February 22, 2005

The Location of the 404 Management Report

In response to many questions from members, I have posted a “Quick Survey on the Location of the 404 Management Report” on the home page of The five questions address:

– where in the 10-K you intend to include the report
– whether you also will include the report in the glossy annual report, proxy statement, web page – or cross-reference from those places
– where in the glossy annual report you will include it
– whether the CEO and CFO will sign the report
– whether you will forego the statement about management’s responsibility for the financials

Please weigh in and answer the survey – and let me know if there any other items you wish to be canvassed.

Useful Examples of Internal Control Disclosures

Here are some useful examples of recent internal controls disclosures:

1. Transition Relief – Here is an example of a company – Bassett Furniture Industries – that is relying on the SEC’s exemptive order that allows accelerated filers with market caps under $700 million to have a 45 day extension for filing the 404 management report and auditor attestation.

2. M&A Exception – Here is an example of a company – Black & Decker – which used the carve-out for a recent acquisition. The carved-out entity represents $1.1 billion of B&D’s $5.5 billion in assets.

The Challenges in Setting Pay-for-Performance Goals

The media has paid a lot of attention to companies that provide incentives to executives even though the company hasn’t performed (see last week’s WSJ article about how the CEOs of the major Wall Street firms got a hefty pay raise despite lackluster stock prices). One example I have heard of relates to a CEO that has an arrangement to receive a higher salary if his options go underwater. Of course, this begs the question – what is the purpose of incentive compensation?

Setting pay-for-performance formulas are difficult, particularly since there often are unusual items that might impact benchmarks used in such formulas. Along those lines, here are some 8-Ks that disclose that bonus performance criteria were not met – but the compensation committees awarded bonuses anyway due to unusual items: Fifth Third Bancorp and Cinergy.

As these companies did, one solution for imperfect formulas is to allow the compensation committee to use its discretion in ferreting out the impact of unusual items – but the risk then arises that the committee can manipulate a formula so that payouts occur under any set of circumstances. Challenging indeed…