New SEC Disclosure Rules on the Way (Not Just for Banks)

The SEC will hold a meeting on Wednesday of this week at which it expects to propose new rules on, among other things, proxy disclosure of executive compensation. Based on speeches from the commissioners, it looks like the new rules will require:

-Disclosure on how the compensation committee manages risk-taking through its compensation programs. A core assumption in the government’s analysis of the Wall Street crisis is the notion that compensation programs induced bankers to take excessive risks. Note that the new disclosure rules will apply to all public companies. This is just one example of how the compensation debate regarding the banks has set the agenda for the broader executive pay conversation.

-Disclosure on compensation programs below the executive level. Again, in the Wall Street pay debate, the argument is made that compensation programs for lower level employees (e.g, CDO traders) encouraged short-term risk taking without regard to the long-run risks. Even though there is no consensus that this issue exists beyond the banking sector, the entire public equity market will be subjected to these new disclosures. Importantly, we do not yet have a sense of how broadly this rule will be written. In the context of the firms that received federal bailout funds, the disclosure requirements are onerous and will require a great deal of time and effort to satisfy. Companies will need to move quickly after the rules are released to establish systems to complete the necessary reviews.

-Reversal of the “Christmas Surprise”. The Summary Compensation Table contained in the proxy statement is intended to reduce all compensation for the year to a single “Total Compensation” figure. To do so, very different types of compensation and benefits must be reduced to a single dollar amount. In the case of equity awards, the proxy rules look to the financial accounting standard, FAS 123R. Initially, equity awards were to be included in the SCT at their full grant date value, but shortly before they went into effect the SEC modified the rule so that only the currently expensed portion of the grant date value was included in the SCT. For example, a stock option granted in 2009 might have a grant date value of $100 and be subject to vesting over a two year period. Under current law, this option would be included in the SCT as $50 in 2009 and $50 in 2010, which aligns the SCT inclusion with the company’s financial accounting expense. The SEC is expected to reverse course and go back to its original proposal. In that event, the same option would appear only in the 2009 SCT at its full $100 value. The new rule might simplify many companies’ disclosures, although they may find it challenging to explain the new presentation in the first year under the rule.

The new rules would likely be finalized and effective for the upcoming proxy season.