The SEC focuses on governance practices and policies viewed as relevant to employee/director equity owners’ and shareholders’ alignment of interests.
On February 9, the U.S. Securities and Exchange Commission (SEC) proposed amendments to Regulation S-K Item 407 (Corporate governance) to implement section 955 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The proposed amendments would require public companies, other than foreign private issuers, to provide disclosure about whether their directors, officers, and other employees are permitted to hedge or offset any decrease in the market value of equity securities granted to them by the company as compensation or otherwise held by them, directly or indirectly.
The proposed changes would enhance existing requirements under Regulation S-K Item 402(b)(2)(xiii), which—in the context of a discussion and analysis (CD&A) of a company’s compensation of named executive officers (NEOs)—already calls for proxy disclosure of any policies regarding hedging by NEOs of the economic risk of owning company securities. The CD&A disclosure requirement does not apply to emerging growth companies, smaller reporting companies, registered investment companies, or foreign private issuers and applies to hedging by NEOs only. Proposed S-K Item 407(i), on the other hand, would apply to emerging growth companies, smaller reporting companies, and closed-end investment companies that have listed shares on a national securities exchange, but not to foreign private issuers, which are not subject to the proxy rules, and would cover all employees, including officers and directors.
As to transactions subject to proposed S-K Item 407(i), the disclosure requirement would apply to any equity securities of the company, its parent, subsidiary, or any subsidiary of any parent of the company that are registered under section 12 of the Securities Exchange Act of 1934, as amended, and to any financial instruments, including prepaid variable forward contracts, equity swaps, collars, exchange funds, or other instruments that are designed to hedge or offset any decrease in the market value of the company’s equity securities. As to disclosures of hedging policies, the instructions to proposed S-K Item 407(i) further provide that companies would be required to disclose the categories of persons who are permitted to engage in hedging transactions and those who are not and the hedging transactions it permits—together with sufficient details that explain the scope of such permitted transactions—as well as those it prohibits.
Recognizing that the proposed disclosure requirement may overlap with the existing CD&A disclosure requirement, companies would be permitted to include in their CD&A a cross reference to the relevant corporate governance disclosures that address companies’ policies regarding hedging by NEOs.
In view of positions taken by proxy advisory firms in recent years and for other reasons, many public companies have already taken action to implement and publicly disclose hedging policies in ways that may be consistent with certain aspects of the proposal. Until the SEC adopts final rules, companies should review their own policies (or lack thereof) to assess where they stand in light of the proposed disclosure requirement, in particular how they might implement final rules that may be adopted by the SEC.
The SEC requests comment on a number of questions in its proposing release, including the scope of transactions covered by proposed S-K Item 407(i), such as whether the proposed principles-based approach should be clarified to more fully describe the hedging transactions to be covered by the rule. In addition, the SEC seeks specific comment on whether emerging growth companies and smaller reporting companies should be exempt from the proposed requirement or allowed to follow a delayed implementation schedule. The SEC asks a number of other questions regarding the scope of, definitions used in, and application of the proposed disclosure requirement. The comment period ends 60 days following the publication of the proposing release in the Federal Register.
The proposing release can be accessed here.