On August 25, 2022, the Securities and Exchange Commission (“SEC”) announced the adoption of amendments to rules relating to executive compensation disclosure. The final rule can be found here. As mandated by Section 953(a) of the Dodd-Frank Act, Item 402 of Regulation S-K was amended to add subsection (v), which requires companies to disclose information depicting the relationship between executive compensation actually paid and the company’s financial performance in annual proxy statements. In announcing the final rule, the SEC noted that it provides for more flexible disclosures that allow companies to describe the performance measures it deems most important when determining what is paid to executives. The aim is to ensure investors have access to “consistent, comparable, and decision-useful information” needed to evaluate a company’s executive compensation policies.
When is the rule effective and what companies are impacted?
The new disclosure requirement will be effective for fiscal years ending on or after December 16, 2022. Smaller Reporting Companies (“SRCs”) are subject to a scaled reporting mechanism, and emerging growth companies, registered investment companies and foreign private issuers, are exempt from the rule.
What specific disclosures will be required?
Companies must provide a clear description of (1) the relationship between executive compensation actually paid to their named executive officers (“NEOs”), including their principal executive officer (“PEO”), and the company’s cumulative total shareholder return (“TSR”), and (2) the relationship between the company’s TSR and the TSR of a peer group chosen by the company, over each of the company’s five most recently completed fiscal years.
New Tabular Disclosure: The following pay versus performance summary compensation table must be included in a company’s proxy or information statement:
What does “actually paid” mean and how does it differ from column (b)?
Executive compensation “actually paid,” as required by column (c) in the summary compensation table, is defined as the total compensation reported in column (b), with adjustments made to the amounts report for pension values and equity awards using a specified formula. The adjustments must be disclosed by footnotes to the summary compensation table.
New Narrative/Graphical Disclosure: Companies are required to use the information in the table to provide a clear analysis of the relationships between compensation actually paid to the (i) PEO and (ii) the average of the executive compensation actually paid to the company’s remaining NEOs against three measures of financial performance:
- the Company’s cumulative TSR,
- the net income of the company, and
- a measure chosen by the company and specific to the company (“Company Selected Measure”) that the company has determined is the “most important financial performance measure” for comparing executive compensation actually paid to company performance.
Companies are also required to provide a clear description of the relationship between their TSR and the TSR of a peer group chosen by them, also over the five most recently completed fiscal years.
Is a specific format required?
No, companies are free to choose the format in which they provide the non-tabular disclosure, either graphical, narrative or a combination of both, as long as any combined description of multiple relationships are clearly detailed. Companies are given flexibility in deciding where in the proxy or information statement the required disclosure will be placed.
Can companies add additional, supplemental disclosure?
Companies are permitted to supplement the tabular disclosure, as long as the additional disclosure is noted as supplemental, is not misleading and is not given greater prominence than the required disclosure.
What are the requirements for Smaller Reporting Companies?
Smaller Reporting Companies are subject to scaled disclosure requirements, as follows:
- three years of pay versus performance disclosure instead of five years;
- transition rules allow disclosure for the previous two years instead of three in the first filing after the rule becomes effective;
- no requirement to disclose amounts related to pensions for purposes of disclosing executive compensation actually paid;
- no requirement to provide disclosure in XBRL format until the third filing in which it provides pay-versus-performance disclosure; and
- no requirement to present peer group TSR or a Company-Selected Measure in the pay versus performance table.
What are the transition rules for non-SRCs?
The new disclosure requirement will be effective on October 11, 2022 (30 days after the final rules were published in the Federal Register). Under the transition rules, companies are permitted to provide disclosure for three years instead of five in the first proxy or information statement in which the disclosure is provided, adding one additional year in each of the following two years. It is important to note that disclosure is only required for fiscal years in which the company was a reporting company.
What should companies do now?
Companies with calendar year fiscal years are required to comply with this requirement in their 2023 proxy or information statement. As the disclosure is required for the three most recent fiscal years (for companies that are not SRCs), significant time may be incurred in complying with this rule, we advise beginning to compile this data now to ensure timely compliance.