Show Me the Money…Or Not
New SEC rules would give boards the choice to dramatically reduce compensation disclosures. Should they?
Key Takeaways
- A new SEC proposal could reduce executive compensation reporting requirements for most firms.
- If passed, the proposal would eliminate ‘say on pay’ voting, which gives shareholders a voice in executive pay.
- Boards must weigh the time and cost savings of reduced reporting against shareholder and fiduciary interests.
How Compensation Committees Should Justify Executive Pay to Investors
The compensation committee was preparing its annual proxy statement. For the first time in almost two decades, revised SEC rules would allow them to publish much less data about executive compensation. But deciding which figures to disclose left some directors worried: Would investors retaliate if traditional compensation information was left out of the report?
Last month, the Securities and Exchange Commission proposed a significant overhaul of executive compensation-disclosure requirements that could potentially free thousands of public companies from rules that have shaped comp committee practices since 2010. The proposal would sharply raise the threshold for companies subject to the most stringent compensation-reporting requirements, leaving 81% of public companies free to stop disclosing detailed compensation data to their investors, including metrics such as CEO pay-ratio information, pay-versus-performance stats, and compensation analysis. Additionally, many companies would no longer be required to seek shareholder advisory approval—commonly known as “say-on-pay” votes—on executive compensation.
The big question: Will this help or hurt most public companies? “I see this as a significant savings of time, money, and resources for companies,” says Irv Becker, vice chairman of executive pay and governance at Korn Ferry. Becker believes that some of the information on compensation that board committees have had to disclose aren’t particularly meaningful: “The CEO pay-ratio disclosure was legislated mostly to embarrass companies and pay-versus-performance data is too complicated to be genuinely useful.” By simply reducing the number of companies required to comply, many experts say the SEC has smartly avoided getting bogged down in debating the merits of the various disclosure requirements.
For boards, however, the proposal may create a new question: Just because compensation disclosure is no longer required, should it really disappear from their reports? Some critics worry that investors could lose valuable insight into how boards oversee executive pay. One area that experts say deserves continued disclosure is compensation-risk assessment, which addresses how compensation plans might unintentionally encourage behaviors that could harm the company or the economy. That information became widespread after the 2008 global financial crisis, when poorly designed incentives encouraged risk-taking in mortgage lending. “Comp programs can have features that encourage bad behavior,” says Becker. “From a good-governance perspective, I think boards would want to keep monitoring that and disclosing it.”
Another area of debate is the potential elimination of say-on-pay votes for many companies. Those votes have become a widely used mechanism for investors to express dissatisfaction with executive-pay practices. Without them, boards may lose an early-warning system that indicates investor concerns and allows boards to make changes before things escalate. Jane Edison Stevenson, global vice chair of Board and CEO services at Korn Ferry, says that the public has become more skeptical about executive pay: “There’s a different kind of agita about compensation today than there was previously.” That concern can give rise to action, because “if investors believe the company is underperforming relative to executive pay, they’ll find other avenues to hold directors accountable,” says Tierney Remick, vice chair and co-leader of the Global Board and CEO practice at Korn Ferry—for example, through proxy fights that seek to replace committee members.
To be sure, the SEC proposal to change disclosure requirements could have other unintended consequences. Becker points out that if the proxy advisory firms ISS and Glass Lewis suddenly lose 80% of the companies that they are paid to analyze, they may end up devoting more resources to scrutinizing the remaining 20% in order to generate additional revenue. That means proxy advisers could spend more time evaluating whether performance goals are genuinely demanding and whether executives are being rewarded for meaningful results—potentially increasing pressure on the largest public companies.
The SEC proposal's public comment period closed on July 20. The agency will now review public feedback before deciding whether—and in what form—to adopt a final rule. Even if it does reduce regulatory requirements, it’s unlikely to reduce investor interest in executive pay. Boards may find themselves asking not what they can stop disclosing, but what information will help them retain credibility with shareholders. As Becker puts it, “Boards need to think through their reputational risk, too.”
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