On the heels of a Securities and Exchange Commission report on companies’ disclosure of executive compensation details, RiskMetrics (formerly Institutional Shareholder Services) has published its own list of disclosure best practices.
The paper, “Proposed Best Practices in Executive Compensation Disclosure,” is an “early attempt to evaluate the 2007 compensation reports,” according to RiskMetrics. A related study, due out soon, will illustrate proposed best practices with specific examples from this year’s compensation reports.
The 12-page paper is based on observations by RiskMetrics compensation experts and discussions with institutional investors and compensation specialists. It offers suggestions for the style and readability of compensation reports (a sore point with the SEC, which is unhappy with complex Compensation Discussion & Analysis reports so far), and suggestions for performance metrics and pay-for-performance links. RiskMetrics says its goal is to foster discussion among corporate directors, executives, and investors that will lead to the development of widely accepted standards.
“The SEC’s approach … essentially asks questions where they see gaps or weaknesses in disclosure,” says Stephen Deane, author of the study. “We wanted to take a different approach, by looking at good examples.”
The report was written prior to the issuance of the SEC report earlier this month. That SEC report recapped the Commission’s main findings in reviewing several hundred CD&A disclosures from last spring, when new rules for enhanced disclosure of executive compensation went into effect.
“We were happy to see [the SEC report] focused on some of the same things we focused on,” Deane tells Compliance Week. “It’s a question of the elements of style and elements of content.”
Similar to the SEC mantra that “presentation matters,” Deane says: “We say the CD&A should be written so that readers can understand it. The way you organize and present the information is important.”
The other part is the content itself, Deane says. “We focused on several things, such as pay for performance, and how to demonstrate that.”
Additionally, Deane says, in telling its “story,” a company should explain how its compensation practices provide the right incentive for management to execute the company’s business strategy. “Every company has challenges and opportunities it sees, and a business strategy to deal with that,” he says. “A good way to tell that story is to tell how the compensation package relates to that business strategy.”
For a link to the white paper and other related resources, see the box at right.
FINRA, SEC Loosen Up on Enforcement
After years of increasing sanctions, the regulatory pendulum may be swinging the other way at the Financial Industry Regulatory Authority and the Securities and Exchange Commission, lawyers at the law firm Sutherland Asbill & Brennan say.
The number of cases brought by FINRA (the regulator formed by the merger of the National Association of Securities Dealers and New York Stock Exchange enforcement arms) was almost flat in 2006, and penalties actually decreased, according to Sutherland Asbill partners Deborah Heilizer and Brian Rubin. They examined NASD and NYSE disciplinary proceedings for the last two years.
Barring new market scandals or a FINRA push to grab headlines with more enforcement actions, “it appears that large numbers of big-ticket enforcement actions might be a thing of the past,” the authors say. “At least for now.”
Heilizer
Rubin says that trend may be because the market hasn’t recently had a “fraud du jour” such as market timing. “On the other hand, it could be that regulators have determined to use traditional rule making and the bully pulpit to get firms to act a certain way rather than simply bring enforcement cases,” he says.
In 2006, NASD and NYSE fines totaled roughly $111 million, only about 60 percent of the $184 million in fines assessed in 2005, Heilizer and Rubin found. The number of resolved disciplinary actions fell slightly from 1,454 in 2005 to 1,428 in 2006; the number of NASD cases fell significantly, but that decrease was offset by an increase in NYSE cases.
All that could mean regulators, on average, extracted smaller fines and resolved slightly fewer matters, Rubin and Heilizer say. Their findings were published in The Review of Securities and Commodities Regulation.
NASD and NYSE appear to be focusing more on traditional types of violations, bringing more actions based on settled principles and fewer involving “rulemaking by enforcement”—an attempt to alter industry practice in the absence of a specific rule by bringing an enforcement action without prior warning, which prompts people to alter their standards of conduct lest they be next on the chopping block.
Regulators have also backed away from what the authors call “Rip Van Winkle” enforcement actions, suddenly bringing enforcement actions related to rules on the books but long ignored by regulators and industry. Rubin cites directed brokerage cases and cases related to e-mail retention rules as examples.
Rubin
Heilizer and Rubin say the SEC may also be refocusing its efforts on more traditional types of cases. From 2005 to 2006, the number of actions in the issuer-reporting and disclosure arena—often the cases that set new standards for public companies and other registrants—dropped 25 percent, consistent with less regulation by enforcement. The number of delinquent filing cases increased 50 percent. Total penalties ordered in SEC judicial and administrative enforcement actions were $975 million in 2006, compared with $1.5 billion in 2005.
Step Into the Way-Back Machine
All you history buffs in the financial reporting world, take heart: The SEC has posted all its old speeches and public statements by commissioners and officials, dating back to 1943.
The glimpses into SEC thinking go all the way back to Jan. 21, 1943, when Commissioner Robert O’Brien spoke to the Conference Board in New York City on company management’s relations with shareholders. Among his complaints that day: The annual shareholder meeting has “become a mere formality … The body of shareholders, by and large, came to be regarded as a hurdle to be cleared rather than a helpful member of the corporate community. It was inevitable that the average shareholder should become apathetic.”
Another nugget comes from March 11, 1968, when SEC Chairman Manuel Cohen said he was “deeply concerned” about poor disclosure of financial performance. Enhanced disclosure is necessary, he said, because so many managers were now getting stock-based compensation, which “provides management with a keen interest in the price at which the stock is traded. There are many ways to create an appearance of earnings and growth when none are really present.”
The more things change …
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