We have posted the transcript from the popular DealLawyers.com webcast: “How to Handle Hedge Fund Activism.”
Chairman Cox’s Interview
In the op-ed section of Saturday’s WSJ, SEC Chairman Cox gave this interesting interview. Here are a few observations:
– As a former politician, the new Chairman sure knows how to make friends with the media. For example, the interviewer writes “My pen stops. This is not how regulators speak” when the Chairman uttered the same thought likely spoken by each of the 27 prior chairs of the SEC (ie. the SEC should arm investors with information to protect themselves).
– The Chairman hit the nail on the head when he focused on one of my pet peeves: the inane way that EDGAR displays forms, etc. How many investors do you think recognize “DEF 14A” as a proxy statement?
– I am not sure I agree that XBRL will “cut down on costly errors.” I worry that it will create more new ones as companies (or vendors they hire) mistag their financial data. Tagging errors for XBRL will be more significant than EDGAR or HTML errors because it means that a number gets pushed to a different line item in the financials.
– While I completely agree that the SEC should not (and cannot, since it doesn’t have the authority) to regulate executive compensation levels, I disagree with the statement that CEO pay is set by “market forces.” As I flesh out in Realism #1 of my “Open Letter to All Journalists,” that statement seems to be bandied about without careful thought as to what it really means.
Enron’s Legacy
As long as I am blogging about the Saturday WSJ op-ed pages, I can’t help but rebut this column about how we didn’t need all this new regulation. I agree that Sarbanes-Oxley went overboard, but what do you expect from Congressional legislation? I read the op-ed as basically arguing that if Scrushy and all those fraudsters avoided jail, then there must not have been any widespread issues ripe for reform.
For those of us dealing with these issues on a daily basis, I think most of us would agree that numerous practices have changed “for the better.” Put aside your anger about 404 and think about the bigger picture. [Although remember that in Year 1 after the implementation of Section 404, 17% of companies reported a material weakness. And that’s just large companies – imagine how high that percentage would be if 404 was implemented across the board!]
Here is a list of recent changes that I think illustrate how most companies (and their advisors) are in much better shape today compared to before SOX:
1. Boards no longer conduct one-hour board meetings just several times per year.
2. Outside auditors will no longer do whatever it takes to keep the business.
3. CEOs and CFOs (and some directors) now actually read 10-Ks and 10-Qs before they are filed.
4. Outside lawyers are more careful about who they represent and what they advise.
5. Employees are more apt to blow the whistle on financial mischief and companies are more careful handling these complaints.
6. Investors are more active in keeping boards accountable.
Of course, some serious fine-tuning to the new rules are necessary, particularly as oversea listings of companies grows by leaps and bounds – and I am increasingly concerned about the balance of power shifting to shareholders, particularly those that are in it for the “greenmail.” But I remain convinced that some reform was necessary and that there could be a much higher level of fraud being perpetuated today “but for” Sarbanes-Oxley and the related rulemaking that followed.
More on XBRL
Last week, Corey Booth, Chief Information Officer of the SEC, gave an enlightened speech on the SEC’s efforts to implement XBRL reporting. Over the past year, Corey has noticed significant variation in how pilot companies translate their numbers into XBRL, even on relatively basic issues – and he notes that this variation suggests that significant subject matter knowledge is needed to effectively create an XBRL document (as the preparer must be comfortable with both the technological and accounting aspects of the standard). He also noted little growth in demand for XBRL information from investors – so he doubts that mandatory XBRL filing will be required before voluntary adoption has become widespread.
This all jibes nicely with my recommendation that the SEC go slow here. However, it still is apparent that the SEC will push this initiative – yesterday, it issued a press release announcing three more companies have joined the pilot program. And it’s fascinating that yet another Brazilian-based company has signed up for the pilot program, continuing that country’s very significant representation among the volunteers.
Next Tuesday, May 30th, you might want to check out AEI’s XBRL Conference in Washington DC – it’s free (but you need to pre-register).
Last week, the annual legislation amending the Delaware General Corporation Law was introduced. Among other things, the bill addresses some of the majority voting issues raised recently by investors. As is customary, the Council of the Corporation Law Section of the Delaware Bar Association proposed the changes, which are expected to be approved.
I was able to catch up with a member of the Council that worked on the draft bill, John Grossbauer of Potter Anderson & Corroon, to discuss this development in this podcast, including:
– What does the Delaware bill say?
– How does it compare to the ABA’s recommendations for the Model Business Corporation Act?
– When is the Delaware legislature expected to act?
Clarifying the SEC’s Latest Section 404 Deadlines
In last week’s press release on Section 404, the SEC stated that there will be a new short postponement of the effective date for the rules implementing Section 404 for non-accelerated filers – this statement noted that all filers will nonetheless be required to comply with the Section 404(a) management assessment for fiscal years beginning on or after December 16, 2006. Quite a few members were confused because under the existing deadline – emanating from Release 33-8618 from September 2005 – non-accelerated filers are not required to comply with the rules under 404 until the first fiscal year ending on or after July 15, 2007.
As Alan Dye was quick to point out to me, the key difference between the SEC’s two statements is that the new one refers to the beginning of a fiscal year and the older one refers to the end of a fiscal year. However, the upshot of the SEC’s latest announcement is that there is no real change for companies with fiscal years that coincide with the calendar year.
Remember that the SEC’s September 2005 release established two extended deadlines: fiscal years ending on or after July 15, 2006 for foreign private issuers meeting the accelerated filer deadline and a July 15, 2007 for non-accelerated filers. Under its latest announcement, the SEC does not intend to extend both deadlines as the upcoming extension will be limited only to non-accelerated filers (but of course any foreign private issuers that also happen to be non-accelerated filers will get the benefit of that extension).
Fielding Those Option Back-Dating Phone Calls
I’m being told that institutional investors and investment bankers are calling the investor relations departments at companies and giving them the third degree about whether those companies have any “backdating” issues. Hopefully, the IR folks remember Regulation FD because I would love to know which companies are going to confirm they have backdating issues too – I could sell short and retire. A lot of fishing going on. And of course, the IR folks need to be sure that their companies don’t have the problem before they say they don’t…
In my blog last week on this topic, I forgot to mention that the most recent issue – March/April – of The Corporate Counsel contains extensive analysis of issues posed by options-backdating. In addition, in the “Timing of Stock Option Grants” Practice Area on CompensationStandards.com, we have now added some research reports and an article analyzing the issues as well as several complaints filed in lawsuits against some of the companies accused of backdating.
On Thursday, it was announced that President Bush nominated Kathleen Casey to serve as an SEC Commissioner – she currently serves as the Staff Director and Counsel for the Senate Banking Committee, having previously worked as Chief of Staff and Legislative Director for the Committee’s chairman, Senator Richard Shelby (R-Al.). Ms. Casey will replace Commissioner Cynthia Glassman, who announced earlier this week that she will not serve a second term and would leave the agency after her term expires next month.
Ms. Casey, whose term would extend to the middle of 2011, is subject to confirmation by the Senate. I doubt she will have any problem securing confirmation, but I thought it would be useful to provide an overview of the confirmation process (and here is Senate Rule XXXI, which governs confirmation hearings) for those that want to learn about what’s involved in a confirmation.
The First Blast Voicemail Free Writing Prospectus?
In our “Free Writing Prospectuses” Practice Area, we have uploaded this interesting voicemail recording (give it a few seconds to load) from Vonage that appears to solicit interest from its customers in its upcoming IPO (more specifically, the Directed Share Program that will receive an allotment in the IPO). Perhaps the first blast voicemail free writing prospectus? I found this letter to customers filed as a FWP, but I’m not sure if that FWP (or any of the other FWPs filed by Vonage) relate to this v-mail. Perhaps this one?
Per Rule 405 – and footnote 97 of the adopting release for the Securities Act reform – “written communications” includes broadly disseminated or “blast” voice mail messages. So it would seem like a blast voicemail FWP would be required to be filed (and since Vonage is an unseasoned issuer, the blast email would need to be accompanied or preceded by a prospectus pursuant to Rule 433(b)(2) if it were an FWP) – however, since the voicemail and the customer letter are essentially word-for-word, perhaps this FWP is intended to cover both forms of communication. Remember that Rule 433(d)(3) essentially says you don’t need to file if the “FWP does not contain substantive changes from or additions to a FWP previously filed.”
Or perhaps the blast voicemail is intended to be a Rule 134 communication, which now permits more procedural information about directed share programs (note the voicemail includes the statement required by Rule 134(b)(1)). It’s a brand new ballgame and the rules certainly have changed.
Don’t forget to take our new survey on how many pieces typically constitute the “disclosure package” as well as the largest disclosure package you have worked on to date – and which one of six FWPs filed to date is the most interesting.
Vonage’s Directed Share Program
Looking at Vonage’s Amendment No. 5 to the Form S-1, I see that up to 13.5% of the IPO shares are reserved for a “Directed Share Program.” This level seems a tad high, as 5-10% is the normal range (although there were deals in the ’90s with programs over 15% if I recall correctly). And the angle to offer shares through a program to customers is novel, although not unheard of as Boston Beer and Annie’s Homegrown come readily to mind.
I wonder whether this high level is due to (i) a calculation by the underwriters that VOIP subscribers tend to be more affluent and tech-savvy and therefore this is a good way to attract some new high-end retail clients to their private bank or (ii) they are worried that the deal is too large and this is a good way to soak up demand by going out to the true-believers. Based on my conversations with folks that have tried Vonage’s service, my guess is that it’s the latter (which is supported by this recent WSJ article which describes a high level of customer complaints).
This WSJ article from last week notes that the SEC has ramped up its examination of options timing and is now conducting reviews of about 20 companies. 20 companies! This truly has been shocking to me as I had assumed it would be a half a dozen bad apples at the most. It’s a good reminder to push back if you ever are placed in the position of doing something that “doesn’t feel right.”
Some companies are claiming their processes legally involved backdating. For example, in this Form 12b-25 filed by Affiliated Computer Services, the company notes “the Company has granted stock options principally utilizing a process whereby its compensation committee or special compensation committee, as applicable, would approve stock option grants through unanimous written consents with specified effective dates that generally preceded the date on which the consents had been executed by all members of the applicable compensation committee. In connection with option grants to senior executives, the historical practice was for the Company’s chairman, who during periods prior to September 2003 was also a member of the Company’s compensation committee, to engage, on a relatively contemporaneous basis with the effective date specified in the written consent, in individual telephonic discussions with each of the members of the applicable compensation committee, during which the committee member would indicate his approval of the option grants in question.” It will be interesting to see if the company’s Chair can prove he made all these phone calls for each grant.
It’s breathtaking to look at the scope of some of the restatements announced so far – UnitedHealth might restate three years worth of financials due to option back-dating, trimming off $286 million of net income! This is precisely why we included a panel on how to design internal controls for compensation matters in our “1st Annual Executive Compensation” Conference (video archive of that panel and more are in the “Internal Controls” Practice Area of CompensationStandards.com). I would imagine that auditors are paying closer attention to compensation items now.
Remember that these CEOs and CFOs had to sign a certification saying their financial statements were correct (and if backdating did occur, the financials could well have been incorrect). They also would have signed representation letters to the auditors. My guess is it will be tough for executives to argue they knew nothing about the backdating, if in fact things had been backdated. Perhaps this is why a federal prosecutor is looking into all of this.
In the “Timing of Stock Option Grants” Practice Area on CompensationStandards.com, we have posted a host of resources, including links to a number of Form 8-Ks filed by companies under investigation and the complaints filed in two lawsuits against UnitedHealth. Also some good stuff today in Jack Ciesielski’s “AAO Weblog.”
XBRL Alternatives
Following up on my blog about XBRL alternatives a few weeks ago, in this podcast, Michael Becker, Director, Global Disclosure & Financial Reporting Services of Business Wire, talks about “EarningsDirect,” an XBRL templated service being offered by Business Wire in conjunction with CoreFiling, including:
– What is the difference between what services you offer and what the SEC is trying to accomplish in its pilot programs so far?
– How have your clients found your offerings? What questions do they ask?
– How about analysts? Do they seem to be interested in using the data that your clients provide through your services?
A number of law firms (and their clients) have begun putting out press releases in advance of the deadline for filing a lead plaintiff motion, often indicating their intention to file a lead plaintiff motion.
Last week, Bernstein Litowitz Berger & Grossmann LLP and the Police and Fire Retirement System of the City of Detroit put out this release regarding the securities class actions pending against Bausch & Lomb Inc. in the United States District Court for the Southern District of New York. The release indicated the Police & Fire Retirement System’s intention to both file an expanded complaint and a lead plaintiff motion.
The previous week, Kahn Gauthier Swick, LLC and WestEnd Capital Management, LLC put out this release regarding the securities class actions pending against Pixelplus Co., Ltd., also in the Southern District of New York. This release simply noted that WestEnd had retained Kahn Gauthier to pursue claims, with no mention of lead plaintiff issues.”
Yesterday, the SEC and PCAOB announced a four-point plan to tackle Section 404 issues. The big news is that the SEC will not exempt small companies from Section 404, which really is not much of a surprise given comments from some of the Commissioners leading up to the Advisory Committee’s report. The Plan consists of:
1. Guidance for Companies – including issuing a Concept Release covering a variety of issues (such as the management assessment process and the appropriate role of outside auditors in connection with the management assessment and on the manner in which outside auditors provide the attestation required by Section 404(b)); consideration of additional guidance from COSO; and guidance to management to assist in its performance of a top-down, risk-based assessment of internal control over financial reporting (timing and form of this guidance not yet determined)
2. Revisions to Auditing Standard No. 2 – the PCAOB announced yesterday that it intends to propose revisions to its Auditing Standard No. 2, which overall would:
– Seek to ensure that auditors focus during integrated audits on areas that pose higher risk of fraud or material error;
– Incorporate key concepts contained in the guidance issued by the PCAOB on May 16, 2005; and
– Revisit and clarify what, if any, role the auditor should play in evaluating the company’s process of assessing internal control effectiveness.
3. SEC Oversight of PCAOB Inspection Program – the PCAOB will focus its 2006 inspections on whether auditors have achieved cost-saving efficiencies in the audits they have performed under AS No. 2, and on whether auditors have followed the guidance that the PCAOB issued in May and November 2005.
4. Extension of Compliance for Non-Accelerated Filers – the SEC expects to announce another short postponement of the effective date – five months according to this WSJ article – for the rules implementing Section 404 for non-accelerated filers (but will still require filers to comply with the Section 404(a) management assessment required for fiscal years beginning on or after December 16, 2006).
Introducing the COMPETE Act
Some in Congress still want smaller businesses exempt from Section 404. Yesterday, Senator Jim DeMint (R-SC) and House Representative Tom Feeney (R-FL) led a group of other supporters to introduce legislation entitled the “Competitive and Open Markets that Protect and Enhance the Treatment of Entrepreneurs [COMPETE] Act.” Here is a related press release.
According a copy of the bill posted on CFO.com, it is designed “to reduce the burdens of implementation of Section 404 of the Sarbanes-Oxley Act…” by creating an exemption for small companies, recommending “random” rather than annual internal control audits, creating a “de minimis” standard for materiality of 5% of net profits, recommends SEC and PCAOB issue guidance for measuring the terms “reasonable,” “significant” and “sufficient,” defining other terms, and that SEC/PCAOB conduct a study to compare and contrast the U.K.’s “Turnbull” guidance vs. the implementation of Section 404, and submit the results of that study to Congress within one year of the date of enactment of the COMPETE Act. Thanks to FEI’s “Section 404″ Blog for the heads up and language above.
According to this WSJ article, the bill is unlikely to get before Congress for a vote this year.
What the Top Compensation Consultants Are NOW Telling Compensation Committees!
We have posted the transcript from the popular CompensationStandards.com webcast: “What the Top Compensation Consultants Are NOW Telling Compensation Committees!”
2nd Annual “M&A Nuggets” Webcast
We have posted the transcript from the popular DealLawyers.com webcast: “2nd Annual “M&A Nuggets.”
Yesterday, according to this Reuters article, a group of Republican members of the House announced they will introduce a bill that would exempt smaller companies from Section 404; a similar Senate bill is also planned.
And I continued yesterday to add sets of notes to my blog about the SEC’s and PCAOB’s Section 404 roundtable – and the SEC posted a full transcript of the roundtable (which will help you appreciate how much effort we put into cleaning up the transcripts of our webcasts before we post them).
A Historical Rambling
Finally got off my duff to manually upload all my blogs from 2002 that comprise my first blog musings from when I founded RealCorporateLawyer.com (and from when I was one of the first lawyers to try this very new thing called a “blog”). Reviewing these old blogs is amusing for two reasons. First – and admittedly personal – is to see how I’ve come along as a home-grown journalist. I would argue that I have more of a “voice” now, partly a function of blogging more frequently and in much greater length. I’m always open to criticism if you think my style can be improved.
Far more interesting is to follow the developments leading up to the passage of Sarbanes-Oxley and the incredible rash of rulemaking that quickly followed. Unbelievably, I used the term “Sarbanes” only twice before the Act was signed into law (see May 13th and May 28th). That is how quickly the Act came into being (and how unprepared we all were when it did). The Sarbanes bill languished from the first day it was drafted and was essentially dead until the WorldCom scandal came to light in July 2002 and then poof – it was a done deal within several weeks.
It’s also interesting to recall what the top issues initially were – in August 2002, the biggest concern involved CEO and CFO certifications and the mechanics of how those newfangled things worked, which really wasn’t fully ironed out for several months. With a smile, I remember the chaos as I put together a last minute teleconference regarding certifications (just two days notice) and we had an incredible turnout as the first batch of certs were due to be filed the next week. It was wild, man. Better than Woodstock…
Can you imagine that internal controls was nowhere on the radar screen at the time? In fact, my March 2003 webcast on the topic (which I appropriately labeled then as a “sleeper,” thanks to a memorable conversation with John Huber) remains the most sparsely attended webcast I have held in my 5 years of hosting them. Look back at the law firm memos drafted right after SOX was passed and you will not find anyone predicting that Section 404 was something formidable. That was because we only had the bandwidth to tackle only the numerous new requirements that were applicable immediately – and Section 404’s implementation seemed so far away.
A lot of surprises looking back – who remembers that four SEC Commissioners were confirmed by Congress on the same day that they passed SOX? It’s true. And what about the fact that John Biggs was quasi-announced as the first PCAOB Chairman, just before the William Webster debacle. Hard to believe this now all comes under the category of “history.” Time flies…
Sentencing Commission Finalizes Amendment to Eliminate Mandated Waiver of Attorney-Client/Work Product Protections
Two weeks ago, the final amendments to the Sentencing Guidelines were submitted to Congress from the US Sentencing Commission. As I blogged about last month, these amendments include the deletion of the provision on waiver of the attorney-client privilege and work product protections. These changes become effective on November 1st, unless Congress takes affirmative action.
In addition to deleting the provision on privilege, a number of commenters had urged the Sentencing Commission to also include an express statement that such waivers are not to be considered in evaluating the level of cooperation or determining the appropriate sentence. The Sentencing Commission didn’t add the requested statement, but did add a reason for the amendment on pages 29-30. We have posted law firm memos on this development in our “Sentencing Guidelines” and “Attorney-Client Privilege” Practice Areas.
Yesterday, SEC Commissioner Cynthia Glassman issued this letter indicating that she would not seek a second term when her current term expires next month as she is ready to tackle new challenges. The Commissioner agreed to stay in office until a successor is found, which can take up to 18 months as noted in the SEC’s press release – however, this article predicts a successor will be named within a few days.
With a background as an economist, Commissioner Glassman hasn’t been afraid to assert herself and joined fellow Republican Commissioner Paul Atkins in a stand against a number of measures passed by former Chair Donaldson and the two Democratic Commissioners. It will be interesting to see who is selected as her replacement – among the names being circulated is Kathy Casey, majority staff director for the Senate Banking Committee’s chairman, Sen. Richard Shelby (R-Ala.).
Nasdaq’s FAQs re: Transition to an Exchange
Yesterday, the Nasdaq issued a set of FAQs about its transition to a stock exchange. The timing of the Nasdaq becoming an exchange is still noted as the “2nd quarter of 2006,” but the FAQs also note that this might be delayed.
Yesterday, the Nasdaq also sent this bulletin to listed companies, which states much of what I have blogged about before regarding the Nasdaq taking care of the transition from a 12(g) to a 12(b) reporting company for all listed companies that don’t exercise their right to “opt out” by May 30th. The bulletin also notes that listed companies will keep the same ’34 Act filing number for purposes of their SEC filings (ie. they will keep their numbers beginning with a “0-” despite the fact that listed companies will now be registered under Section 12(b)).
Notes from the May 10th Internal Controls Roundtable
These notes from last week’s 404 Roundtable, hosted by the SEC and the PCAOB, are available from the FEI’s “Section 404 Blog” – and here are notes from the NACD and notes from CFO.com. This is the SEC’s related briefing paper.
The timing of any “next steps” was not discussed during the roundtable – but according to this Reuters article, Chairman Cox told reporters immediately afterwards that the SEC and PCAOB plan to issue “statements” within the “next few weeks.”
Last Tuesday, the NY Times ran this article about the testimony given at a hearing into whether federal prosecutors improperly pressured KPMG to cease paying the legal fees of former employees indicted for selling illegal tax shelters. The hearing before Judge Lewis Kaplan of the US District Court of New York focused on the so-called “Thompson Memorandum,” written by then US Deputy Attorney General Larry Thompson. The Thompson Memorandum contains nine factors that prosecutors could consider when determining whether to indict a company – one factor was whether the company advanced legal fees to employees caught up in an investigation. [This Memorandum is discussed within some of the law firm memos posted in the “Attorney-Client Privilege” Practice Area].
It appears that Judge Kaplan has questioned the constitutionality of the prosecutor’s policy regarding advancement of fees. According to this article, “When a prosecutor, Marc Weinstein, said the document written in 2003 by Larry D. Thompson, a former deputy attorney general, did not advise companies that they risk indictment by paying the legal fees for all employees, the judge cut him off. Kaplan said if what Weinstein said was accurate, then the Department of Justice in Washington chose poor wording of the document and ”it’s time they start all over again because that’s sure not what they’ve said to the defense bar.”
The defendant’s pre-hearing brief in this case – US v. Stein – gives some pretty interesting (albeit one-sided) insights into how potential criminal defendants may be pressured by the U.S. Attorney’s Office into cutting off the advancement of legal fees to employees. And here is an amicus curie brief filed on behalf of the SIA, Bond Market Associationn, Associaton of Corporate Counsel and the US Chamber of Commerce which questions the legality of the DOJ’s position in the Thompson Memo that companies under investigation should deny legal fee advances to “culpable” individuals. Both of these pre-hearing briefs are posted in the “Indemnification Arrangements” Practice Area.
There often is tension in situations like this – where companies can be put under a lot of pressure to deny protections to individuals who have not been convicted (at least, not yet). Just review some of the recent cases like Homestorein Delaware, where the court dismissed efforts by a company to avoid paying the fees of an executive who really was “culpable.” And then there are the very valid concerns about the massive legal fees incurred by indicted executives who “eat up” the D&O coverage of other directors and officers who are less culpable (for example, as noted in the WSJ Law Blog, check out how large the Hollinger legal bills were: well over $4 million each for Conrad Black and Richard Pearle!).
This is why companies need to address these tricky situations before they arise, within employment agreements and the like. Get some negotiating and drafting tips in the “Clawback Provisions” Practice Area on CompensationStandards.com.
– Which stock plans are most likely to be subject to the directive and what exemptions are available
– How to comply with the directive, including how to file a prospectus in your home member state and passport it to other EU countries
– How the directive intersects with local laws and the EU countries where compliance is most problematic
– What to do if you discover that your stock plans are in violation of the directive
A Refresher on CEO/CFO Certifications
We are still getting plenty of queries on CEO/CFO certifications, so I thought it was a good time for a refresher with this podcast with Andy Thorpe of Morrison & Foerster (and a former SEC Staffer who worked on the 302 rulemaking), who provides some insight into how to handle CEO/CFO certifications, including:
– Can a CEO/CFO vary the language at all in a 302 certification?
– What about a 906 certification?
– What happens if a CEO/CFO is hired after a period end? Can they skip the certification until they are on the job longer?
– What other questions are being asked about CEO/CFO certifications?
Cheryl Hall of the Dallas Morning-News devoted her Wednesday column to providing an update on the progress of the House bill on executive pay (here is a blog from November when bill was introduced). Here is an excerpt from Cheryl’s column:
“U.S. Rep. Barney Frank owes Exxon Mobil Corp.’s Lee Raymond a thank-you note. In November, the Democratic congressman from Massachusetts introduced a bill that would force public corporations to give easy-to-read, fully detailed reports on their top executives’ pay, retirement, perks and golden parachutes.
But it was going nowhere fast until last week, when all 33 Democrats on the Republican-dominated House Financial Services Committee forced hearings in the near future on the bill. Mr. Raymond’s stupefying retirement package and high gasoline prices created this solidarity, says Mr. Frank, who sees executive compensation escalation as corporate America’s arms race.
“It’s not simply that these guys are getting large amounts of money,” says Mr. Frank. “But they’re getting large amounts of money at the same time that large numbers of workers are seeing their pensions jeopardized, their wages frozen in real terms, their jobs abolished.”
Not since Enron Corp. and Ken Lay have public angst and outrage seemed so unified. As a result, the winds of change are blowing from various directions at once. Regulators, stockholder groups and now perhaps Congress are saying enough is way too much. Charles Peck, a compensation specialist at the Conference Board in New York, has watched packages spiral upward for decades. “If you do the abnormal enough times, it becomes the norm,” he says. “Shareholders are waking up to the fact that there’s a whole lot of stuff going on underneath.”
Under Mr. Frank’s bill, companies would have to ‘fess up to the private jets, limos, vacations, maids and special considerations that otherwise might have been buried in incomprehensible verbiage. The Protection Against Executive Compensation Abuse Act is similar in many respects to new rules the Securities and Exchange Commission is about to hand down. These mandate a plain-English, single-page tally of top executives’ compensation – present and future. These tough disclosure regulations should be in place for the next proxy season.
So why doesn’t Mr. Frank just wait for the SEC rules to take hold? “Excuse me,” Mr. Frank says incredulously. “You must have a different version of the Constitution than I do. You must have one that says, ‘Article 1: The SEC shall …’ ”
And there is one critical difference. His bill would give shareholders the right to vote on whether the execs deserve the bounty. “CEOs pick the boards of directors, and the boards of directors pick the CEOs,” says Mr. Frank. “They scratch each other’s back. So there is no market mechanism for controlling CEO salaries. The only way to do that is to give stockholders a chance to vote.” This is something the SEC cannot mandate because companies are incorporated under state laws. “We have no jurisdiction,” says a commission spokesman. “All that Frank wants to achieve is unachievable by us.”
Former CEO Ordered to Pay $22 Million in Disgorgement
On Wednesday, the SEC announced that Gemstar-TV Guide International’s former CEO was ordered by the US District Court for the Central District of California to pay $22 million in disgorgement (including interest and penalties) for his role in a fraudulent scheme to inflate the company’s revenues. Now that is a clawback – one of the largest fines ever handed down for an individual charged with accounting fraud! [The SEC had sought $60.9 million but the court did not rule on a $29.5 million severance payment because the former CEO didn’t have access to it.]
If you remember back to the end of last year, this was the situation in which the Justice Department – responsible for criminal prosecution – agreed to a plea bargain in which the former CEO was given 6 months home detention, a $250,000 fine, and an order to make a $1 million charitable contribution. The judge threw out the plea bargain due to its leniency, which the SEC Staff appropriately opposed at the time (as noted in this blog).
Searching for Hidden Treasure
I found the following piece interesting in Susan Mangiero’s Pension Risk Matters Blog: “I’ve spent the last few weeks trying to uncover information about the retirement plan decision-makers at various companies. I’m willing to pay money for this information. Why?
Simply put, I want to know who has responsibility for making multi-million dollar decisions that affect thousands of employees and retirees. Once identified, I’d like to read their bios, understand how they were selected, read about how they are evaluated and identify to whom they report.
Unfortunately, my quest has provided scant results. Here is a summary of what I know. (I welcome comments about possible data sources.)
1. There is no universally accepted organizational structure to determine who is in charge of recommending and deciding on what retirement benefits to offer those outside the executive suite.
2. When a retirement benefits committee exists, it goes by different names, some of which are listed below.
3. Titles of benefits-related decision-makers vary. Some examples follow.
(a) 401K Board Chairperson
(b) Benefits Director
(c) Benefits and Compensation Director
(d) Benefits Administrator
(e) Head of Human Resources
(f) Compensation Committee Chairperson
4. The SEC has proposed a significant overhaul of reporting rules as relates to executive compensation and compensation committees. It appears to be silent with respect to the compensation decision-making process for employees below C-level.
5. Page 1 of Form 5500 requires the identification of the plan sponsor and plan administrator, respectively. Schedule P to Form 5500 requires the signature of a fiduciary and the name of a trustee or custodian. (According to the U.S. Department of Labor website: “Each year, pension and welfare benefit plans generally are required to file an annual return/report regarding their financial condition, investments, and operations. The annual reporting requirement is generally satisfied by filing the Form 5500 Annual Return/Report of Employee Benefit Plan and any required attachments.”)
6. ERISA mandates the distribution of a Summary Plan Description (SPD) to each plan participant and beneficiary currently receiving benefits. Required information includes “the name, title and address of the principal place of business of each trustee of the plan”. Education and experience are not mandatory disclosure items.
The bottom line is that a systematic identification of who does what and why with respect to employee benefits is simply not a reality as things stand today. This makes it difficult (perhaps impossible) to effect change. Hunting for treasure shouldn’t be this hard!”
Looks like the executive pay issue is growing in prominence for the mainstream press as the NY Times ran this article attacking personal airplane use by executives on the front page of yesterday’s paper. That’s right – page A1.
The article’s statistics about a 45% increase in amounts billed as personal use from the 100 largest companies – from 2004 to 2005 – could have been easily predicted. In the article, the rise is explained by the IRS cutting back on what companies could deduct when they pay for their executive’s personal travel – thus increasing the burden on companies.
I believe an even more significant reason for the increase is that the SEC Staff had been providing warnings about perk valuations long before the SEC proposed the use of the incremental valuation method a few months ago (see Alan Beller’s speech at our “1st Annual Executive Compensation Conference” in October 2004 and we analyzed this issue way back in the May-June 2004 issue of The Corporate Counsel). I believe some companies took this message to heart and moved away from some of the more egregious valuation methods, such as SIFL.
Unfortunately, valuation methodologies – as well as how companies determine what is “personal” versus “business” use – continue to vary greatly from company to company, as we recently highlighted on pages 8-9 of the September-October 2005 issue of The Corporate Counsel.
So no one should be surprised when these numbers go up significantly when 2005 is compared to 2006 – and even more so when 2006 is compared to 2007, as this is when the “rubber meets the road” as the SEC new rules take effect and hopefully the result is more uniformity in practice. I say “hopefully” because the SEC’s proposed rules lack a clear definition of what costs should be included in the incremental calculation, as noted on pages 5-8 of this comment letter (which also argues that the valuation should be made from the perspective of the executive; not the company). More guidance in this area is necessary to ensure that companies don’t continue to abuse “loopholes” to hide the true costs of personal airplane use.
How to Go Public on the London Stock Exchange’s AIM
Check out today’s webcast – “How to Go Public on the London Stock Exchange’s AIM” – to learn how the London Stock Exchange’s Alternative Investment Market (AIM) increasingly has become an option for companies seeking to go public.
The Impact of Stock Trading Plans on Potential Liability
From Lyle Robert’s “The 10b-5 Daily“: Whether selling company stock under a Rule 10b5-1 trading plan can help shield corporate executives from securities fraud liability is an open question. Although some courts have considered the existence of a trading plan in finding that an executive’s stock sales did not create a strong inference of scienter (i.e., fraudulent intent), a recent decision goes the other way. In In re Cardinal Health Inc. Sec. Litig., 2006 WL 932017 (S.D. Ohio April 12, 2006), the court held that it was “premature” to evaluate the impact of a trading plan at the motion to dismiss stage because it is an affirmative defense to insider trading allegations.
Some Final Thoughts on Form 10-Q Risk Factor Disclosure
Brink Dickerson responds to some of the comments made on his thoughts on risk factors in 10-Qs by noting: “Commentators are absolutely correct that the SEC is hostile to disclaimers of duties to update. However, I include one in any event – usually with the qualifier “except as required by law” – because of Winick and some similar authority.
I have received comments from the SEC on this language – and they usually comment on the companion language as well that provides that the risk factors are the ones that the company currently considers to be material, but may not necessarily every material risk factor – and usually am able to convince them that some middle ground is appropriate. In Winick vs. Pacific Gateway Exchange, Inc., 73 Fed. Appx. 250 (9th Cir. 2003), the court said that ‘The company repeatedly disclaimed any duty to update its forecasts; thus, the company’s predictions regarding its ability to meet future obligations could not have remained “alive” in the minds of reasonable investors.’
A disclaimer of an obligation to update – or the general absence of a duty to update – is consistent with case law in the other circuits as well, and it is unfortunate that the SEC does not recognize that in its comments.”
