SEC on Pay Disclosure: 'Try Again'

In late August, the Securities and Exchange Commission sent comment letters to more than 300 companies offering an opinion on how they complied with the new compensation discussion and analysis (CD&A) rules that went into effect earlier in the year. The gist of the SEC’s comments? “We’re not happy.”

The letters are a more formal version of the message that SEC Chairman Christopher Cox sent in March when he admonished companies for “overlawyering” the compensation disclosures. In particular, the SEC says it is looking for more analysis on the components of compensation and on change of control and termination payments.

According to Joseph Rich, chairman of Pearl Meyer & Partners, an executive compensation consulting firm, the SEC targeted the largest companies first. He says it is clear that the SEC expects companies to provide more information in the future: “A close look at the letters indicates that they are expecting a lot of evolvement in the 2008 proxy season.” Rich says that companies did a better job of explaining what and how they paid their top executives, but not as good a job on explaining why they selected certain performance targets. “Everyone is going to have to go back and revisit this,” he says.

During an August speech to the American Bar Association, John White, director of the SEC’s division of corporate finance, said it is looking at how companies handled the description of performance targets. “We’re seeing a lot of really vague disclosure in this area about ‘individual performance goals and targets’ without further discussion,” he said. “Also, if targets were withheld under the confidential treatment standards, what is the justification? This would be the obvious place for further disclosure if there isn’t support for withholding the targets.”

The SEC did not require companies to disclose information about performance targets that companies believe would cause competitive harm. However, companies bear the burden of proving that the information can be used by competitors to gain an advantage. By most indications, the SEC thinks that too many companies took this route as a cover for not meeting the standard. Rich says that what the SEC expects of companies is to disclose a clearer sense of how likely it is for executives to meet the targets: “If you really can’t state what the performance parameters are, provide more information on how hard it is to meet them.”

Most of the comment letters have been issued as “future filing” comments, meaning companies are not required to restate last season’s proxy filing, but should reflect the necessary changes in future periods. Still, companies are required to indicate how they intend to comply with the requests. Another group could be asked to amend their 10-Ks if the SEC determines they improperly withheld information on executive compensation performance targets.

The next step is for the SEC to release a staff report that summarizes the issues that were identified during the review of how companies complied with the new rules. The report will also give guidance for those companies that did not receive letters, but are nonetheless expected to address the issue in the next proxy season. Says Rich: “Just because you didn’t get a letter doesn’t mean you are okay.”