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Update on current board issues: June 2012

Issues in brief

Compensation clawback rules due soon

As part of the implementation of the Dodd-Frank Act, the SEC is to issue a rule that requires every listed company to develop and adopt compensation clawback policies.

Although the final rule has not been written yet, Rep. Barney Frank, D-Massachusetts, has written legislation that attempts to protect the spirit of that part of the Dodd-Frank corporate governance reform measure and a similar measure in the Sarbanes-Oxley Act. Both allow companies to recoup compensation from executives when there is an accounting restatement. Dodd-Frank expands the ability to clawback compensation for restatements, even if fraud has not been committed.

The Executive Compensation Clawback Full Enforcement Act of 2012, which was co-sponsored by Democrats Henry Waxman of California and Collin Peterson of Minnesota, would require any officer, director, or employee of a financial firm who is required to repay previously earned compensation or to pay a civil penalty to be personally liable for the amounts owed. These individuals and their employers would be prevented from using insurance or other forms of hedging to protect their personal assets. As of June 21, the fate of the bill, which was referred to the House Committee on Financial Services, is unknown.

Say on pay votes slightly ahead of 2011

In the second year of executive compensation advisory votes (say on pay), we are seeing more communication between companies and shareholders through the level of disclosures and frequency of investor meetings.

In some cases, companies have changed their compensation plans to reflect concerns about pay for performance.

"Both investors and corporations are paying more attention to the shareholder say on pay vote this year," said Michael Melbinger, a partner and blogger at Winston & Strawn. "Nearly all corporations are taking two steps this year: reaching out to shareholders in one way or another and taking greater care in drafting their shareholder say on pay resolutions and compensation disclosures."

At the same time, early figures from the 2012 proxy season show smaller companies (those with a market capitalization of less than $2 billion) and health care companies had the largest number of negative say on pay votes, according to compensation consultant Steven Hall & Partners. However, more than 70% of the companies approved their executive compensation plans with approval rates greater than 90%.

As of June 18, nearly 3% of companies with a market capitalization of less than $2 billion failed their votes compared to nearly 1.6% of those companies with a market capitalization of more than $2 billion, according to Steven Hall & Partners. Health care firms had the most negative say on pay votes with 15.

Overall, 50 of 2,067 companies that have held say on pay votes this year reported negative votes for a 2.4% failure rate, according to June 18 data from Steven Hall & Partners. That is slightly more than 2011, when 38 companies had negative votes.

What directors should know about the JOBS Act

While a broad array of key stakeholders in the business and policy world strongly support objectives of the newly enacted Jumpstart Our Business Startups (JOBS) Act, some have expressed concern about a perceived easing of protections for investors, as well as the potential for fraud.

In order to encourage companies to complete an equity initial public offering (IPO), the JOBS Act created a so-called "IPO onramp" for emerging growth companies (EGC). To qualify for the new EGC category, a business must have less than $1 billion in annual revenue and must have priced its IPO no earlier than December 9, 2011. The Act also increases to 2,000 from 500 the number of shareholders companies can have without also having to publicly disclose certain financial information.

Companies are eligible as an EGC for up to five years after their IPO before they have to follow the SEC rules that apply to publicly traded companies.

Under the JOBS Act, EGCs:
  • Have a temporary five-year exemption from the audit requirement of Sarbanes-Oxley Section 404 (b), which requires external auditor attestation regarding the company's internal controls over financial reporting (note: the temporary exemption does not apply to the Sarbanes-Oxley internal control management reporting requirements)
  • May submit two years of historical audited financial results in their IPO prospectus, compared to the requirement of three years for non-EGCs
  • Can make reduced disclosures about executive compensation
  • Can use the same timeframe as private companies when adopting any new or revised accounting standard (after April 5, 2012)
For more information on the JOBS Act, consider reading To the point - Summer 2012 and Dataline 2012-03: Emerging growth companies -- Frequently asked questions about Title I of the JOBS Act.