by Representative Barney Frank, chair of the House Financial Services Committee, to obtain ‘Say on-Pay’ rights for shareholders. A summary of the main provisions can be seen in the margin. Some form of ‘Say-on-Pay’ vote would now seem to be almost an inevitability, and likely for the 2010 proxy season. It is to be hoped that the fact this has come through legislation rather than affirmative action from corporations – who were given ample opportunity to adopt this voluntarily – will not impair the effectiveness of the legislation. Will anything change? As all this legislation and reform pressure builds shareholders continue to wait for additional rights and additional power, but in the meantime they must also endure the spectacle of Wall Street returning to its former habits. Many investment houses are now registering the same level of remuneration expense in the first half of 2009 as was seen in the first half of 2007 – one of the US economy’s supposed boom periods. This hardly indicates that a major change in corporate behavior is underway, despite some recognition from the banks But not only do banks appear to be gearing up for another boom year for bonuses, it would appear from disclosures forced by New York City’s Attorney General that they never stopped. Even during 2008, as the U.S. So now that America has sneezed on executive remuneration will the UK catch a cold? In one sense, all the legislative proposals show just how far ahead of the US Britain and much of Europe has been in terms of corporate governance, where much of what is proposed is already common practice. But in another sense, some of the latest proposals leap ahead of previous UK codes and US bodies seem far more willing to legislate to rein back executive excess than their British counterparts. Such would be the revolution in US governance were all
remuneration committee members seek to give them the authority to hire independent consultants and legal advisers. While this looks like a necessary reform, it would seem unlikely to make a great deal of practical difference. While it is possible to legislate for independence, legislators cannot actually force directors to act independently.
published summary compensation tables, wanting the grant date value of stock and stock option awards included rather than the ‘expensed value’. The fact that this continues to mix real and imaginary pay, apples and oranges, appears not to have occurred to the SEC. Under this change, the table contains apples and a different kind of orange, mandarin, rather than Seville, perhaps. A single table with actual realized pay would be the most effective way of communicating the wealth acquired by executives and the real associated costs.
themselves that former remuneration policies were in part to blame for the economic crisis.
economy collapsed around them, banks were paying out billions of dollars in bonuses. Not only that, but as soon as remuneration rules came into play, those covered immediately began to design ways around the rules. The ban on termination payments was evaded by re-classifying golden goodbyes to anything from consultancy payments to non-compete arrangements. Guaranteed bonuses proliferated, underwater stock options were replaced with new mega-grants, a ban on bonuses was trumped by increasing salaries, or even quintupling salaries and ‘paying’ the excess in stock. In the face of this kind of behaviour, it would seem difficult for any kind of legislation, or even yet more increased shareholder scrutiny, to begin to tie remuneration closer to performance.
the proposed bills to become law that the only thing left for shareholders to do would be, well, vote.
