Yesterday, the SEC announced settled fraud charges under Rule 10b-5 against Nissan, its former CEO Carlos Ghosn, and Gregory Kelly, a former director, related to the failure to disclose over $140 million to be paid to Ghosn in retirement. (Here is the SEC’s Order and the complaint against Ghosn and Kelly filed in the SDNY.) Of course, you may be aware that Ghosn and the former director have been arrested by Japanese authorities and are awaiting trial, so these SEC charges were probably not the biggest glitch in their career paths. Nevertheless, the SEC’s action does stand as a warning that the SEC remains on the lookout for efforts to hide or disguise compensation from required public disclosure, especially where CEO discretion regarding compensation is largely unconstrained.
Yes, it can be, according to the Executive Director of the Council of Institutional Investors, in announcing CII’s new policy on executive comp. Among other ideas, the new policy calls for plans with less complexity (who can’t get behind that?), longer performance periods for incentive pay, hold-beyond-departure requirements for shares held by executives, more discretion to invoke clawbacks, rank-and-file pay as a valid reference marker for executive pay, heightened scrutiny of pay-for-performance plans and perhaps greater reliance on—of all things—fixed pay. It’s back to the future for compensation!
In this article, the authors, from advisor PJT CamberView, talk about their takeaways from the 2019 proxy season, which they expect to see as part of the conversation in the fall.
Corp Fin has recently focused on the issue of corporate reporting and short-termism. At the end of last year, the SEC posted a “request for comment soliciting input on the nature, content, and timing of earnings releases and quarterly reports made by reporting companies.” (See this PubCo post.) Following up, Corp Fin then organized a roundtable, held last week, to discuss the issues surrounding short-termism. The roundtable consisted of two panels: the first explored “the causes and impact of a short-term focus on our capital markets,” with the goal of identifying potential market practices and regulatory changes that could promote long-term thinking and investment. In part, this panel developed into a debate about whether short-termism was actually creating a problem for the economy at all. In that regard, several of these panelists were quick to cite the oft-cited academic study revealing that “three quarters of senior American corporate officials would not make an investment that would benefit a company over the long run if it would derail even one quarterly earnings report.” (See this PubCo post and this article in The Atlantic.) Could the reason be a misalignment of incentives? The second panel was centered on the periodic reporting system and potential regulatory changes that might encourage a longer-term focus in that system. Does the current periodic reporting system, along with the practice of issuing quarterly earnings releases and, in some cases, quarterly earnings guidance contribute to or encourage an overly short-term focus by managers and other market participants? On this panel, the headline topic notwithstanding, the discussion barely touched on short-termism; rather, the focus was almost entirely on regulatory burden. At the end of the day, is the SEC seriously considering making changes to periodic reporting?
In May 2019, comp consultant Mercer conducted a spot survey of 135 companies, looking at the prevalence and types of ESG (environmental, social and governance) metrics used in incentive compensation plans, including metrics related to the environment, employee engagement and culture, and diversity and inclusion. The survey found that 30% of respondents used ESG metrics in their incentive plans and 21% were considering using them. Mercer observes that with the “growing expectations for organizations to operate in an environmentally and socially conscious way, [ESG] incentive plan metrics are increasingly being considered as effective tools to reinforce positive actions.”
You might recall that, in April of this year, SEC Commissioner Robert Jackson co-authored an op-ed (with Robert Pozen, MIT senior lecturer and former president of Fidelity) that lambasted the use of non-GAAP financial metrics in determining executive pay, absent more transparent disclosure. The pair argued that, although historically, performance targets were based on GAAP, in recent years, there has been a shift to using non-GAAP pay targets, sometimes involving significant adjustments that can “be used to justify outsize compensation for disappointing results.” On the heels of that op-ed came a rulemaking petition submitted by the Council of Institutional Investors requesting, in light of this increased prevalence, that the SEC amend the rules and guidance to provide that all non-GAAP financial measures (NGFMs) used in the CD&A of proxy statements be subject to the reconciliation and other requirements of Reg G and Item 10(e) of Reg S-K. But how pervasive is the use of NGFMs in executive comp? This article from Audit Analytics puts some additional data behind the brewing controversy about the use of non-GAAP financial measures in executive comp—and the level of increase is substantial.
SEC Chair Jay Clayton has repeatedly made a point of his intent to take the Regulatory Flexibility Act Agenda “seriously,” streamlining it to show what the SEC actually expected to take up in the subsequent period. (Clayton has previously said that the short-term agenda signifies rulemakings that the SEC actually planned to pursue in the following twelve months. See this PubCo post and this PubCo post.) The SEC’s Spring 2019 short-term and long-term agendas have now been posted, reflecting the Chair’s priorities as of March 18, when the agenda was compiled. What stands out is not so much the matters that show up on the short-term agenda—although there are plenty of significant proposals to keep us all busy—but rather the legislatively mandated items that have taken up protracted residency on the long-term (i.e., the maybe never) agenda.
An op-ed co-authored by SEC Commissioner Robert Jackson (who is reportedly planning to leave the SEC this fall, although he’s eligible to stay until the end of 2020) and MIT senior lecturer (and former president of Fidelity) Robert Pozen lambasts the use of non-GAAP targets in determining executive pay, absent more transparent disclosure. The pair argue that, although historically, performance targets were based on GAAP, in recent years, there has been a shift to using non-GAAP pay targets, sometimes involving significant adjustments that can “be used to justify outsize compensation for disappointing results.” What’s the bottom line? Where comp committees base comp on a different scorecard than GAAP, they argue, the committee should have to explain their decision by reconciling to GAAP in the CD&A. Will the SEC take heed?
In October last year, Corp Fin issued a new staff legal bulletin on shareholder proposals, 14J, that examined the exception under Rule 14a-8(i)(7), the “ordinary business” exception, addressing, among other topics, the application of the rule to proposals related to executive or director comp. Post-shutdown, Corp Fin has now posted several no-action responses that consider the exception in that context. Do they provide any color or insight?
Much has been written about the problems associated with the prevalence of short-term thinking in corporate America. As noted in a post from The Harvard Law School Forum on Corporate Governance and Financial Regulation, an academic study revealed that “three quarters of senior American corporate officials would not make an investment that would benefit a company over the long run if it would derail even one quarterly earnings report.” (See this PubCo post and this article in The Atlantic.) Apparently, that was no joke. As reported in Forbes, for the first six months of 2018, companies in the S&P 500 spent $367 billion on stock buybacks—which can drive increases in quarterly EPS without increasing the underlying long-term economic value of the company—while capex totaled only $317 billion. ls there a way to engineer a course correction?