We blogged on the new CEO Pay Ratio disclosure rules last week on the day they were published. Since then, every law firm in the country has sent a newsletter on this topic. Therefore, I decided to wait to write my follow up until after the SEC's Director of the Division of Corporation Finance Keith Higgins, made his semi-public remarks at our conference in Washington, DC yesterday. From an executive compensation professional's perspective, the rules came out about as well as we could have hoped. Application of the proposed rules will still be difficult, but the rules themselves are not difficult to understand. The proposed rules would not apply to emerging growth companies, smaller reporting companies, or foreign private issuers.
There are no more than 10 key points to understand in the proposed rules, divided between two components of the rule: (1) How to calculate the ratio and (2) How to report the ratio in the proxy statement.
How to Calculate the Ratio: The SEC did about as much as it could to make these rules practical for reporting companies. Due to concerns about the burdensome cost and amount of time any such pay ratio disclosure would entail, the SEC proposed rules that do not expressly specify any required calculation methodologies for identifying the median employee. Instead, the SEC provided "instructions and guidance designed to allow registrants to choose from several alternative methods to identify the median, so that they may use the method that works best for their own facts and circumstances" as "appropriate for the company's size, structure and compensation practices."
The rules also allow companies to use reasonable compensation estimates to identify the median employee (e.g., W-2 wages) as long as a company uses a "consistently applied compensation measure." The rules still will very difficult for corporations with substantial numbers of non-U.S. based employees.
The SEC also made it clear that the calculations required by the proposed rules must include all full-time, part-time, temporary, seasonal and non-U.S. employees (and including those at subsidiaries). Companies can annualize the compensation of full-time employees who worked less than the full year, but cannot annualize or make full-time equivalent adjustments to the compensation of the part-time, temporary, seasonal and non-U.S. employees. However, the calculations are based on a year-end snap-shot of employment, so that a temporary or seasonal employee who is not employed on the last day of the corporation's preceding fiscal year (December 31 for calendar year reporting companies) will not be counted.
How to Report the Ratio in the Proxy Statement: A company must disclose ratio in proxy in their proxy statements (or Form 10-K for those that do not file a proxy). The company must make this disclose within 120 days of end of its fiscal year. For those of us who need citations, the proposed disclosure would be detailed in a new paragraph (u) of Item 402.
Ironically, for 162 pages of proposed rules, most companies will likely disclose the CEO pay ratio in a single paragraph. The company must "briefly disclose" the methodology and any material assumptions, adjustments or estimates used to identify the median, and clearly identify any estimated amounts as such.
The proposed rules are subject to comment for a 60-day period following publication in the Federal Register. This disclosure most likely will not be legally required until 2016 for calendar year reporting companies.
However, companies and their adviser should be aware that some "activists" have already announced their intention to pressure certain corporations to make this disclosure in 2014, as I discussed in a Blog last month ("Get Ready for Shareholder Proposals on Executive Compensation").
Keep in mind that these rules are only proposed. The key points described above could change.