The Securities and Exchange Commission, on October 18, 2010, proposed new rules implementing the “say-on-pay” and “say-on-golden parachute” provisions of Section 951 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act). The SEC rule proposal is available at http://www.sec.gov/rules/proposed/2010/33-9153. pdf. The issuance of the SEC’s rule proposal comes as a relief to many public companies and securities advisors, as Section 951 of the Dodd-Frank Act requires compliance for annual meetings occurring on or after January 21, 2011, yet is short on details as to how to implement its requirements. The new SEC rule proposal offers answers to many of the questions regarding implementation of say-on-pay and say-on-golden parachutes.

Say-on-Pay

When will a say-on-pay vote be required?

A say-on-pay vote will be required, under proposed Rule 14a-21(a) under the Securities Exchange Act of 1934, as amended (the Exchange Act), at least once every three years. A say-on-pay vote will only be required at an annual meeting or other meeting where disclosure of executive compensation is required pursuant to Item 402 of Regulation S-K. The first say-on-pay vote must occur at the first such meeting held on or after January 21, 2011.

What will shareholders be asked to approve in the say-on-pay vote?

Proposed Rule 14a-21(a) provides that shareholders will be asked to approve the compensation of the issuer’s named executive officers as disclosed pursuant to Item 402 of Regulation S-K, including the Compensation Discussion and Analysis (CD&A), the compensation tables and the other required narrative disclosure. Since smaller reporting companies are not required to include CD&A, the say-on-pay vote for smaller reporting companies will not cover CD&A.

Does the say-on-pay vote cover director compensation?

No, the say-on-pay vote does not cover director compensation.

Does the say-on-pay vote cover an issuer’s compensation policies as they relate to risk management and risk-taking incentives?

Even if an issuer includes disclosure, pursuant to Item 402(s) of Regulation S-K, with respect to its compensation policies as they relate to risk management and risk-taking incentives, the say-on-pay vote will not cover that disclosure. The SEC observes in its proposing release, however, that “to the extent that risk considerations are a material aspect of the issuer’s compensation policies or decisions for named executive officers, the issuer is required to discuss them as part of its CD&A, and therefore such disclosure would be considered by shareholders when voting on executive compensation.”

Do the proposed rules require specific language for the say-on-pay proposal?

No, proposed Rule 14a-21(a) will not require specific language for the resolution to be voted on by shareholders. The rule proposal does state, however, that the shareholder vote must relate to all executive compensation disclosure set forth pursuant to Item 402 of Regulation S-K.

What proxy statement disclosure is required about the say-on-pay vote?

The SEC has proposed a new Item 24 to Schedule 14A. This item will require an issuer to disclose in its proxy statement for an annual meeting at which a say-on-pay vote is to be held that the issuer is providing a separate shareholder vote on executive compensation. The issuer will also be required to explain briefly the general effect of the vote, including the fact that the vote is non-binding.

What is the result of a negative say-on-pay vote?

The say-on-pay vote is an advisory vote that is not binding on an issuer or its Board of Directors. Neither the Dodd-Frank Act nor the SEC’s proposed rules require any changes to executive compensation as a result of a negative say-on-pay vote. We expect, however, that RiskMetrics Group and other proxy advisors may recommend withholding votes for the re-election of Compensation Committee members or other directors if a company makes no changes to executive compensation following a negative say-on-pay vote.

How does the say-on-pay vote impact CD&A?

The SEC has proposed to amend Item 402(b) of Regulation S-K, which sets forth the requirements for the CD&A, to require an issuer to address whether and, if so, how its compensation policies and decisions have taken into account the results of prior say-onpay votes. Smaller reporting companies, which are not required to provide a CD&A, will need to disclose, pursuant to Item 402(o) of Regulation S-K, consideration of prior say-onpay votes in determining executive compensation to the extent that this disclosure is a material factor necessary to an understanding of the information disclosed in the Summary Compensation Table.

Frequency of Say-on-Pay

When is a vote required on the frequency of say-on-pay votes?

Under proposed Rule 14a-21(b), an issuer would be required to provide a separate vote on the frequency of say-on-pay votes for the first annual meeting, or other meeting requiring disclosure of executive compensation, occurring on or after January 21, 2011. Thereafter, additional votes on the frequency of the say-on-pay vote would be required at least once every six years.

What proxy statement disclosure is required about the vote on the frequency of the say-on-pay vote?

Proposed Item 24 to Schedule 14A would require an issuer to disclose in its proxy statement that the issuer is providing a separate shareholder vote on the frequency with which a separate vote on executive compensation should be held. The issuer will also be required to explain briefly the general effect of the vote, including the fact that the vote is non-binding.

 What choices will shareholders be given with respect to the frequency of say-on-pay votes?

Section 14(a)(2) of the Exchange Act, added by the Dodd-Frank Act, requires that shareholders be allowed to choose between holding a say-on-pay vote every one, two or three years. To implement this provision, the SEC has proposed amendments to Rule 14a-4 to require that shareholders be able to choose one of four options when completing a proxy card: one year, two years, three years or abstain. In the proposing release, the SEC acknowledges that, pending the adoption of final rules, some proxy service providers may not be able to accommodate four choices on proxy cards and voting instruction forms. In that event, the SEC will not object if the cards and forms contain three choices (one year, two years and three years) and if the shares covered by the proxy card or voting instruction form are not voted on the frequency proposal if no box is checked.

Can the Board make a recommendation to shareholders with respect to the frequency of say-on-pay votes?

Yes, the SEC, in its proposing release, specifically contemplates that Boards will include a recommendation as to how shareholders should vote on the frequency of say-on-pay votes. Boards are not required to make a recommendation, however. If the Board does choose to make a recommendation, the proxy statement must make it clear that shareholders have four choices and that shareholders are not being asked to approve or disapprove the Board’s recommendation.

Is the vote on the frequency of say-on-pay votes binding?

No, the SEC proposing release states that the SEC views this vote as non-binding. The SEC takes this position notwithstanding language in Section 951 of the Dodd-Frank Act that indicates that the separate vote is “to determine” the frequency of the say-on-pay vote.

What vote will be required to decide how often say-on-pay votes should be held?

Normally, applicable state law or the issuer’s by-laws will determine what vote is necessary for a proposal to “be adopted”. In this case, however, the proposal has no legal effect and is merely advisory. The SEC, in an apparent effort to avoid having to address an issue normally left to state law, states in the proposing release “because the shareholder vote on the frequency of voting on executive compensation is advisory, we do not believe that it is necessary to prescribe a standard for determining which frequency has been “adopted” by shareholders.” We believe that most issuers, shareholders and proxy advisors will regard the option receiving a plurality of the votes to have “won”. Indeed, the SEC takes this approach in addressing the impact of the vote on shareholder proposals. See below under “Shareholder Proposals”.

How will an issuer inform its shareholders of the issuer’s plans with respect to the frequency of say-on-pay votes?

The SEC has proposed revisions to Form 10-Q and Form 10-K that would require an issuer to disclose its decision with respect to how frequently the issuer will conduct advisory say-on-pay votes in light of the results of the shareholder vote on frequency. If the shareholder vote on frequency occurs in an issuer’s first, second or third fiscal quarter, this vote would be required in new Item 5(c) of Part II of Form 10-Q. If the vote occurs in the issuer’s fourth fiscal quarter, the disclosure would be required in amended Item 9B of Form 10-K.

Say-on-Golden Parachutes – General

What is a say-on-golden parachute vote?

Section 951 of the Dodd-Frank Act added Section 14A(b)(2) to the Exchange Act to require a separate shareholder advisory vote on golden parachute compensation arrangements in connection with mergers and similar transactions. The vote covers golden parachute compensation arrangements disclosed in proxy statements by soliciting persons in accordance with Section14A(b)(1) of the Exchange Act, also added by the Dodd-Frank Act.

What does the SEC’s rule proposal address with respect to say-on-golden parachute votes?

The SEC rule proposal addresses when and how a non-binding shareholder say-on-golden parachute vote must be held. The proposal also addresses when an issuer must disclose additional information with respect to golden parachute arrangements and what must be included in that disclosure.

Say-on-Golden Parachutes – Disclosure Requirements

When would the proposed rules require additional disclosure with respect to golden parachute arrangements?

In order to implement the requirements of the Dodd-Frank Act, the SEC has proposed new Item 402(t) to Regulation S-K to require specified disclosure with respect to golden parachute arrangements in proxy or consent solicitations in connection with an acquisition, merger, consolidation, or proposed sale or other disposition of all or substantially all assets.

Will the specified golden parachute disclosure be required in filed documents other than merger proxy statements?

Yes, although not required by the Dodd-Frank Act, the SEC has proposed to require specified golden parachute disclosure pursuant to proposed Item 402(t) of Regulation S-K in the following:

  • information statements filed pursuant to Regulation 14C;
  • proxy or consent solicitations that do not contain merger proposals but require disclosure of information under Item 14 of Schedule 14A pursuant to Note A of Schedule 14A (e.g., where proxies are solicited by an acquiring company to approve a stock split in order to permit the acquirer to issue enough shares to complete an acquisition);
  • registration statements on Form S-4 and Form F-4 containing disclosure relating to mergers and similar transactions;
  • going private transactions on Schedule 13E-3; and
  • third-party tender offers on Schedule TO and Schedule 14D-9 solicitation/recommendation statements.

Will bidders in third-party tender offers be required to include Item 402(t) disclosure in Schedule TO filings?

Yes. A bidder in a third-party tender offer would be required to include Item 402(t) disclosure in its Schedule TO about a target’s golden parachute arrangements, but only to the extent that the bidder has made a reasonable inquiry about the arrangements and has knowledge of the arrangements. The SEC recognizes that not all bidders will have access to this information, especially in unsolicited bids.

Does the SEC propose to limit the disclosure required for golden parachute arrangements of foreign private issuers?

Yes. Where the target or subject company is a foreign private issuer, the SEC has proposed an exception for both bidders and targets in third-party tender offers and filing persons in Rule 13e-3 going-private transactions. The SEC has also proposed an exception to the disclosure obligation under Item 402(t) with respect to agreements and understandings with senior management of foreign private issuers where the target or acquirer is a foreign private issuer.

Would the specified disclosure with respect to golden parachute arrangements be required in annual meeting proxy statements?

No. Issuers may choose voluntarily to include this disclosure in an annual meeting proxy statement, however, in order to permit a say-on-golden parachute vote at the annual meeting, as discussed below.

What disclosure would be required with respect to golden parachute arrangements?

Proposed Item 402(t) of Regulation S-K would require disclosure of all golden parachute compensation relating to a merger among the target and acquiring companies and the named executives of each company. This requirement is broader than what is required by Exchange Act Section 14A(b)(1), but the SEC believes that the broader disclosure is necessary to capture the full scope of golden parachute compensation applicable to a transaction.

What types of golden parachute arrangements must be disclosed pursuant to Item 402(t)?

The disclosure required by Item 402(t) would require quantification with respect to any agreements or understandings, whether written or unwritten, between each named executive officer of the acquiring company or the target company and those companies, concerning any type of compensation, whether present, deferred or contingent, that is based on or otherwise relates to an acquisition, merger, consolidation, sale or other disposition of all or substantially all assets.

How is the Item 402(t) disclosure to be presented?

Proposed Item 402(t) would require both tabular and narrative disclosure of named executive officers’ golden parachute arrangements. The SEC proposal includes the following new “Golden Parachute Compensation” table:

The table would include qualitative disclosure of the individual elements of compensation that an executive would receive that are based on or otherwise relate to the merger, acquisition or similar transaction. In addition, the table would include a total for each named executive officer.

What is included in each column on the Item 402(t) table?

The columns of the proposed table would include the following:

Column (a) – Name of each named executive officer.

Column (b) – Any cash severance payment, such as base salary, bonus and pro-rated nonequity incentive plan payments.

Column (c) – The dollar value of accelerated stock awards, in-the-money option awards for which vesting would be accelerated and payments in cancellation of stock and option awards. No disclosure is required with respect to previously vested equity awards.

Column (d) – Pension and non-qualified deferred compensation benefit enhancements. This column need not include compensation disclosed in the Pension Benefits Table and the Nonqualified Deferred Compensation Table.

Column (e) – Perquisites and other personal benefits and health and welfare benefits. These amounts must be included, even if the benefits are available to all employees under a broad-based plan.

Column (f) – Tax reimbursements, such as gross-ups for liability under Internal Revenue Code Section 280G.

Column (g) – Any additional elements of compensation not specifically includable in other columns.

Column (h) – The total of columns (b) through (g).

What footnote disclosure is required in connection with the Item 402(t) table?

Issuers must include with the Item 402(t) table footnote identification of each separate form of compensation reported, as well as separate identification of amounts attributable to “single-trigger” and “double-trigger” arrangements.

How are the dollar amounts of equity-based compensation determined for purposes of the Item 402(t) table?

If the table is included in a proxy statement soliciting shareholder approval of a merger or similar transaction, quantification of dollar amounts based on issuer stock price would be determined using the closing price per share as of the latest practicable date. Where Item 402(t) disclosure is included in an annual meeting proxy statement, these amounts would be calculated based on the closing market price per share of the issuer’s securities on the last business day of the issuer’s last completed fiscal year, consistent with quantification standards used in Item 402(j).

How does the post-termination disclosure required by Item 402(j) differ from the disclosure required by Item 402(t)?

Item 402(j) requires disclosure with respect to a range of termination scenarios (e.g., death, retirement, disability, termination for cause, termination without cause and termination upon a change of control). Item 402(t) requires disclosure only with respect to compensation that is based on or otherwise relates to a merger, acquisition or similar transaction. In addition, Item 402(j) does not require disclosure about arrangements that do not discriminate in scope, terms or operation in favor of executive officers and that are available generally to all salaried employees, permits exclusion of de minimis perquisites and other personal benefits, and does not require presentation of an aggregate total of all compensation that is based on or otherwise relates to a transaction.

Should the value of post-transaction employment arrangements be included in Item 402(t) disclosure?

No. The value of post-transaction employment arrangements should not be included in amounts disclosed pursuant to Item 402(t). The SEC does not view future employment arrangements as compensation “that is based on or otherwise relates to” the transaction.

What narrative disclosure is required pursuant to Item 402(t)?

In addition to the table described above, issuers must include narrative disclosure that describes any material conditions or obligations applicable to the receipt of payment, including but not limited to non-compete, non-solicitation, non-disparagement or confidentiality agreements, their duration and provisions regarding waiver or breach.

Issuers would also be required to provide a description of the specific circumstances that would trigger payment, whether the payments would or could be lump sum or annual, the duration of the payments, and who would provide the payments, as well as any material factors regarding each agreement.

If an issuer includes Item 402(t) disclosure in an annual meeting proxy statement, would the issuer still be required to include disclosure pursuant to Item 402(j)?

Inclusion of Item 402(t) disclosure in an annual meeting proxy statement will satisfy the requirement pursuant to Item 402(j) to disclose payments in connection with a change-ofcontrol transaction. The issuer would still be required to include the rest of the required Item 402(j) disclosures with respect to the other various termination scenarios, however.

Say-on-Golden Parachutes – Vote Requirements

When is a say-on-golden parachute vote required?

Issuers will be required, pursuant to proposed Rule 14a-21(c), to provide a separate shareholder advisory vote in proxy statements for meetings at which shareholders are asked to approve an acquisition, merger, consolidation, or proposed sale or other disposition of all or substantially all assets.

What will the say-on-golden parachute vote cover?

The say-on-golden parachute vote will cover only the golden parachute agreements or understandings required to be disclosed by Section 14A(b)(1), which requires disclosure of any agreements or understandings between the issuer soliciting proxies and any named executive officer of that issuer or any named executive officer of the acquiring issuer, if the soliciting issuer is not the acquiring issuer.

Is a say-on-golden parachute vote required with respect to golden parachute arrangements between an acquiring issuer and the named executive officers of the target issuer?

No. A shareholder vote to approve arrangements between the soliciting target issuer’s named executive officers and the acquiring issuer is not required by Exchange Act Section 14A(b)(2) since golden parachute compensation agreements or understandings between the acquiring issuer and the named executive officers of the target issuer are not within the scope of disclosure required by Section 14A(b)(1).

Do the proposed rules require specific language for a say-on-golden parachute proposal?

No, proposed Rule 14a-21(c) will not require specific language for the resolution to be voted on by shareholders.

What proxy statement disclosure is required about the say-on-golden parachute vote?

The SEC has proposed a new Item 24 to Schedule 14A. This item will require an issuer to disclose in its proxy statement that the issuer is providing a separate shareholder vote on golden parachute arrangements. The issuer will also be required to explain briefly the general effect of the vote, including the fact that the vote is non-binding.

Can an issuer avoid having to include a say-on-golden parachute provision in a merger proxy statement by including a say-on-golden parachute vote in an annual meeting proxy statement?

Yes. Under the SEC rule proposal, consistent with Section 14A(b)(2) of the Exchange Act, issuers would not be required to include in a merger proxy statement a separate shareholder vote on golden parachute compensation disclosed under Item 402(t) of Regulation S-K to the extent that Item 402(t) disclosure of that compensation had been included in the executive compensation disclosure that was subject to a prior vote of shareholders under Section 14A(a)(1) of the Exchange Act and Rule 14a-21(a). This exception only applies to the extent that the golden parachute arrangements triggered by the merger or similar transaction are the same as those covered in the proposed Item 402(t) disclosure in the annual meeting proxy statement.

Does the issuer have to allow separate say-on-pay and say-on-golden parachute votes at an annual meeting in order to avoid a say-on-golden parachute vote at a subsequent meeting to approve a merger?

No. So long as the information required by proposed Item 402(t) of Regulation S-K is included in the annual meeting proxy statement and the shareholders vote on the overall compensation of the issuer’s named executive officers, no separate vote on golden parachute arrangements will be required in order to avoid a say-on-golden parachute vote at a subsequent meeting to approve an acquisition, merger, consolidation or proposed sale or other disposition of all or substantially all assets.

Does the shareholder vote at an annual meeting have to be in favor of the issuer’s overall compensation program, including the golden parachute arrangements, in order to avoid a say-on-golden parachute vote at a subsequent meeting to approve a merger?

No. Even if the shareholders vote against the issuer’s overall compensation program at the annual meeting, no say-on-golden parachute vote will be required at a subsequent meeting to approve a merger or similar transaction, provided that the proposed Item 402(t) disclosure regarding the golden parachute arrangements was included in the annual meeting proxy statement.

What if the golden parachute arrangements are expanded or otherwise amended between the annual meeting at which a say-on-pay vote on compensation disclosure that included Item 402(t) information and the meeting at which the merger or similar transaction is being voted on?

The exception allowing issuers to rely on an annual meeting say-on-pay vote to avoid a say-on-golden parachute vote at a meeting to approve a merger or similar transaction only applies to the extent the same golden parachute arrangements previously subject to an annual meeting shareholder vote remain in effect and the terms of those arrangements have not been modified subsequent to that vote. The SEC did not include a materiality qualifier in the proposed rule, so it appears that even an immaterial change in the terms of a golden parachute arrangement would require a new vote. New golden parachute arrangements and any amendments to golden parachute arrangements that were subject to a prior say-on-pay vote would be subject to the separate merger proxy shareholder say-on-golden parachute vote requirement. In this case, the issuer would have to distinguish in its Item 402(t) disclosure between those golden parachute arrangements that had been covered by a prior say-on-pay vote and those that are being covered by the say-on-golden parachute vote in the merger proxy statement.

Preliminary Proxy Statements

Will inclusion of a say-on-pay vote or a vote on the frequency of the say-on-pay vote require an issuer to file a preliminary proxy statement with the SEC ten days prior to mailing its definitive proxy statement?

No. The SEC has proposed to amend Rule 14a-6(a) to add say-on-pay votes and votes on the frequency of say-on-pay voting to the list of items that do not require the filing of a preliminary proxy statement. Furthermore, the SEC proposing release states that, in the event that the amendments have not become effective by the time an issuer would be required to file a preliminary proxy statement, the SEC will not object if an issuer does not file a preliminary proxy statement if the only items to be voted on are say-on-pay, frequency of say-on-pay and other items that do not require the filing of preliminary proxy statement under the current language of Rule 14a-(6)(a).

Broker Discretionary Voting

Will brokers be permitted to vote uninstructed shares with respect to say-on-pay and the frequency of say-on-pay?

No. Section 957 of the Dodd-Frank Act amends Section 6(b) of the Exchange Act to direct national securities exchanges to change their rules to prohibit broker discretionary voting of uninstructed shares in certain matters, including shareholder votes on executive compensation. As a result, the national securities exchanges have already begun the process of amending their rules for issuers with a class of securities listed on a national securities exchange to prohibit broker discretionary voting of uninstructed shares on say-on-pay and on the frequency of say-on-pay votes.

Shareholder Proposals

Will shareholders still be allowed to submit shareholder proposals with respect to executive compensation matters, including the frequency with which say-on-pay votes should be held?

Yes. In fact, Section 14A(c)(4) of the Exchange Act, added by the Dodd-Frank Act, states that the say-on-pay and say-on-golden parachute requirements of the Dodd-Frank Act shall not be construed “to restrict or limit the ability of shareholders to make proposals for inclusion in proxy materials related to executive compensation.”

If a company adopts a policy regarding the frequency of say-on-pay voting that is consistent with the vote of its shareholders, can the issuer exclude future shareholder proposals on this topic?

Yes, if the issuer has adopted a policy on the frequency of say-on-pay voting that is consistent with the views of the plurality of votes cast in the issuer’s most recent shareholder vote on the issue, a proposed new note to Rule 14a-8(i)(10) would permit the issuer to exclude from its proxy material a shareholder proposal that (i) would constitute a say-on-pay vote, (ii) seeks future say-on-pay votes, or (iii) relates to the frequency of sayon- pay votes.

Smaller Reporting Companies

Will smaller reporting companies be exempt from the say-on-pay and say-on-golden parachute requirements?

No. The SEC is not currently proposing to exempt smaller reporting companies from the say-on-pay or say-on-golden parachute requirements or the associated disclosure requirements.

TARP Companies

Will TARP companies need to conduct a Dodd-Frank Act say-on-pay in addition to the say-on-pay vote required by TARP?

No. The SEC believes that a shareholder say-on-pay vote pursuant to Rule 14a-20, which was adopted to implement TARP say-on-pay votes, would satisfy the requirements of proposed Rule 14a-21(a) with respect to a Dodd-Frank Act say-on-pay vote. As a result, an issuer with outstanding indebtedness under the TARP program would not be required to conduct a say-on-pay vote pursuant to proposed Rule 14a-21(a) until its first annual meeting after it has repaid the TARP indebtedness. In addition, the SEC proposing release states that, until the SEC takes final action to adopt the proposed rules, the SEC will not object if a TARP recipient that includes a TARP say-on-pay vote in its proxy materials omits a Dodd-Frank Act say-on-pay vote from those materials.