Ongoing federal legislative and agency initiatives arising from the administration’s “Regulatory Reform Agenda” are increasingly “federalizing” corporate law and regulating the activities of management and boards in private business, even outside of the TARP recipient environment. As part of its Regulatory Reform Agenda, the administration is actively advocating further executive compensation disclosure and oversight requirements that will likely result in substantial additional shareholder disclosures, further direct shareholder input on board and management activities, and opportunities for second-guessing boards irrespective of the condition of the institution and irrespective of whether it has sought or received federal assistance.

While certain of the proposals are directly applicable only to publicly-traded institutions, as often happens all may well find their way to becoming “best practices” standards (and/or actual regulatory requirements) as their impact is felt in regulatory agencies and the courts. Banking regulators are being asked to define and restrict compensation programs and practices which may, from their perspective, entail inappropriate or excessive enterprise risk. The press has reported that President Sarkozy of France has declared that governmental business will not be available for banks (French and foreign) that do not accept governmental limits on compensation and has attempted to “export” that approach to other G-20 nations. Here in the U.S., the Treasury is in the process of reviewing compensation in the top TARP recipients, with a report due from the President’s compensation “czar” due shortly. With national governments using their customer power to leverage institutions with regard to executive compensation, can state and local governments be far behind?

Hopefully, the compensation focus will be on creating mechanisms to truly mitigate inappropriate risk-taking and, at least in the banking industry, look toward safety and soundness issues rather than simply bashing banker compensation. The Federal Reserve is working on issuance of “guidelines” for banks with regard to executive incentive compensation, which like other regulatory “guidelines” may well become standards in establishing acceptable compensation programs for banking institutions. As with other issues, institutions will need to consider their particular circumstances and any “one size fits all” approach will be problematic as banks look toward implementing appropriate compensation structures.

It remains to be seen whether the initiatives will serve their stated purpose of encouraging an appropriate board focus on “transparency” and corporate value – or whether they will result in further expense, distraction and unnecessary pressure on already-pressured boards, a focus on short-term issues, and further difficulty in attracting and retaining qualified executives and directors. Public institutions are already trying to deal with the added cost and distraction of Sarbanes-Oxley compliance, and these proposals will add to the already-extensive regulatory burden. As always, the “devil is in the details” and close attention will need to be paid as the proposals make their way through Congress and the agencies.

Current SEC Proposal re Expanded Proxy Disclosure and Solicitation Enhancements

For public companies, the SEC published a lengthy and complex proposed rulemaking on July 17, 2009, (the Proposal) which would amend SEC proxy disclosure and solicitation rules to, among other things; “..enhance the compensation and corporate governance disclosures ….about: …compensation policies and their impact on risk taking; stock and option awards of executives and directors; director and nominee qualifications and legal proceedings; company leadership structure; the board’s role in risk management process; and potential conflicts of interest of compensation consultants that advise companies.”

The proposals, if adopted, will result in significant new and expanded compensation policy and procedure disclosure requirements for public companies and substantial additional compliance costs in the name of “enhancing transparency” for investors. Details of the proposal are too extensive for complete coverage here. The enhanced compensation disclosures are basically intended to provide additional focus on the relationship of compensation to “risk” for institutions, such as compensation and bonus plans that may reward growth at the expense of increased enterprise risk. Enhanced disclosures also would be required with regard to director and nominee qualifications, including experience and skills, focusing on the impact of that experience and skill on the company’s business and structure. Enhanced disclosures also would be required regarding director and nominee involvement in legal proceedings.

Disclosures regarding company “leadership structure” and the role of the board in the “risk management” process also would be enhanced under the SEC proposal. Companies would be required to describe their leadership structure, and “…why the company believes it is in the best structure for it at the time.” In addition, as discussed below, the proposal contains new disclosures regarding “compensation consultants,” including their other relationships with (and independence from) company management. The compensation consultant proposal and issues are similar to Sarbanes-Oxley issues regarding the independence of audit providers when providing other services to an issuer.

The SEC proposal would require movement of disclosure of certain corporate events, including the reporting of the results of shareholder voting, from annual and quarterly disclosure documents (Forms 10-K and 10-Q) to the more immediate Form 8-K event disclosure filing structure. Finally, the proposal would require other technical changes to the proxy process, which add further complexity and detail to proxy solicitations.

As noted above, while the proposal at the present time would apply only to public companies, banking agencies may look to these new requirements to create new regulatory requirements for financial institutions generally, and such enhanced disclosures and standards may well become “best practices” going forward for all institutions.

Compensation Committee “Independence” Proposals

As noted, one of the administration’s reform proposals would impact board compensation committees through expanded “independence” rules. Among other things, the initiative would require that board compensation committees (1) be composed of fully “independent” members using standards similar to the Sarbanes-Oxley audit committee requirements, and (2) have ongoing access to and utilize experienced advisors and consultants (including legal counsel) to assist them in their deliberations that are fully “independent” of management.

Smaller community banks in particular, already struggling with the regulatory cost burden, may find these further requirements a challenge to meet. Retaining special consultants and advisors, in addition to those otherwise already serving the institution in other capacities, will impose additional costs and may well serve to further “balkanize” director/management relations. The practical business impact of directors being required to retain their own “independent” consultants and lawyers would likely serve to grind business to a halt. As always, the “one size fits all” model presents very real challenges in actual implementation.

“Say on Pay” Initiatives

Another initiative is the “say on pay” proposal that would require publicly-traded institutions to include a “non-binding annual shareholder vote on executive compensation” in proxy materials as well as a separate shareholder vote on “golden parachutes” in the event of a merger or acquisition.

The “say on pay” requirements would apply to all publicly-traded institutions for annual shareholder meetings after December 15, 2009, and would significantly change compensation disclosures for proxy statements. The requirements would be similar to a “no confidence” vote, which the administration states will lead to “increased dialogue between firms and shareholders on compensation.” The actual operational impact on institutions with activist shareholders would appear to be obvious. The “golden parachute” proposal could well impact the credibility and viability of contractual employment obligations of an institution, which can be critical in attracting and retaining key executive management (particularly for institutions which are in the most need due to challenges facing the institutions). Query whether highly-sought experienced executives will join institutions offering the protection of a “golden parachute” if shareholders may assert leverage to impact proposed transactions and/or to set that protection aside when the triggering event arises.


As noted, the “devil is in the details.” The timing of imposing additional burdens and uncertainty on an already-burdened industry presents significant challenges, particularly given the current state of the economy and the need for banking institutions to be able to focus on long-term stability and growth. As with the referenced French initiative, it is difficult to ascertain what kind of leverage may be asserted against institutions generally in furthering the policies proposed by the administration. Whether the imposition of substantial additional regulatory burdens on an already-stressed industry and economy will provide benefits that exceed the burdens, particularly in light of the need to attract and retain strong experienced board members and executives, remains to be seen. Some shareholders, particularly speculative holders and funds focused on short-term gains, unfortunately may not have the long-term best interests of the institution and other constituencies in mind as they promote certain agendas and structures. Continually increasing the operating burden on institutions, providing further obstacles for attracting and retaining good directors and executive management, and creating a further “balkanization” of management and boards would seem inconsistent and at odds with a needed focus on creating business certainty as well as long-term shareholder growth and value for individual institutions and for the industry as a whole.