On September 18, 2013, the SEC voted 3 to 2 to propose a rule that would require public companies to calculate and disclose its CEO compensation as a multiple of the median employee’s pay.
The proposed rule was mandated under Section 953(b) of the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act), which directs the SEC to amend Regulation S-K Item 402 (S-K 402) to require public companies to disclose (a) the median of the annual total compensation of all employees of the Company (excluding the CEO), (b) the annual total compensation of the CEO, and (c) the ratio of these two amounts.
Methodology for identifying the median employee
The proposed rule does not require a specific methodology for determining the median employee, but rather allows flexibility. The selection of a methodology would be based on a company’s circumstances, including the size and structure of the company and the way it compensates employees.
For example, a company could identify the median employee based on total compensation using either its full population or a statistical sample of that population. Additionally, a company could identify the median of its population using either annual total compensation as determined under the SEC’s existing executive compensation rules, or any consistently applied compensation measure (e.g., based on compensation amounts reported in payroll or tax records).
Determination of total compensation
Once the median employee has been identified, that median employee’s annual total compensation would be calculated in accordance with the existing executive compensation rules (i.e., S-K 402(c)(2)(x)), and would reflect compensation for the last completed fiscal year. The proposal would allow companies to use reasonable estimates in their determination of the annual total compensation of the median employee.
Identification of employees covered by the proposed rule
Under the proposed rule, the definition of an employee would include all employees of the company, including full-time, part-time, temporary, seasonal, and non-US employees of the company or any of its subsidiaries as of the last day of the last completed fiscal year. Independent contractors or “leased” workers or other temporary workers who are employed by a third party, would not be included.
Companies would be permitted, but not required, to annualize the total compensation for permanent employees who were employed at the end of the fiscal year but who did not work a full year, such as new hires. However, companies would not be permitted to include full-time equivalent adjustments for part-time workers, annualizing adjustments for seasonal or temporary employees, or cost of living adjustments for non-US employees.
Disclosure of methodology, assumptions and estimates
When complying with the proposed rule, companies would be required to disclose the methodology used to determine the median employee and total compensation, including any applicable material assumptions, adjustments or estimates used. If a company elects to identify the median employee based on a consistently applied compensation measure other than the SEC definition of total compensation, the proposed rule would require disclosure of the measure used. Companies would be permitted, but not required, to supplement the required disclosure with a narrative discussion or additional ratios.
The proposed pay ratio disclosure requirements would not apply to emerging growth companies, smaller reporting companies or foreign private issuers. They would apply to all other issuers filing any registration statement, annual report, proxy or information statement under either the Securities Act of 1933 or the Securities Exchange Act of 1934 that requires executive compensation disclosures pursuant to S-K 402.
Under the proposed rule, a company would be required to provide the new pay ratio disclosures with respect to compensation for its first fiscal year commencing on or after the effective date of the final rule. Companies would be permitted to begin compliance with the new rule earlier on a voluntary basis. For newly public companies, initial compliance would be required with respect to compensation for the first fiscal year commencing on or after the date the company becomes subject to the reporting requirements.
The SEC is seeking public comments on the proposed rule, which are due 60 days after its publication in the Federal Register.
PwC clients who have questions about this In brief should contact their engagement partner. Engagement teams that have questions should contact the SEC Services team in the National Professional Services Group.