Last month, the SEC issued a proposal for new rules related to executive compensation and pay for performance. The proposed guidelines serve as amendments to section 953(a) of Dodd-Frank and will require companies to disclose the compensation paid to executives alongside the company’s total shareholder return. The information will be provided in the form of an additional table in a given company’s annual proxy statement. The pay component will include total compensation for the CEO, as well as an average of the remaining top executives for whom compensation disclosure requirements already exist. Total compensation is already part of the summary compensation table found in a typical annual proxy, but the new guidelines will require that “total” be displayed a bit differently. In particular, equity compensation will be measured as the value of those stock or option awards that have vested in a given period rather than the grant-date values found in the summary compensation table. Also, any increases to pension or retirement plan values will be excluded from total compensation if they do not apply to services in the given period.
In their April 29 press release, the SEC describes the intended implications of the proposed changes. The primary intentions can be summarized as follows:
- Provide investors with a measure of executive compensation “actually” paid rather than what can be found in the summary compensation table
- Require companies to measure performance using a standard metric (TSR)
- Require companies to report a comparison of internal TSR to that of a collection of peers
- Require a direct comparison between executive compensation and company TSR
The new rules will initially require that three years of pay and performance data be reported. In the second year after adoption, four years of data will be required, then five years in year three and afterward. Access to five years of data in one place is a win for investors. Making an informed judgment call on the link between executive pay and company performance is always difficult looking in from the outside. It is made more difficult because performance is often measured over several periods, while pay is usually criticized as strictly a yearly phenomenon.
These new disclosure rules certainly will not represent the final word on whether there are clear ties between executive pay and company performance. Relative TSR is a useful metric to investors, but executive performance does not begin and end with increasing company value. The SEC’s stated goal is to create a standardized measure of pay for performance that can be compared across companies of different sizes, functions, and life-cycles. This may be a first step toward that goal, but using a single measure of corporate success, and one that even CEOs cannot directly control, is an oversimplification. Our hope is that these guidelines, and future extensions of Dodd Frank, will serve to fuel and guide the conversation on executive compensation, not end it.
