(The following post originally appeared on ONSecurities, a top Minnesota legal blog founded by Martin Rosenbaum to address securities, governance and compensation issues facing public companies.)
Should public companies be required to disclose the ratio of CEO pay to that of other employees, as provided by the Dodd-Frank Act? And if so, what should be included in the disclosures? Two groups with opposing viewpoints have sent comment letters to the SEC in the past few weeks, and these letters provide insights on the battle.
Section 953(b) of the Dodd-Frank Act directs the SEC to adopt rules requiring disclosure of the ratio of the CEO’s annual total compensation to the medial annual total compensation of all other employees. The SEC expects to propose the rules between August and December 2011 and to adopt final rules between January and June 2012.
The “pay disparity” disclosure requirement in Section 953(b) has generated considerable controversy. Business groups have complained that the calculation of the median pay of non-CEO employees will be extremely burdensome on public companies and will provide no useful information. On the other hand, some investor groups maintain that the information will be valuable and have urged the SEC to implement the requirement on a timely basis. The Burdensome Data Collection Relief Act (PDF) (H.R.1062), introduced in the House of Representatives in March 2011, would repeal Section 953(b) entirely.
In the last several weeks, two groups with very different opinions have provided their opinions to the SEC on how to make the rules workable for public companies, accompanied by a very thorough analysis. First, a group of executive compensation attorneys from 15 large law firms and Frederick W. Cook & Co., a compensation consultant, sent a joint comment letter to the SEC. First and foremost, all of the signatories to the joint letter support the repeal of the disclosure requirement. Short of repeal, the group makes the following suggestions to make the rule more workable:
- Public companies should be given several years (at least two) to implement the requirements. This is necessary to allow companies to integrate their payroll systems, deal with international data privacy rules, etc.
- Companies should be allowed to exclude non-U.S. employees. The attorneys assert that the ratio including non-U.S. employees will not be meaningful, and the calculation will be “extraordinarily burdensome” on many companies.
- Compensation for employees other than named executive officers should be calculated on the basis of W-2 compensation.
- Companies should be allowed to apply a good faith standard and very flexible timing rules.
- Companies who do not wish to make or disclose the calculation should be allowed, in the alternative, to disclose the ratio of the total compensation of the company’s CEO to the average pay of all U.S. non-farm workers. (I.e., the denominator would not be company-specific.)
Second, the AFL-CIO recently sent a comment letter to the SEC that makes the following points:
- The pay disparity ratio is material to investors and should be disclosed. The disclosure will encourage boards of directors to consider pay equity, and shareholders will be able to consider pay disparities in connection with say-on-pay votes. Further, high pay ratios can harm employee morale and thus affect corporate performance. The letter attaches an AFL-CIO white paper on the benefits of disclosure of pay disparity information to investors.
- It is important to include non-U.S. employees in the calculation, and the other suggestions to the SEC in the letter will make the calculation feasible for even large multinational companies to make.
- The SEC can, and should, permit statistical sampling to calculate the median compensation of non-CEO employees. The letter includes an extensive appendix with analysis of the legal authority for this and other assertions.
- The SEC can, and should, consider permitting companies to identify their median employee compensation based strictly on cash compensation. This is one point on which the AFL-CIO and the group of 15 law firms seem to agree.
Based on the above statements, the AFL-CIO asserts that issuers “will have no difficulty” complying with the requirement if they have adequate controls.
If the SEC adopts some of the suggestions in the letters, the disclosures will be more feasible for public companies, although the AFL-CIO’s assertion that companies will have no difficulty making the disclosure seems unrealistic. The utility of the disclosures is a separate issue and obviously depends on philosophy. According to the union’s letter and its white paper, its support for the disclosure is based on usefulness to investors in company stock. However, the union’s web site includes a web page devoted to support of Section 953(b). The web page expresses the union’s support for the disclosure in terms of workplace inequality, and the link to the page on its “Executive PayWatch” site invites the reader to “learn about the new disclosure requirement that is giving CEOs conniptions.”