Yesterday, Corp Fin released yet another group of new and revised CDIs, these relating to pay-versus-performance disclosure. (See this PubCo post.) Several of the new CDIs address issues regarding peer groups and some provide advice about handling transitions in company status. A couple of the CDIs revise responses that Corp Fin provided in the February and October PVP CDIs. Summaries are below, but each CDI number is linked to the CDI on the SEC website, so you can easily read the version in full.
Summary of the rule. As a reminder, Item 402(v) of Reg S-K requires companies to describe the relationship between executive comp actually paid and the financial performance of the company for the five most recently completed fiscal years in proxy or information statements in which executive compensation disclosure is required.
Under the rule, companies are required to provide a table disclosing specified executive comp and financial performance measures for the principal executive officer and, as a “mean” average, for the other named executive officers (as defined in Item 402 for all companies and for smaller reporting companies, respectively). To allow investors to assess whether changes in the composition of the NEO group led to changes in the average compensation reported from year to year, companies need to identify in a footnote the individual NEOs whose compensation is included in the average for each year. The table must include a measure of total comp (taken from the Summary Comp Table), as well as a measure reflecting “executive compensation actually paid,” a complex calculation prescribed by the rule.
As it turns out, the calculation of comp actually paid can sometimes result in a negative number. According to Commissioner Mark Uyeda, approximately “34% of companies subject to the new rule reported a negative amount for the principal executive officer’s ‘compensation actually paid’ in one of the three years” included in the new PVP table. (See this PubCo post.)
In addition, the table must include as financial performance measures “total shareholder return” for both the company and for its peer group, as well as the company’s net income and a financial performance measure selected by, and specific to, the company that the company believes “represents the most important financial performance measure,” not otherwise required in the table, that the company uses to link compensation actually paid to its NEOs to company performance for the most recently completed fiscal year (referred to as the “Company-Selected Measure”). In years when a company has multiple PEOs, the company would need to include separate SCT total comp and comp actually paid columns for each PEO.
Several of the new CDIs relate to peer groups, so more detail here may be warranted. Under the final rules, a company must disclose in the table peer group TSR (weighted according to market capitalization), using either the same peer group used for the performance graph (Item 201(e)) or a peer group used in CD&A to disclose benchmarking practices. If the peer group is not a published-industry or line-of-business index, the company must disclose in a footnote the identity of the issuers in the group (although the company may incorporate by reference if the composition of the peer group has previously been disclosed in prior SEC filings). Changes to the peer group are treated much like changes in connection with the performance graph: if the company changes its peer group from the prior year, it must include “tabular disclosure of peer group TSR for that new peer group (for all years in the table), but must explain, in a footnote, the reason for the change, and compare the registrant’s TSR to that of both the old and the new group.” Both TSR and peer group TSR must be calculated based on a fixed investment of one hundred dollars at the measurement point. TSR must be calculated on the same cumulative basis as in connection with the performance graph, “measured from the market close on the last trading day before the registrant’s earliest fiscal year in the table through and including the end of the fiscal year for which TSR is being calculated (i.e., the TSR for the first year in the table will represent the TSR over that first year, the TSR for the second year will represent the cumulative TSR over the first and the second years, etc.).”
The company is also required to “clearly describe,” using the information presented in the table, the relationships between compensation actually paid to the PEO and the mean average paid to the remaining NEOs and three measures of the company’s financial performance: cumulative TSR; net income; and the Company-Selected Measure, again over the five most recently completed fiscal years. The company must also describe the relationship between the company’s TSR and the weighted TSR of its peer group over the same period. SRCs can take advantage of scaled disclosure, describing only the measures they are required to include in the table and for their three, rather than five, most recently completed fiscal years.
Finally, the company (other than an SRC) is required to provide an unranked “Tabular List” of three to seven of the most important financial performance measures—which must include the Company-Selected Measure—used by the company to link executive comp actually paid to the NEOs during the last fiscal year to company performance. At their option, companies may also include non-financial performance measures in this list if they considered those measures to be among their “most important” measures and the company has disclosed at least three financial performance measures. Companies may also voluntarily provide supplemental measures of compensation or financial performance or other supplemental disclosures, so long as they are “clearly identified as supplemental, not misleading, and not presented with greater prominence than the required disclosure.”
As transition relief, in the first applicable filing after effectiveness of the rules, companies needed to provide the disclosure for the last three fiscal years and must provide disclosure for an additional year in each of the two subsequent annual proxy filings where disclosure is required; however, SRCs are required to provide disclosure only for the last two fiscal years in the first applicable filing. Emerging growth companies are exempt. For newly public companies, information for fiscal years prior to the last completed fiscal year will not be required if the company was not a reporting company under Section 13(a) or 15(d) of the Exchange Act at any time during that year. (See this PubCo post.)
Regulation S-K—Item 402(v)—Pay versus Performance
- Revised Question 128D.07. Where a company is providing its initial PVP disclosure in its 2023 proxy statement for three years (as permitted by Instruction 1 to Item 402(v)), and, in its CD&A, used a different peer group for 2020 and 2021 than for 2022, the company may not use the 2022 peer group to determine TSR for each of the three years. Rather, the company should present the peer group TSR for each year in the table using the peer group disclosed in its CD&A for that year. In the 2024 proxy statement, Corp Fin advises, “if the registrant uses the same peer group for 2023 as it used for 2022, the registrant should present its peer group total shareholder return for each of the years in the table using the 2023 peer group. If it changes the peer group in subsequent years, it must provide disclosure of the change in accordance with Regulation S-K Item 402(v)(2)(iv)” (which requires the company to explain, in a footnote, the reasons for this change and compare the company’s cumulative total return with that of both the newly selected peer group and the peer group used in the immediately preceding fiscal year).
- Revised Question 128D.18. For stock and option awards that allow accelerated vesting if the holder becomes retirement eligible, for purposes of the PVP table and calculation of comp actually paid, the award condition would be considered satisfied in the year that the holder becomes retirement eligible. However, if retirement eligibility is not the sole vesting condition, other substantive conditions must also be considered in determining when an award has vested. These conditions would include, but not be limited to, a market condition (see CDI 128D.16) or a condition that results in vesting upon the earlier of the holder’s actual retirement or the satisfaction of the requisite service period.
- Question 128D.23. Where stock awards entitle the holder to receive dividends or dividend equivalents paid on the underlying shares prior to the vesting date, but the dollar value of the dividends or dividend equivalents paid is not reflected in the fair value of these awards, the dollar value of dividends or dividend equivalents should be included in the calculation of executive compensation actually paid. Item 402(v)(2)(iii)(C)(1)(vi) of Reg S-K requires the calculation of executive comp actually paid to include dividends or dividend equivalents paid that are not already reflected in the fair value of stock awards or included in another component of total compensation.
- Question 128D.24. For its TSR peer group, the company must use either the same index or issuers that the company used for the performance graph or CD&A. If a company uses more than one “published industry or line-of-business” index for its performance graph, it may choose which index it uses for purposes of its PVP disclosure. But, to provide clarity to investors, Corp Fin advises that the company should include a footnote disclosing the index chosen. If the company chooses to use a different published industry or line-of-business index from the one it used for the immediately preceding fiscal year, it is required under Item 402(v)(2)(iv) to explain, in a footnote, the reasons for this change and compare the company’s cumulative total return with that of both the newly selected peer group and the peer group used in the immediately preceding fiscal year.
- Question 128D.25. If the company discloses in CD&A that it determines the vesting of performance-based equity awards based on relative TSR compared to a broad-based equity index, the company may not use that broad-based index as its peer group for PVP disclosure. Item 402(v)(2)(iv) does not contemplate the use of a broad-based equity index as a peer group for purposes of the PVP disclosure.
- Question 128D.26. Under Item 402(v)(2)(iv), if the company’s peer group is not a published industry or line-of-business index, the identity of the issuers composing the group must be disclosed in a footnote. The returns of each component issuer of the group must be weighted according to the respective issuers’ stock market capitalization at the beginning of each period for which a return is indicated. The market capitalization-based weighting requirement is applicable only if the company is not using a published industry or line-of-business index pursuant to Item 201(e)(1)(ii) (i.e., the performance graph).
- Question 128D.27. If a company that uses a peer group other than a published industry or line-of-business index as its peer group under Item 402(v)(2)(iv) adds or removes any of the companies in the peer group, it is required to footnote the changes and compare its cumulative TSR with that of both the updated peer group and the peer group used in the immediately preceding fiscal year. However, consistent with Reg S-K CDI 206.05, this comparison is not required if (1) an entity is omitted solely because it is no longer in the line of business or industry, or (2) the changes in the composition of the index/peer group are the result of the application of pre-established objective criteria. In these two cases, a specific description of, and the bases for, the change must be disclosed, including the names of the companies deleted from the new index/peer group.
- Question 128D.28. Here’s a long CDI about loss of status as a smaller reporting company. In this case, the SRC with a December 31 FYE provided scaled PVP disclosure for fiscal 2021 and 2022 in its proxy statement filed in April 2023. Based on its public float as of June 30, 2023, however, it lost its SRC status. The company intends to incorporate its Part III information into its 2023 Form 10-K from its definitive proxy statement. How should it handle the PVP information in the proxy statement? Corp Fin advises that the staff will not object if a company that loses SRC status as of January 1, 2024, continues to include scaled disclosure (under Reg S-K Item 402(v)(8)) in its definitive proxy statement filed not later than 120 days after its 2023 FYE and incorporates that information into Part III of Form 10-K. The PVP disclosure in the filing must cover fiscal years 2021, 2022 and 2023. After that, unless the company regains SRC status in subsequent years, any other proxy or information statement with PVP disclosure filed after January 1, 2024 must include non-scaled PVP disclosure. For example, in the company’s 2025 annual proxy statement, it must include non-scaled PVP disclosure for fiscal 2024. Although a non-SRC is required to provide Item 402(v) disclosure covering five years, “the staff will not object if the registrant does not add disclosure for a year prior to the years included in the first filing in which it provided Item 402(v) disclosure. The registrant generally is not required to revise the disclosure for prior years (in this example, 2021, 2022, and 2023) to conform to non-SRC status in such filings. However, because peer group TSR is calculated on a cumulative basis, the registrant should include peer group TSR for each year included in the pay versus performance table, measured from the market close on the last trading day before the registrant’s earliest fiscal year in the table. In addition, the registrant should include its numerically quantifiable performance under the Company-Selected Measure for each fiscal year in the table. The entirety of the Item 402(v) disclosure provided for all fiscal years must be XBRL tagged in accordance with Item 402(v)(7).”
- Question 128D.29 The PVP rule exempts emerging growth companies. Where an EGC loses that status, it is required to provide PVP disclosure in any proxy or information statement filed after the loss of EGC status. The staff advises, however, that it may apply the transitional relief in Instruction 1 to Item 402(v). Instruction 1 provides that a company may provide the required PVP disclosure “for three years, instead of five years, in the first filing in which it provides this disclosure, and may provide disclosure for an additional year in each of the two subsequent annual filings in which this disclosure is required.”
- New Question 128D.30 Where two (or more) individuals served as a company’s principal financial officer during a single covered fiscal year and were included as NEOs in the Summary Compensation Table, for purposes of calculating the average compensation amounts for the NEOs (other than the PEO) under Items 402(v)(2)(ii) and (iii), the company may not treat the two PFOs as the equivalent of one NEO. Each NEO must be included individually in the calculation of average compensation amounts. To provide clarity to investors, Corp Fin advises that the company should consider including additional disclosure about the impact of the inclusion of the two PFOs on the calculation.