A Few CD&A Pointers – excerpted from Sept-Oct 2006 issue of The Corporate Counsel

With directors on the compensation committee now responsible for—and having to “sign off” on—the disclosures in the CD&A (through the new compensation committee report), below are a few pointers that underscore some of the “Hot Button” items that directors will now want to anticipate and focus on as they consider—and review drafts of—their company’s proposed CD&A. [As John White said in his speech before the Rock Center for Corporate Governance, some companies may not like the picture that the new disclosures will paint. By focusing on these items now, companies may still be in a position to make changes.]

• Policies: It Will No Longer Be Sufficient to Just Set Forth “Policies”: The analysis that is now required in the CD&A means that when a company, for example, sets forth in its tax discussion its policy about Section 162(m) $1 million cap compliance or providing tax gross-ups to executives, the company will then have to set forth in the CD&A:

  (1) actual material outcomes with respect to the CEO and the NEOs (i.e., who will receive what amounts, and the additional costs incurred by the company from the lost tax deductions)

  (2) analysis explaining how these amounts were factored into—and affected—the compensation committee’s “decisions” (i.e., (a) whether these additional amounts were considered and factored into the calculation of the executive’s total compensation at the time it was approved by the compensation committee, and (b) the justification for the additional compensation and costs)
   

• Benchmarking: Similar critical analysis will apply to benchmarking. Companies will now have to disclose not only whether they ”target” a certain percentile, but then will also need to address whether the total compensation paid actually differed from the stated policy. Where surveys or data are referenced, the disclosure will have to take much more care in analyzing the data to ensure real apples to apples comparisons, not just with peer groups, but with the total compensation delivered to, and accumulated by, a given executive. To counter over-reliance on external survey data and demonstrate balanced analysis, many analyses may also now need to address whether the company undertook its own internal pay studies and how it factored-in the findings.
   
• The Elements: Each of the elements of the CEO’s (and NEOs’) compensation will need to be analyzed in relation to the whole. Here are some “hot button” examples:

  (1) Perks. If a company provides perks that have significant value to the executive (e.g. airplane perks, etc.), it will not be sufficient to set forth “to be competitive” justifications.

  (2) Retirement, Severance & CIC Provisions. Analysis will now be the order of the day. This means the CD&A will now need to address uncomfortable questions like: (a) Is there any longer a need for a severance provision after an executive (hired, say, three years ago) has now become established in his position? or (b) Is there any longer a “need” to provide for post-employment financial security once a CEO has already accumulated a significant nest egg from previous equity and long-term incentive grants?

  (3) Stock Options and Restricted Stock Grants. Here, too, analysis will need to address how “gains from prior option or stock awards were considered” and affected the decisions. [Here is where a company can set forth, in its analysis, that it has implemented a hold-til-retirement requirement. Here is where the analysis should squarely address the size of the accumulated “carried interest”—and whether additional grants will add any incremental motivational value. Recall Fred Cook’s candid assessment.]
   

• Analytical Tools: Part of the analytical process will now require addressing the tools that the compensation committee utilized. It should be recognized that the SEC’s new “plain English” guidance underscores the need for headings and subheadings. For example, tools that the committee uses—such as tally sheets, wealth accumulation analyses, and internal pay equity studies—will need to be fully described (including the findings and resulting actions). It will not be sufficient to say that they were employed (or to provide comparative charts) and then to conclude that the amounts in question were found ”reasonable” or “appropriate,” unless the findings from those studies are set forth and analyzed/addressed.