July 21, 2008

The Grasso Decision: Makes the Case for Clawbacks

As you have read, Dick Grasso won his case against the New York Attorney General a few weeks back. But if you read the media reports closely, you will notice he won on a technicality – he won because the NYSE changed its “form” since the lawsuit was filed, from a non-for-profit to a public company (a dissenting judge argues that NYSE still has a non-profit subsidiary, and thus is still subject to the New York non-profit rules).

Thus, according to the New York State Supreme Court’s decision, the Attorney General didn’t have the authority to challenge his compensation anymore, and Dick gets to keep his money without any adjudication of whether the amount was reasonable, whether he breached his fiduciary duties, or whether he (or anyone else) ever did anything wrong or improper in connection with his compensation. So although Dick’s been saying he was “vindicated,” it’s hardly so.

So what does this mean for you? It reminds us that a proper clawback can save a company the embarrassment of a lengthy court battle – and many millions of dollars (reportedly, the Grasso lawsuit cost the NYSE more than $70 million in legal fees). It’s time for you to go back and read our Winter 2008 issue of Compensation Standards to learn the “Ten Steps to a Clawback Provision with “Teeth.”

We are pleased to note a recent pair of reports from The Corporate Library that note the trend of clawback usage on the rise; one report noting the upward trend generally (13% of companies surveyed have them now, up from a handful a few years ago) and one report noting how clawbacks are more common at larger companies.

The Consultants Speak: How the Latest Compensation Disclosures Impacted Practices

We have posted the transcript from our recent webcast: “The Consultants Speak: How the Latest Compensation Disclosures Impacted Practices.”

John Wilcox on “Say on Pay” as a Listing Standard

My good friend John Wilcox and I have been corresponding on “say on pay” and he’s given me permission to post his following thoughts on the topic. John recently left his job as TIAA-CREF’s SVP and Head of Corporate Governance (although he remains a senior advisor to TIAA-CREF) to become Chairman of Sodali. John constantly travels around the globe and is an intense student of governance frameworks used in other countries:

I agree that federal legislation or SEC rulemaking would probably not be the best way to implement an advisory vote on executive compensation. Nevertheless, I think the advisory vote would work best if it were applicable to all companies, rather than just to the few who act voluntarily. The best means to achieve universality without becoming prescriptive would probably be for the New York Stock Exchange and Nasdaq to adopt a listing standard calling for an advisory vote.

For example, a shareholder vote is now mandated for equity compensation under NYSE Rule 303A.08, “Shareholder Approval of Equity Compensation Plans.” The rule is straightforward. It reads as follows: “Shareholders must be given the opportunity to vote on all equity compensation plans and material revisions thereof . . . .”

If this approach were applied to an advisory vote, it would be minimally invasive and would permit a range of proposal formats. The rule might be entitled “Shareholder Advisory Vote on Compensation Disclosure,” and might read as follows: “Shareholders must be given the opportunity to cast a non-binding advisory vote on compensation plans disclosed in the proxy statement.”

A rule stated in such simple terms would enable companies to customize their advisory vote proposals to suit their circumstances. My belief is that companies drafting compensation disclosures with a view to a “pass/fail” advisory vote would try harder to achieve clarity and to highlight features of concern to shareholders, such as strategic links to performance and the creation of long-term value. Experience with mandatory votes under NYSE Rule 303A.08 demonstrates that companies are capable of making a good case for equity compensation when a vote is required.

I think it is unwise to argue that an advisory vote applied universally would be overly burdensome to shareholders. Shareholders must already shoulder the burden of reading dense and opaque compensation disclosures. Complaining about this responsibility surely does not serve the cause of transparency and good corporate governance, nor does it inspire confidence in the diligence of shareholders. Instead, shareholders should be pressuring companies to improve the quality of their disclosure, to provide summaries and to explain how pay and performance are linked. Incidentally, I have never heard shareholders complain about the burden of disclosure and voting rights on equity compensation plans under NYSE Rule 303A.08.

A fair argument can be made that CD&As are too complicated and the links between compensation and value creation are not clearly articulated, thereby creating an unacceptable burden on shareholders to digest and make sense of the data. If this is true, it is company executives, boards and compensation committees – not shareholders – who should be accountable. Simplification, clarification and better explanation of how compensation drives performance should be the responsibility of companies, not shareholders.

Shareholders have to read and evaluate compensation disclosures. However, if a company’s compensation narrative is not clear and convincing, shareholders should send the drafters back to the drawing board. An effective way to do this would be through an advisory vote.

If we see the advisory vote as the means to push for better compensation practices and clearer disclosure, rather than a means to punish companies, the concerns of both companies and shareholders are largely eliminated.

– Broc Romanek