SEC s Pay Ratio Disclosure Rule

Transcription

1 SEC s Pay Ratio Disclosure Rule December 2, 2014 Scott Richter (804) Scott.Richter@LeClairRyan.com

2 Background Section 953(b) of the Dodd-Frank Act requires the SEC to implement pay ratio disclosure requirements comparing CEO compensation to average employee compensation. SEC released proposed rule in September 2013 and the comment period ended December SEC received plenty of comments over 20,000; both pro and con. Final rule has not been approved. 2

3 Final pay ratio rules not yet approved Why think about them now? Likely to be adopted substantially as proposed. Calculation required for the first fiscal year that begins on or after effective date of final rule. Disclose information in following year s proxy statement. If approved in 2014, disclosure likely to be required for 2016 proxy statements not If approved in 2015, disclosure required for

4 Why think about them now? (cont d) Calculations will need to be performed post-prior year end for current year. Lead time for getting the necessary information and setting up information and other internal systems to produce the information. Check to see if systems can capture the necessary data to produce the required disclosure. Determine if they can produce information to perform statistical sampling or make reasonable estimates. Do they need modification to get information? 4

5 Why think about them now? (cont d) Disclosure will need review, input and structure from several departments: Human resources End of year/beginning of next year is busy time for HR departments Accounting Compensation committee Needs to be informed of the proposed rule Involvement in process Review of disclosure 5

6 New Disclosure Under Regulation S-K Item 402(u) Requires the following disclosure: The median of the annual total compensation of all employees, except principal executive officer (usually the chief executive officer so we ll refer to the CEO); The annual total compensation of the CEO; and The ratio of the above compensation amounts. Good news Smaller reporting companies not subject to rule. 6

7 Identifying Median Employee Rule imposes major new task identify median employee whose annual total compensation is the median annual total compensation of all employees. Employee includes employees other than fulltime employees: Every employee as of the last day of the fiscal year Includes full-time and part-time employees Temporary and seasonal workers 7

8 Identifying Median Employee (cont d) Exclusions from employee definition: The CEO; and Independent contractors, leased workers and other temporary workers employed by a third party. 8

9 Adjustments on employees Can annualize total compensation for employees who did not work during the entire year, such as new hires or those who took an unpaid leave of absence. However, companies would not be permitted to: Make full-time equivalent adjustments for parttime workers; or Annualize adjustments for temporary and seasonal workers. 9

10 Methodology to Identify Median Employee Under the proposed rule, companies would need to disclose the methodology used to identify the median employee. No uniform methodology proposed by SEC. Guidance is to select a methodology that is appropriate based on: The size and structure of the business; and The way the company compensates employees. 10

11 Methodology to Identify Median Employee (cont d) Rule allows for a flexible approach to identify median employee calculating annual total compensation of employee using either: The entire employee population; or A statistical sample or pool of the employee population. 11

12 Methodology to Identify Median Employee (cont d) Under the proposal, a company may use one of two methodologies to identify the median employee: Calculate the annual total compensation in accordance with existing executive compensation disclosure rules for each employee in the pool (whether the entire population or a statistical sample), and then identify the median; or Identify the median employee in the pool based on any compensation measure, such as total direct cash compensation, W-2 reported wages or tax records, that is consistently applied to all employees in the calculation, and then compute the annual total compensation only for that median employee. 12

13 Methodology to Identify Median Employee (cont d) If an alternative approach is used to identify the median employee, a company must: Disclose and briefly describe the compensation measure used; and Calculate and disclose the annual total compensation for that median employee. 13

14 Methodology to Identify Median Employee (cont d) If statistical sampling is used, be careful in designing a statistical sampling methodology so that accurate samples can be obtained. Importantly, the median employee s annual total compensation does not have to be calculated for selection under an alternative approach. 14

15 Methodology, Assumptions and Estimates Additional disclosure is required if: Any material assumptions, adjustments or estimates are used to: identify the median employee; or determine total compensation. Any amounts that were estimated, including a description of the estimation methods used. Companies would also be permitted, but not required, to supplement the pay ratio disclosure with a narrative discussion or additional ratios as long as they are not misleading. 15

16 Methodology, Assumptions and Estimates (cont d) If there any changes in methodology, assumptions, adjustments or estimates from the prior year and the results of the changes are material, the company must also: Describe the change in the proxy statement; Describe the reason for the change; and Provide an estimate of the impact of the change on the median and the ratio. 16

17 Calculating Median Employee Annual Total Compensation Annual total compensation for the employee and the CEO is calculated in accordance with Item 402(c)(2)(x) of Reg S-K the same rule used to calculate named executive officer compensation for annual meeting proxy statements. Compensation is for the last completed fiscal year. Can use reasonable estimates in calculating the annual total compensation or any element of total compensation for employees (other than the CEO). 17

18 Calculation of Median Annual Total Compensation SEC s compensation disclosure rules include not just cash compensation, but also the: Value of stock options and other equity awards; Aggregate change in pension value and nonqualified deferred compensation earnings; and Value of certain other compensation, including personal benefits. For non-salaried employees, references in the existing rules to base salary and salary will refer instead to wages plus overtime, as applicable. 18

19 Calculation of Median Annual Total Compensation (cont d) SEC s compensation disclosure rules were crafted to apply to executive compensation, and exclude components such as broad-based benefits available to all employees (e.g., health insurance) and perquisites (e.g., employee discounts) that aggregate less than $10,

20 Calculation of Median Annual Total Compensation (cont d) The exclusions are permissive, so companies have the discretion to include those components in calculating the annual total compensation of employees, so long as the same components are also included in calculating CEO compensation for pay ratio disclosure purposes. If included, companies must explain any difference between CEO total compensation used in the pay ratio disclosure and the amounts reflected in the Summary Compensation Table. 20

21 Pay Ratio Disclosure The ratio of the median employee s annual total compensation to the CEO s annual total compensation can be expressed using the following two methods: As a ratio in which the median of the annual total compensation of all employees is equal to one. For example, if the median annual total compensation for all employees is $50,000 and the annual total compensation of the CEO is $450,000 the pay ratio would be 1 to 9. 21

22 Pay Ratio Disclosure (cont d) Narratively in terms of the multiple that the CEO total compensation amount bears to the median total compensation amount for all employees. Using the same compensation numbers above ($50,000/$450,000), companies could state that the CEO s annual total compensation is 9 times that of the median of the annual total compensation of all employees. 22

23 SEC Filings to Include Pay Ratio Disclosure The pay ratio disclosure will need to be provided in any SEC filing in which executive compensation disclosure is required under Item 402 of Reg S-K. The two main filings will be: Proxy statements; and Registration statements. If the proxy statement is not filed within 120 days of fiscal year end, disclosure will be required in Form 10-K (or an amendment to the Form 10-K). 23

24 SEC Filings (cont d) Companies would not be required to: Disclose the pay ratio information in current and quarterly reports; or Update disclosure for the most recently completed fiscal year until the filing of the proxy statement for the annual meeting in the following year. 24

25 Liability for Materially Inaccurate Disclosure Pay ratio disclosure would be filed with the SEC rather than furnished. As a result, there is potential for liability under the Securities Exchange Act of 1934 and the Securities Act of 1933 for disclosure that is materially inaccurate or otherwise misleading. Important for those companies using an alternative means to identify the median employee or determine the median compensation make sure the methodology is accurate. 25

26 Other Considerations Potential adverse effects of the pay ratio disclosure: May likely affect employee morale adversely; May create tensions between the CEO and rankand-file employees; Especially when the disparity shown in the ratio changes in favor of the CEO from one year to the next. Negative effect on the advisory vote on executive compensation (say-on-pay); Voting against compensation committee members re-election. 26

27 Other Considerations (cont d) Engage human resources and if needed, investor relations, to address how to combat the possible adverse employee reactions and publicity regarding the pay ratio disclosure. 27

28 Questions? 28

29 Thank You 29