SEC Adopts Pay Ratio Rules

As expected, the SEC adopted the CEO pay ratio rules today on a 3-2 vote. Here are some of the many high points identified by Society member and Winston & Strawn Partner Mike Melbinger:

• Effective Date: No disclosure required for any fiscal year beginning before January 1, 2017, which means, for most companies, reporting in the 2018 proxy statement. 
• Applicability: The disclosure requirements do not apply to smaller reporting companies, foreign private issuers, multi-jurisdictional filers, emerging growth companies, and registered investment companies.
• Independent Contractors: Individuals employed by unaffiliated third parties or independent contractors would not be considered employees of the company.
• Non-U.S. Employees: Companies may only exclude up to 5% of non-U.S. employees from the determination of their median employee in two specific circumstances.
• Part-Time Employees: The rules prohibit companies from full-time equivalent adjustments for part-time workers or annualizing adjustments for temporary and seasonal workers.   
• Determination of Total Compensation, Median Employee: Companies must calculate the annual total compensation for its median employee using the same rules that apply to the CEO's compensation in the Summary Compensation Table. The company may identify its median employee once every three years, unless there has been a change in its employee population or employee compensation arrangements.
• Non-CEO Compensation: Companies may use reasonable estimates when calculating any elements of the annual total compensation for employees other than the CEO.

See also this Fact Sheet and these Statements from the Commission: Commissioners Aguilar, Stein, Piwowar and Gallagher; and Financial Services Committee Chair Jeb Hensarling (R-TX).  

SEC Issues Interpretative Guidance on Whistleblower Anti-Retaliation Rules 

Yesterday, the SEC released this Interpretive Guidance clarifying its position that an individual doesn't need to report possible violations of the federal securities laws to the SEC to be characterized as a whistleblower entitled to the anti-retaliation protections afforded by the Dodd-Frank whistleblower rules (Exchange Act Section 21F); rather, such employment retaliation protections are also available to individuals who report internally first to a supervisor, compliance official or other person working for the company who has the authority to investigate, discover or terminate misconduct.  

To support its interpretation, the SEC distinguishes between the applicability and coverage of Exchange Act Rule 21F-9(a), which requires reporting to the Commission, and Rule 21F-2(b)(1), which does not. The guidance indicates that the Rule 21F-9(a) reporting requirements apply only to the award and confidentiality provisions of Section 21F, whereas the whistleblower definition in Rule 21F-2(b)(1), which does not require reporting in accordance with the Rule 21F-9(a) procedures, provides the anti-retaliation protections. See also Steve Quinlivan's blog.  

Commissioner Gallagher Speaks Candidly on Dodd-Frank Act, SEC Priorities  

In remarks yesterday before the U.S. Chamber of Commerce on the cusp of his impending departure from the SEC, Commissioner Gallagher shared his views about the priorities for the SEC's main operating divisions and offices, but not before delivering perhaps his most impassioned critique to date of the Dodd-Frank Act (excerpted here):  

If the SEC seems political nowadays, it is because of Dodd-Frank. Not only is it an incredibly ideological piece of legislation ill-suited to an independent agency explicitly constituted in a manner designed to ensure a bipartisan - or non-partisan - approach to regulation - but it is also largely just a series of ill-formed mandates that need to be interpreted and implemented to have any practical effect. In passing Dodd-Frank, Congress delivered a message to the Commission similar to that of Henry Ford concerning the aesthetics of the Model T: "Any customer can have a car painted any color he wants so long as it is black." 

 

Dodd-Frank established the SEC as the scrivener for a hundred Congressional mandates stemming from one side of the political spectrum. Is it any wonder that since its passage, these mandates - ambrosia to members of one party, anathema to those of the other - have drawn out the different philosophies of the Commissioners? Is it any wonder that Commissioners from the party devoted to free market ideals chafe at being mandated to paint Congress's Model T - or, more appropriately, their Edsel? 

Gallagher also expressed these pointed concerns about the Corp Fin's going forward agenda: 

Over the last seven years, the Division of Corporation Finance ("Corp Fin") has unfortunately, and despite the best instincts of many key staffers, become a tool for advancing a radical shareholder rights agenda. Executive pay rules, stonewalling on shareholder proposal reform, and now the universal ballot - the Corp Fin agenda has confused protecting investor activism with protecting investors. Sometimes these two are aligned, but sometimes they are not. I am encouraged that the Chamber and other prominent organizations have banded together in the Corporate Governance Coalition for Investor Value to start challenging this dominant viewpoint. Corp Fin's commitment to review disclosure effectiveness is a positive step forward, but I also fear this will be yet one more vehicle for injecting a radical view of corporate disclosure, trying to involve information that any investor might find interesting, rather than information that a reasonable investor would find important in making an investment or voting decision - that is the heart of the SEC's disclosure regime.  

Judge Allows Constitutional Challenge to SEC's Use of In-House Judges to Proceed 

On Monday, U.S. District Judge Richard Berman allowed a constitutional challenge to the SEC's use of its own in-house administrative judges to proceed based on the fact that the judges are deemed to be "officers" constitutionally requiring appointment by the Commission rather than by more junior agency representatives (the SEC's current process). Judge Berman gave the SEC a week to cure the problem: 

The Court reserves judgment on Plaintiffs application for a preliminary injunction and/or imposition of such an injunction for 7 days from the date hereof to allow the SEC the opportunity to notify the Court of its intention to cure any violation of the Appointments Clause.  

The case is one of several pending against the SEC challenging the legality of its in-house court system. As previously reported, a federal judge recently preliminarily enjoined the SEC from continuing with an administrative proceeding in an insider trading case on the basis that its planned use of an ALJ appointed by the SEC's Office of Administrative Law Judges likely violated the Constitution's Appointments Clause. See also these Reuters and Wall Street Journal articles.  

Bipartisan Group in Congress Seeks Reproposal of DOL Fiduciary Rule Proposal 

A bipartisan group of 20 members of the U.S. House of Representatives issued a letter last week to Labor Secretary Thomas Perez suggesting the department re-propose its controversial fiduciary rule proposal. The letter notes that, in view of the strong interest in the rulemaking by a wide range of stakeholders and the potentially significant impact on individuals' retirement investment decision-making and financial advisor relationships, the rule should be re-proposed to ensure adequate stakeholder involvement in the rulemaking process: 

We agree that financial advisors should act in the best interest of their clients. Heightened consumer protections in the investment space should apply broadly and should not create two classes of investors, especially at the expense of those saving for retirement.  The current proposal would bi-furcate the industry into those who can afford an advisor and those who cannot.  The result will be less choice for consumers and a lack of access for retail investors to sound financial advice. 

 

Additionally, the rule should not impose further burdens on middle class Americans and unnecessarily disrupt existing relationships that they have developed with their financial advisors.  It is important that Americans saving for retirement have access to quality information and advice, and Federal regulation should not hinder those striving to save for retirement.  

As previously reported, over 800 comment letters were submitted in response to the DOL's proposed rule by last week's comment period deadline.  

Massachusetts Approves Board Gender Diversity Resolution 

Massachusetts became the latest state (after California and Illinois) to approve a board gender diversity resolution. The non-binding resolution, passed with the unanimous approval of the state's Senate, seeks (i) public disclosure by all public and private companies of the number of women and total number of directors on their boards, and (ii) by the end of 2018, a minimum of 3 women directors on boards with nine or more members, and a minimum of 2 women directors on boards with fewer than nine members.  

ESMA Publishes Responses on Shareholder Voting Rights to Best Practice Principles 

Yesterday, the European Securities and Markets Authority (ESMA) published the responses received to its call for evidence on shareholder voting rights. As previously reported, ESMA sought specific feedback from investors, proxy advisors, corporate issuers and other stakeholders on how they perceived the most recent proxy seasons since the Best Practice Principles for Providers of Shareholder Voting Research and Analysis (BPP) were initially published in March 2014.

Referencing its Summer 2015 Boardroom Bellwether survey, the Institute of Chartered Secretaries and Administrators' (ICSA) comment letter noted that 58% of companies perceived the influence of proxy advisers on shareholder engagement with the company to be negative (only 14% cited a positive influence), and that its members have noticed no changes in the BPP signatories' practices since the BPP publication other than a deterioration in the time given for issuers to respond to proxy advisor reports (in the case of at least one of the original signatories to the BPP).

The ICSA's letter further indicates that the BPP has made no difference in improving issuer understanding of - or confidence in - the proxy advisory industry and that, although it may be premature to evaluate the impact of the BPP, additional measures would be necessary to achieve this, including requirements to, e.g., provide issuers with a minimum time to respond to reports before they are issued; take into account any errors identified by issuers and correct reports; clarify actions responsive to conflicts of interest; and disclose processes for checking report information.  

Bills We Are Monitoring

• The Financial Services Committee unanimously approved last week the Reforming Access for Investments in Startup Enterprises Act of 2015 (H.R. 1839). The bill aims to promote a liquid secondary market for the sale of private securities, and encourage startups and private companies to attract and retain talented employees and raise equity capital to grow their business. See this Summary, and the Chamber of Commerce letter of support.
• Rep. Michael McCaul (R-TX-10) introduced the One In, One Out Act (H.R. 3256) last week, which would require each agency to repeal or revise one or more existing regulations before issuing a new regulation. The bill was referred to the Oversight and Government Reform and Judiciary Committees.
• House Judiciary Committee Chair Bob Goodlatte (R-VA) and Regulatory Reform, Commercial and Antitrust Law Subcommittee Chair Tom Marino (R-PA) introduced the Require Evaluation before Implementing Executive Wishlists, or REVIEW, Act of 2015. The Act reportedly would automatically stay the effective dates of new regulations that would have an economic impact of more than $1 billion if a legal challenge to the rule is filed in court until the challenge is resolved. Sen. James Lankford (R-OK) introduced companion legislation in the Senate.

Senate Declares National Whistleblower Appreciation Day 

Last week, the Senate adopted S. Res. 236, declaring July 30 as National Whistleblower Appreciation Day. July 30 is reportedly the anniversary of this first whistleblower law enacted by the Continental Congress in 1778:

That it is the duty of all persons in the service of the United States, as well as all other inhabitants thereof, to give the earliest information to Congress or any other proper authority of any misconduct, frauds or misdemeanors committed by any persons in the service of these states, which may come to their knowledge.

Rule 13D's 10-Day Reporting Window Continues to be Divisive

This new Agenda article (subscription required) highlights the ongoing divergent views among issuers and investors concerning the Exchange Act Rule 13d 10-day filing period to report the acquisition of more than 5% of a company's equity securities. The article notes that, not surprisingly, Pershing Square's Bill Ackman and other investor activists generally favor the rule's "10-day blind period" as is, while corporates and others (including non-activist investors) believe the 10-day window, which may have made sense in 1968 when the rule was adopted (before electronic portfolio trading and current information technology), is outdated and should be meaningfully reduced. Here is a relevant excerpt: 

Darla Stuckey, president and CEO of the Society of Corporate Secretaries and Governance Professionals, counters that the 10-day blind period results in an activist's buying shares at a discount to their price once the 13D is filed. "Accumulating a large position at an attractive pre-filing price can make a contest profitable, functioning as a funding source for the legal and other costs that an activist incurs," Stuckey writes in an e-mail. Given today's trading speed, cutting the period to three to five days would address the problem, she adds. 

As previously reported, several watchdog groups (Citizens for Responsibility and Ethics in Washington, the Government Accountability Project and New Rules for Global Finance) recently sought Congressional action to substantially reduce the reporting time frame to "prevent activists from acquiring control using stealth techniques and derivative instruments to evade the reporting requirements." The SEC is reportedly investigating activist coordination for potential 13(d) violations (discussed here).

ISS Releases Annual Policy Survey for 2016 Policy Formulation 

ISS launched its annual global policy formulation process for 2016 yesterday with the release of this survey seeking input from investors, corporate issuers and other stakeholders. Among other topics, the survey covers equity compensation for non-executive directors, proxy access, director and CEO overboarding, and stock buybacks in the context of capital allocation. The survey will close on September 4 at 5 pm ET. The survey will be followed by an open comment period designed to elicit feedback on proposed and actual policy updates. See this Gibson Dunn blog. 

DOJ Probes Georgeson for Illegally Obtaining Confidential Company Information  

The Wall Street Journal reported that Computershare-owned Georgeson is under investigation by the U.S. Attorney's office for buying more than $12,000 of tickets to games and concerts for a former ISS employee in exchange for confidential shareholder voting information. Last week we reported that a former ISS employee pleaded guilty in Boston federal court to conspiring over a 6-year period to share such information with a proxy solicitation firm in exchange for perks.  

This excerpt from the article indicates that we may see more of this type of enforcement activity going forward:  

In a statement to The Wall Street Journal, U.S. Attorney for the District of Massachusetts Carmen Ortiz said her office is looking more closely at the "black market for confidential corporate information" outside of insider trading, especially those who pay bribes or kickbacks for that information. "We expect those investigations will result in criminal charges."  

Takeaways from BlackRock's and Vanguard's Letters to Portfolio Company Boards

In this new memo, Cleary Gottlieb provides key takeaways for companies in response to BlackRock Chair & CEO Larry Fink's and Vanguard Chair and CEO F. William McNabb's 2014 and 2015 letters to their portfolio company boards of directors concerning long-termism and shareholder engagement. Copies of the letters are included for easy reference.

Last week, Simpson Thacher issued this series of memos regarding the results of the 2015 proxy season for Russell 3000 companies:

• A review of Proxy Access Proposals through July 26, including approval/failure rates and shareholder support, proxy advisor and large institutional investor positions, proposal trends including management responses, and going-forward considerations.
• An analysis of Independent Chair Proposals, including voting results, proxy advisor and large institutional investor positions, and SEC no-action letters. Of the 62 of the 64 total proposals submitted that went to a vote, only 3.2% passed - despite an increase in 
  ISS recommendations "for" such proposals following the recent adoption of its new policy. The 3.2% pass rate compares to 5% last year and 8% in 2013.
• Special Meeting Proposal results and analysis for the 20 shareholder proposals that went to a vote - six of which proposed to create the right to a special meeting and 14 of which proposed to reduce the ownership threshold relative to an existing right. Of the 20, just four received majority support - three of which created the right and one of which reduced the threshold. As of June 30, 339 S&P 500 and Fortune 500 reportedly already provided a right to a special meeting.

See also Cleary Gottlieb's proxy access memo, which includes proxy advisor positions on proxy access proposals generally, as well as post-vote; positions taken by BlackRock, Vanguard, Fidelity and CII; company responses to proposals; and tactical considerations.

ISS released this preliminary 2015 proxy season review noting these key takeaways:

• Explosion of proxy access, with 60% of proposals receiving majority support and average "for" votes 20% higher than last year.
• Hedge fund activists emboldened by two consecutive years of success in placing their nominees on boards, which purportedly encouraged settlements with dissidents in 2015.
• Significant support for management's director nominees, averaging over 96% at Russell 3000 companies.
• Environmental and social proposals outweighed other types of proposals submitted, but 40% were withdrawn - indicative of successful corporate/investor engagements.
• Executive compensation issues faded into the background with strong SoP support.

CII Issues Proxy Access Best Practices

Today CII published this "best practices" guide on proxy access. The guide: (i) highlights seven provisions that companies have included or purportedly are considering including in their proxy access bylaws or charter amendments, and which CII deems could make the proxy access right difficult to use or unworkable; and (ii) clarifies CII's policy or public position on each.

Proxy access provisions of concern to CII are:

• 5% ownership threshold
• Percent or number of director candidates could result in fewer than two
• Cap on the number of shareholders who may aggregate their shares
• Lack of clarity on whether loaned shares count toward the ownership threshold
• Requirement to continue to hold shares after the annual meeting
• Re-nomination restrictions if nominee fails to receive a specified % of votes
• Prohibition on third-party compensation arrangements

See also this Wall Street Journal article noting that, as of late June, all 32 companies that had implemented proxy access failed to comply with at least one of the seven "best practice" provisions.

Retail Investor Survey Reveals Potential Shift in Awareness & Potential Influence

A recent inaugural survey by the Brunswick Group of just over 800 active US-based retail investors reveals that the majority are paying attention to shareholder activism and believe activists drive shareholder value. Specifically, the majority of retail investors:

• Are aware of shareholder activism;
• Think there needs to be a greater focus on shareholder value in corporate America;
• Believe activists add long-term value;
• Want to be informed during the campaign, and most trust third-party sources; and
• Are likely to vote if they care about an issue.

Note that only about half of investors surveyed agree that the boards of the companies in which they invest are working in their best interests.

As noted in the report, understanding retail investor perspectives and expectations is increasingly important in view of (among other things) their potential impact on vote outcomes, as evidenced by the recent defeat of Nelson Peltz in the Dupont-Trian proxy fight. See also this related infographic.

CII Doesn't Prefer (But Won't Oppose) New PCAOB Form for Audit Partner Disclosure

Last week, CII submitted this comment letter to the PCAOB in response to its proposal to require disclosure of the engagement partner and certain other audit participants on a new Form AP as an alternative to the auditor's report, as previously proposed. As previously reported, the proposal would require audit firms to file the new form with the PCAOB to make such information public. The new forms would be posted and made searchable on the PCAOB's website.

In its letter, CII identified reasons why it believes that disclosure on the new form wouldn't be as beneficial as disclosure in the auditor's report (e.g., timing of availability, engagement partner accountability), but also expressed that it would not oppose the new form as an alternative. CII also proposed specific search and functionality criteria, and a maximum 10-day filing period for the form after filing of the auditor's report rather than 30 calendar days as proposed. Comments on the proposal are due August 31, 2015.

CalPERS Reveals Own Pay/Performance Disconnect

In these recent blogs (see here and here), Keith Bishop discusses CalPERS' seemingly boundless support for the SEC's proposed Pay vs. Performance Disclosure Rule in the context of an apparent disconnect between its own Chief Investment Officer's (CIO) pay and the fund's performance. The CIO is reportedly California's highest paid civil servant outside the University of California system, with 2014 total pay up 36% over the prior year compared to reported "preliminary and very anemic investment returns of 2.4%" - or 5.1% below its assumed return for its fiscal year ended June 30. Keith does note that the incumbent was serving as acting CIO for the seven months prior to last September, which may make such a pay/performance analysis arguably unfair or misleading, but indicates that that's his point - i.e., shouldn't the same game rules apply to both issuers and investors?

This week's highlighted question from the Huddle is:

Our Board has "strongly suggested" that the Board's self-assessment materials go through an outside law firm. The logic is that this will increase the chances that those materials will be protected by the attorney-client privilege should litigation occur and requests for disclosure for those materials issue. I think that this measure will likely not protect the materials from disclosure. Am interested in the practices of others.

This question generated a lot of activity and many excellent answers (too many to note here) including: 

Just because a lawyer does it, doesn't means it is privileged. Corporate secretaries can help our boards understand how privilege applies, if at all, to varying forms of self-assessment. 

If a board expresses a preference for a third party to facilitate its self-assessment, we can add value by helping the board think through why it prefers a third party. In the end it may not. If the board decides that it wants a third party, we can help the board define the scope/goal of work to be done and identify a third party well situated to provide that service by making the board aware of the range of service providers and services out there. 

Whatever form the self-assessment takes, the corporate secretary will be involved in implementing the changes and goals agreed to during the process.

Check out the Society Huddle.