On January 25, 2011, the Securities and Exchange Commission (SEC) adopted rule changes to implement the provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act relating to shareholder approval of executive compensation and “golden parachute” compensation arrangements. The Dodd-Frank Act amended the Securities Exchange Act of 1934 (Exchange Act) by adding Section 14A, which requires reporting companies to conduct a separate shareholder advisory vote on the compensation of executives (frequently referred to as “say-on-pay”). Section 14A also requires companies to conduct a separate shareholder advisory vote to determine how often the company will conduct a shareholder vote on executive compensation (frequently referred to as “say-on-frequency”). Finally, Section 14A requires companies soliciting votes to approve a merger or acquisition transaction to provide disclosure of golden parachute compensation and, in certain circumstances, to conduct a separate shareholder advisory vote to approve the golden parachute arrangements.
Effective Dates and Transition Provisions for Smaller Reporting Companies
The say-on-pay vote and the say-on-frequency vote are required for annual meetings of shareholders at which proxies will be solicited for the election of directors, or special meetings in lieu of such annual meetings, held on or after January 21, 2011. Smaller reporting companies received a reprieve, but not a permanent exemption. Companies that are smaller reporting companies as of January 21, 2011, including newly public companies that qualify as smaller reporting companies after January 21, 2011, will not be required to provide a say-on-pay vote or the related frequency vote until the first annual or other meeting at which directors will be elected occurring on or after January 21, 2013.
The rule amendments regarding golden parachute compensation are effective for all companies for initial filings on or after April 25, 2011. There is no transition period for smaller reporting companies.
“Say-on-Pay”—Advisory Vote on Executive Compensation
Section 14A of the Exchange Act provides that at least once every three years public companies must give shareholders a non-binding, advisory vote on whether to approve the compensation of named executive officers. To implement this “say-on-pay” vote, the SEC has adopted Rule 14a-21(a). Under the new rule, shareholders must be given a vote on all executive compensation disclosed under Item 402 of Regulation S-K, such as disclosures in the Compensation Discussion and Analysis (CD&A), the Summary Compensation Table, and the related tables and narratives. The vote is limited to executive compensation and does not cover non-employee director compensation.
The new rule does not require any specific language or form of resolution to be voted on by shareholders. However, because new Section 14A(a)(1) of the Exchange Act requires that the shareholder advisory vote must be “to approve the compensation of executives, as disclosed pursuant to [Item 402 of Regulation S-K] or any successor thereto”, the SEC has provided an instruction that this language should be included in the company’s resolution for the say-on-pay vote and has given an example of a resolution that satisfies this requirement.
While the shareholder say-on-pay vote is advisory only, companies (but not smaller reporting companies) are required to address in the CD&A in subsequent years how the most recent shareholder say-on-pay vote has affected compensation policies and decisions. Additionally, companies must disclose in their next quarterly report on Form 10-Q (or annual report on Form 10-K if the vote occurs in the fourth quarter) whether they will follow the advisory vote in determining compensation.
“Say-on-Frequency”—Advisory Vote on the Frequency of Say-on-Pay Votes
Section 14A of the Exchange Act provides that at least once every six years public companies must give shareholders a non-binding, advisory vote in their annual proxy statement on whether to hold the say-on-pay vote every one, two, or three years. To implement this “say-on-frequency” vote, the SEC has adopted Rule 14a-21(b). Under the new rule, companies must include a separate resolution in their annual proxy statements that gives shareholders four vote choices—whether the say-on-pay vote will occur every one, two, or three years, or to abstain from voting. Companies will be required to briefly explain the general effect of the vote, such as whether the vote is non-binding. Companies also must provide disclosure in their proxy materials of the current frequency of say-on-pay votes and when the next scheduled say on pay vote will occur.
The SEC expects that the board of directors will include a recommendation as to how shareholders should vote on the frequency of say-on-pay votes. However, the company must make clear that the proxy card provides for four choices and that shareholders are not voting to approve or disapprove the company’s recommendation.
Form 8-K has been amended (and not Forms 10-Q and 10-K, as originally proposed) to require companies to disclose their “say-on-frequency” decision; that is, how often the company will hold the say-on-pay vote in light of the results of the shareholder vote on frequency. A company must file an amendment to its prior Form 8-K filing that discloses the results of the voting. This amended Form 8-K will be due no later than 150 calendar days after the date of the meeting at which the frequency vote occurred, but no later than 60 calendar days prior to the deadline for submission of shareholder proposals for inclusion in the company’s proxy materials for the company’s subsequent annual meeting. In the amended Form 8-K, the company must disclose its determination regarding the frequency of say-on-pay votes.
The SEC’s proxy rules generally require companies to file proxy statements in preliminary form at least ten calendar days before definitive proxy materials are first sent to shareholders, unless the items included for a shareholder vote are limited to the election of directors and other specified matters. The rule amendments add the say-on-pay and say-on-frequency votes to the list of items that do not require a preliminary filing.
Companies that are participating in the Troubled Asset Relief Program are required to conduct a separate annual shareholder vote to approve executive compensation during the period during which any obligation arising from participation under TARP remains outstanding. Because the say-on-pay vote required under TARP is effectively the same as would be required under the proposed SEC rules, a shareholder vote to approve executive compensation under the requirement for TARP participants would satisfy the say-on-pay requirement under the Dodd-Frank Act. Because TARP participants must have an annual say-on-pay vote, they are not required to have a say-on-frequency vote until the first annual meeting after the company has repaid all outstanding indebtedness under TARP.
“Say-on-Golden Parachutes”—Disclosure and Advisory Vote in Connection with M&A Transactions
In connection with certain merger or acquisition transactions, Section 14A of the Exchange Act requires companies to disclose to shareholders in a merger proxy any “golden parachute” compensation arrangements with its named executive officers (or, if the company soliciting the proxy is not the acquiring company, the compensation arrangements between the acquiring company and its named executive officers). Additionally, where any golden parachute compensation arrangement has not been subject to a shareholder say-on-pay vote, shareholders must be given a non-binding, advisory vote on such arrangement.
In order to implement the golden parachute disclosure requirements of Section 14A in connection with merger or acquisition transactions, the SEC has adopted new Item 402(t) to Regulation S-K, which requires disclosure of named executive officers’ golden parachute arrangements in both tabular and narrative form. Such tabular and narrative disclosure must be provided in any proxy or consent solicitation to approve an acquisition or a merger, consolidation or proposed sale or disposition of all or substantially all of the company’s assets.
The SEC has adopted the following tabular form for disclosure under new Item 402(t):
Click here to view the table.
Elements of compensation that must be separately quantified and included in the total would be any cash severance payment (column b); the dollar value of accelerated stock awards, in-the-money option awards for which vesting is accelerated, and payment in cancellation of stock and option awards (column c); pension and nonqualified deferred compensation benefit enhancements (column d); perquisites and other personal benefits and health and welfare benefits (column e); tax reimbursements, such as Internal Revenue Code Section 280G gross-ups (column f). Any item that does not come within the other columns would go in the “other” column. Companies may add additional columns to the table to facilitate clear presentation.
Only compensation that is based on or otherwise relates to the transaction has to be disclosed. As a result, previously vested equity awards and bona-fide post-transaction employment agreements will not be included in the table. Narrative disclosure of any conditions or obligations applicable to the receipt of payment, such as non-compete agreements, must accompany the table.
Although not required by the Dodd-Frank Act, the SEC has adopted amendments to other rules and forms so that golden parachute disclosure will be provided in registration statements on Form S-4 that contain disclosure relating to mergers and similar transactions and in disclosure documents for going private transactions.
The SEC did not amend the requirements for golden parachute disclosure in annual meeting proxy statements, although under the new rules companies are permitted to provide the new disclosure in annual meeting proxies. If the new golden parachute disclosure is provided in an annual meeting proxy statement – and voted on as part of a say-on-pay vote – a separate vote on the golden parachute payments will not be required at the time of the acquisition transaction. New golden parachute arrangements and any revisions to golden parachute arrangements made subsequent to the shareholder vote will be subject to the separate merger proxy shareholder vote requirement.