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February 1, 2010

Executive Compensation Trends in the Current Economic Climate

DolmatConnell & Partners of Boston conducted a survey in the fourth quarter of 2009 to complement the Company’s Spring 2009 survey on changes in executive compensation practices and structure in response to the economic downturn. This release highlights the trends and issues facing Compensation Committees and executive teams as they respond to the continually challenging economic climate.

Base Salaries

• 73% of respondents plan to increase base salaries for 2010, up significantly from the 16% in the spring survey, and 52% of respondents plan to increase base salaries by between 2.0% and 4.0%.
• Larger companies are more likely to be increasing base salaries in 2010 than their smaller counterparts. 95% of firms over $1B in revenue are planning to increase base salaries, while only 63% of firms under $1B in revenue plan to increase base salaries.

Short–Term Incentives / Bonus Plans

• While a majority of responding companies anticipate paying out bonuses for fiscal 2009, the majority of those making payments expect to do so below target. Only 15% of respondents reported expectations of paying bonuses above target, while 18% of firms expect no bonus payout at all given continued financial troubles. Unlike projected base salary increases, projected bonus payout ranges do not correlate with company size, and small and large firms alike reported payments across the scale.
• 45% of respondents do not anticipate any adjustments to their short–term incentive plans, similar with findings in the spring survey. The two most commonly reported adjustments were placing an increased emphasis on financial performance and allowing for Board discretion of short–term incentive payouts. A large number of firms additionally noted expanding the performance range given financial instability and difficulty in predicting accurate metrics.

Long–Term Incentives

• 23% of respondents indicated that they plan on modifying their equity instrument mix in 2010, as compared to 44% of in the spring survey, indicating that the pace of change in LTI plan design may be beginning to slow as companies are now fine–tuning their plans and the market has somewhat recovered.
• Though not a sea change in equity instrument usage, the most notable trend in instrument mix change was the decline in the number of companies using only stock options. While in 2009, 24% of survey respondents granted only stock options, companies indicate that in 2010 only 15% plan on granting stock options alone, as many companies seek to balance the upside leverage of options with the retention of full–value awards.
• As shown in the chart below, survey respondents are slightly decreasing the use of stock options, and placing more of a focus on other equity instruments, including time–based restricted shares / units, and performance–based equity. Likely in response to significant share pool constraints, 26% of participants also reported granting long–term cash awards in 2010, a substantial increase over the 18% of firms granting long–term cash awards in 2009.

• While approximately 75% of respondents provide annual equity awards to C–suite officers and SVP / VP level executives, participation begins to fall off below that point as many companies face equity and budgetary constraints. 61% of respondents grant equity to the director level, while this decreases to only 48% at the manager level, and approximately a third provide grants to individual contributor level employees. This follows a trend seen in recent years of companies reserving equity for upper–level management and executives as equity pools shrink due to increased pressure caused by FAS 123(R) and from scrutiny on burn rates from shareholder watchdogs such as RiskMetrics Group.

Emerging Governance Best–Practices

• 42% of respondents indicated that their firms have an incentive or severance clawback policy, increasing dramatically from our Spring 2009 survey, which indicated only 16% of those surveyed had clawback policies. In addition, 29% of companies are considering implementing an incentive or clawback policy, indicating that the increasing prevalence of clawback policies is likely to continue in 2010.
• While a majority of companies surveyed do not mandate a stock ownership policy, 43% of companies have executive stock ownership programs, while 36% mandate Board of Director’s stock ownership. While the most prevalent ownership policy is stock ownership guidelines, several companies have enhanced their ownership guidelines with holding requirements.
• Augmenting ownership guidelines with holding requirements is gaining prevalence in the broader market, as holding requirements ensure executives with longer tenure do not begin selling once they have reached the ownership guideline threshold.

• We anticipate that the number of firms implementing ownership policies will continue to increase; however, given current markets, many companies are rethinking how to set requirements, as a dollar?based approach (i.e. 3x base salary for CEO) may no longer be reasonable given low stock prices.

• While risk has become a major focal point for the government, regulators, and shareholder advocates, only 35% of survey respondents assert that risk has become a factor in designing compensation plans. When segmented by the size of respondents, it is interesting to note that while the vast majority of companies greater than $3B in revenues are factoring risk into plan design, the next most concerned group is those companies with revenues less than $50M.

• Furthermore, 30% of companies surveyed have addressed risk in compensation plans by conducting Compensation Committee risk assessments. Risk assessments are certainly the most popular way to tackle the risk issue; however, a small percentage of companies (<10%) are also addressing risk through a risk committee, including risk as a metric in the annual bonus plan, and utilizing excessive–risk triggered clawbacks.
• Continuing the governance discussion, it is highly anticipated that Say–on–Pay will be legislated in the near future. While this cloud is hanging over the head of those planning the executive compensation disclosure in their annual proxy statements, no companies surveyed plan on willingly adopting Say–on–Pay at this time, and only 39% are even considering doing so.

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DolmatConnell & Partners is a privately held compensation consulting firm dedicated to providing independent, insightful, and innovative advice in all areas of executive compensation and Board of Directors remuneration.

At a time of unprecedented scrutiny of executive compensation programs, DolmatConnell & Partners delivers the independent advice required in today’s demanding governance environment. Our consultants draw on their significant consulting and corporate experience to provide insightful advice to a wide range of clients, including venture–backed startups and Fortune 500 companies.

If you would like to discuss this survey and how it relates to your firm, please contact Jack Dolmat–Connell at dcinfo@dolmatconnell.com or (781) 392–3600.

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Goodwin Proctor LLP

Public Company Advisory, December 21, 2009

SEC Adopts Final Rules Requiring Additional Proxy Statement Disclosures and Earlier Disclosure of Voting Results from Stockholder Meetings

On December 16, 2009, the Securities and Exchange Commission (“SEC”) adopted rules requiring companies to make additional disclosures in proxy statements about (i) their board of directors and executive officers, including director and director nominee qualifications, legal actions involving directors, director nominees or executive officers, board leadership structure and risk oversight; (ii) compensation policies and practices that relate to risk management practices and risk-taking incentives; and (iii) potential conflicts of interest of compensation consultants that advise companies and their boards of directors. In addition, the new rules change how companies must report awards of stock and options in the Summary Compensation Table and Director Compensation Table and when companies must report voting results from stockholder meetings.

The rules are effective for filings made on or after February 28, 2010. The text of the SEC release is available on the SEC’s website here. The additional disclosures will be required in companies’ proxy statements and certain other filings for which disclosure regarding corporate governance, directors and executive officers and compensation is required, which may include Form 10-K annual reports and registration statements under the Securities Exchange Act of 1934 and registration statements under the Securities Act of 1933 and Investment Company Act of 1940.

Board of Directors and Executive Officers

The rules require companies to make additional disclosures about their board of directors and executive officers, including:

• Director Qualifications. For each director and director nominee, a discussion of the specific experience, qualifications, attributes and skills that led to the board’s conclusion that the person should serve as a director in light of the company’s business and structure. If material, this disclosure is required to cover more than the past five years, including information about the person’s particular areas of expertise or other relevant qualifications.
• “Bad Boy” Disclosures. An expanded list of legal proceedings involving a director, director nominee or executive officer that must be disclosed, which includes (i) orders, judgments, decrees or findings relating to alleged violations of securities or commodities laws, laws respecting financial institutions or insurance companies or laws prohibiting fraud and (ii) sanctions or orders of any self-regulatory organization, such as the stock exchanges, or other similar organizations. In addition, the look-back period for disclosing these legal proceedings, as well as the other “bad boy” legal proceedings previously required to be disclosed, has been increased from five years to 10 years.
• Other Directorships. Any other public company or registered investment company directorships held by directors and director nominees during the past five years, as opposed to just current directorships, which are required to be disclosed by existing rules.
• Leadership Structure. The leadership structure of the board of directors, including whether the same person serves as both chief executive officer and chairman of the board and, if so, whether the company has a lead independent director and the specific role the lead independent director plays in the leadership of the board. The disclosure must indicate why the company has determined that its leadership structure is appropriate given the specific characteristics or circumstances of the company.
• Risk Oversight. The board’s role in the oversight of risk, such as how the board administers its oversight function, and the effect that this has on the board’s leadership structure.
• Diversity. Whether, and if so how, the nominating committee or the board considers diversity in identifying nominees for director. If the nominating committee or the board has a policy with regard to the consideration of diversity in identifying director nominees, the company must describe how this policy is implemented as well as how it assesses the effectiveness of its policy.

Action Items:

• • Update directors’ biographical information to include the expanded discussion required by the new rules regarding each director’s specific experience, qualifications, attributes and skills that led to the board’s conclusion that the person should serve as a director in light of the company’s business and structure and any other additional disclosure required by the new rules. Circulate the updated disclosure concerning directors’ and nominees’ experience, qualifications, attributes and skills for internal review.
  • Update director and officer questionnaires to gather additional information about director and nominee qualifications, legal actions and other public company or registered investment company directorships. Our 2009 Year-End Toolkit will contain questionnaires that have been updated to gather this additional information.
  • Consider whether any changes to the board leadership structure, such as the appointment of an independent chairman or lead independent director, are desired in light of the new disclosure requirements. Update the description of the board’s leadership and risk oversight and related matters and circulate for internal review.
  • Consider adopting a formal policy addressing the consideration of diversity in identifying director nominees. Note that the new rules do not define diversity, citing a wide range of factors that companies may wish to consider, including differences in viewpoint, professional experience, education, skill, race, gender and national origin.

Compensation Policies and Practices Relating to Risk Management

Under the new rules, if risks arising from a company’s compensation policies and practices for its employees are reasonably likely to have a material adverse effect on the company, then the company is required to include a discussion of these compensation policies and practices as they relate to risk management practices and risk-taking incentives. The SEC has indicated that situations that may trigger disclosure include, among others, compensation policies and practices:

• At a business unit that carries a significant portion of the company’s risk profile;
• At a business unit with compensation structured significantly differently than other units within the company;
• At a business unit that is significantly more profitable than others within the company;
• At a business unit where the compensation expense is a significant percentage of the unit’s revenues; and
• That vary significantly from the overall risk and reward structure of the company, such as when bonuses are awarded upon accomplishment of a task, while the income and risk to the company from the task extend over a significantly longer period of time.

If a company determines that disclosure is required, the SEC has provided the following examples of issues that the company may need to address for the business units or employees:

• General design philosophy of compensation policies and practices for employees whose behavior is most affected by the incentives established by the policies and practices, and the manner of their implementation;
• Risk assessment or incentive considerations, if any, in structuring compensation policies and practices or in awarding and paying compensation;
• How compensation policies and practices relate to the realization of risks resulting from the actions of employees in both the short term and the long term, including policies requiring claw backs or imposing holding periods;
• Policies regarding adjustments to compensation policies and practices to address changes in risk profile, and material adjustments made as a result of any such changes; and
• Monitoring of compensation policies and practices to determine whether its risk management objectives are being met with respect to incentivizing its employees.

Important note:  smaller reporting companies will not be subject to these new rules.

Action Items:

• • Evaluate compensation policies and practices at all levels within the company to determine whether there are risks arising from these compensation policies and practices that are reasonably likely to have a material adverse effect on the company. Companies should specifically consider different compensation policies and practices that apply to different groups of employees. To the extent that all employees are subject to substantially similar policies and practices, this discussion may be consolidated. To the extent that companies have significantly different compensation structures for certain groups of employees, such as compensation that is heavily weighted towards transaction-based incentives, a separate discussion of such compensation structures may be required. Each public company will have a different risk profile, and as a result there is no “one-size-fits all” approach. Both quantitative and qualitative analysis of compensation policies and procedures may, and likely will, be appropriate.

Potential Conflicts of Interest of Compensation Consultants

The rules also require disclosure of the fees paid to compensation consultants in the following circumstances:

• Compensation Consultant Engaged by Compensation Committee. If a compensation consultant is engaged by the compensation committee to provide advice or recommendations on the amount or form of executive and director compensation and the compensation consultant or its affiliates also provided additional services to the company or its affiliates in an amount in excess of $120,000 during the company’s last fiscal year, then the company must disclose (i) the aggregate fees for determining or recommending the amount or form of executive and director compensation and (ii) the aggregate fees for such additional services. In addition, the company must disclose whether the decision to engage the consultant for the other services was made or recommended by management and whether the compensation committee or the board approved such other services.
• Compensation Consultant Engaged by Management. If the compensation committee has not engaged a compensation consultant, but management has engaged a compensation consultant to provide advice or recommendations on the amount or form of executive and director compensation and the compensation consultant or its affiliates also provided additional services to the company in an amount in excess of $120,000 during the company’s last fiscal year, then the company must disclose (i) the aggregate fees for determining or recommending the amount or form of executive and director compensation and (ii) the aggregate fees for such additional services. Note:  For companies where the compensation committee and management have separate compensation consultants, no disclosure requirement is triggered for services provided by management’s compensation consultant, regardless of whether those services relate to executive or director compensation or other matters.

Action Items:

• • Review the use of compensation consultants by the compensation committee and/or management of the company, and determine whether any disclosure will be required.
  • Consider using separate consultants for executive and director compensation and for all other matters.

Summary Compensation Table and Director Compensation Table Changes

Under the new rules, in the Summary Compensation Table and Director Compensation Table, companies must disclose the aggregate grant date fair value of stock and option awards in the year in which the grant was made. Previously, companies were required to report the amount recognized during the year for accounting purposes for all stock and option awards, regardless of when they were granted. This will be a significant change in how total compensation will be calculated for directors and named executive officers. For example, if a company granted one of its named executive officers an equity award on December 31, 2009 with a grant date fair value of $500,000 that vested over five years, under the new rules, the company would be required to report the entire $500,000 as 2009 compensation. Under the old rules, the grant date fair value would have been incorporated into the executive’s compensation over five years (approximately $100,000 per year).

For equity awards that are subject to performance conditions, the value that is to be reported is to be based on the probable outcome of such conditions, which should be consistent with the estimate of the aggregate compensation cost to be recognized under applicable accounting rules, excluding the effect of estimated forfeitures. However, companies must also disclose in footnotes to the tables the value of the award at the grant date assuming that the highest level of performance conditions will be achieved.

In adopting the new rule, the SEC specifically considered whether the grant date fair value for stock and option awards should be included for the year in which the grant occurred for accounting purposes or the year to which the grant related. The SEC concluded that the amount should be included for the year in which the grant date occurred, stating that “because it appears that multiple subjective factors, which could vary significantly from company to company, influence equity awards granted after fiscal year end, we are concerned that changing the approach to reporting [away from the requirement to report awards in the year granted] could result in inconsistencies that would erode comparability.”

This rule change is also significant because it influences the total compensation number that is used to determine which executive officers are “named executive officers” whose compensation information must be disclosed in the proxy statement. Under SEC rules, “named executive officers” generally includes the CEO and CFO as well as the three other most highly compensated executive officers based on their total compensation as reported in the Summary Compensation Table. As a result, if an executive officer who would not ordinarily be a named executive officer receives a large one-time grant in a particular year, that executive officer could become a named executive officer for that year. In the adopting release, the SEC specifically acknowledged this consequence and indicated that in such situations the company can consider including compensation disclosure for the executive officer who ordinarily would have been a named executive officer to supplement the required disclosures.

Under the new rules, data for prior years, if included in the table, must be recalculated in accordance with the new rules.

Action Items:

• • Assess how this change will impact the identity of the company’s “named executive officers,” and consider whether it will be appropriate to include supplemental compensation disclosure for executives who, but for large grants of stock, would be “named executive officers.”
  • Consider how this change will impact the company’s reported total compensation for its named executive officers and directors, in particular in connection with the reporting year for year-end grants which may be made just prior to the end of the current year or in the beginning of the new year.

Early Disclosure of Stockholder Votes on Form 8-K

The rules create a new Item 5.07 of Form 8-K pursuant to which companies are required to disclose the results of stockholder votes within four business days of a stockholder meeting or written consent in lieu of a stockholder meeting. In the event that final voting results are not available, companies must file preliminary voting results within four business days of the vote, and file the final voting results within four business days after they become available. This item replaces the previous Form 10-Q and Form 10?K requirement to report these voting results for stockholder meetings or consents that occurred during the quarterly period to which the report related (or the fourth quarter for Form 10?Ks).

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RiskMetrics

December 10, 2009

Proxy Disclosure Rules on the SEC’s Agenda
Submitted by: Ted Allen, Publications

The Securities and Exchange Commission has scheduled a Dec. 16 open meeting where it will consider whether to finalize a new set of proxy disclosure rules.

The final regulations have not been released, but the rules have not generated significant controversy since the five-member commission unanimously voted in July to propose them. The SEC has not disclosed the effective date for these requirements, but agency officials have said they hope to approve the rules in time for the 2010 proxy season. The proposed rules include the following:
* The relationship of a company’s overall compensation policies to risk. SEC officials said companies would only be required to address “material” risks.

* The qualifications of director nominees and how their skills would help them to serve on the board and perform their specific committee assignments. In addition, companies would have to provide details on outside directorships held during the past five years, instead of only current board memberships. SEC staffers have said that issuers should welcome a chance to expound on the qualifications of their nominees.

* Board leadership structure. Companies would have to explain why they decided to appoint a non-executive chairman or chose to combine the roles of board chair and CEO.

* Potential conflicts of interests of compensation consultants. Companies would have to provide details on other services performed by pay advisers and the fees paid for that work.

The proposals also included a revised proxy solicitation rule to allow short-slate dissident groups to round out their slates with candidates from other dissident groups. Under current rules, dissidents may only supplement short slates with management nominees.

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Wachtell, Lipton, Rosen & Katz

November 12, 2009

A Principles-Based Model for Regulating Compensation

The Swiss Financial Market Supervisory Authority (FINMA) recently issued regulations addressing executive compensation at Swiss financial institutions. Notably, the regulations provide significant guidance on appropriate compensation incentives and structures, but emphatically decline to regulate pay directly.

The FINMA regulations will apply on a mandatory basis to the largest Swiss banks and insurance companies and will serve as a guideline for all other firms that FINMA supervises. Most significantly, the regulations require (1) alignment of compensation structures with risk management and promotion of long-term sustainable business objectives, (2) imposition of stock holding periods and compensation deferral arrangements under certain circumstances, (3) integration of compensation decisions with capital and liquidity planning, (4) company-established limits on sign-on bonuses and severance payments that a company may exceed only by obtaining approval from the board of directors, and (5) increased disclosure and transparency, including a comprehensive annual remuneration report from the board of directors.

FINMA rejected calls for a total ban on variable compensation, and the regulations avoid provisions that would directly regulate pay levels or that would mandate or prohibit particular compensation design structures. FINMA notes that it does not regard “a total ban or severe restrictions on variable pay” as a “useful approach” and that direct restrictions on compensation do not represent a “sensible option.” Rejecting a one-size-fits-all framework, FINMA further notes the impracticality of determining a “single appropriate arrangement” for all regulated firms within the Swiss financial sector.

FINMA’s new rules represent a sound approach from a regulator in a jurisdiction that houses a significant number of global financial institutions. The regulations establish core principles designed to ensure that compensation does not create incentives to take inappropriate risks, and impose on boards key oversight and disclosure responsibilities. At the same time, the rules recognize that long-term economic growth requires that individual institutions have the flexibility to implement programs specific to their needs and the ability to attract and retain management talent. A universal principles-based approach would place all financial institutions on a level playing field.

Adam J. Shapiro

David E. Kahan

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RiskMetrics November 4, 2009

House Panel Approves Proxy Access Provision
Submitted by Ted Allen, Publications/Governance Institute

The U.S. House Financial Services Committee voted 41-28 today to approve a wide-ranging investor protection bill that affirms the authority of the Securities and Exchange Commission to issue a rule on proxy access.

The legislation, the “Investor Protection Act of 2009,” also would double the SEC’s budget over five years, authorize the commission to bar mandatory arbitration clauses in investor contracts, require all financial intermediaries to have a fiduciary duty to their investor clients, expand whistleblower bounties, and address some of the enforcement failures and regulatory loopholes illustrated by the Madoff scandal.

However, the bill also includes an amendment that would permanently exempt companies with less than $75 million in market capitalization from the auditor attestation requirements of Section 404 (b) of the Sarbanes-Oxley Act of 2002. That amendment, which was sponsored by Reps. Scott Garrett and John Adler of New Jersey, was narrowly approved by a 37-32 vote, with nine Democrats joining panel Republicans in support. That measure, which was opposed by SEC chair Mary Schapiro and investor advocates, also directs the SEC and the Comptroller General to study how to reduce compliance burdens for companies with less than $250 million in market capitalization.

Supporters of the Garrett-Adler amendment said the measure was backed by the Treasury Department and White House officials. The SEC previously extended the Section 404(b) compliance deadline for small issuers until 2010, while looking into ways to lessen compliance burdens. Rep. Adler argued that Sarbanes-Oxley’s higher-than-expected compliance costs had dissuaded some companies from going public and prompted others to list their shares overseas. He and Garrett said the amendment would help preserve jobs while maintaining the status quo.

Rep. Paul Kanjorski, a Democrat from Pennsylvania, opposed the permanent exemption, noting that 43 percent of restatements occur at firms with less than $75 million in market capitalization. “This is exactly the wrong time to lessen reporting and the information that investors can get,” he warned.

The proxy access amendment, which was offered Rep. Maxine Waters of California and Rep. Gary Peters of Minnesota, was approved by a 39-30 vote, with 28 Republicans and two Democrats opposing the measure. The amendment, which doesn’t set any specific ownership standards for access, was offered to provide legal support to the SEC in the event that the U.S. Chamber of Commerce or other corporate groups file a lawsuit to block the rule. Corporate advocates and some governance observers have warned that the SEC doesn’t have the authority currently to set minimum federal standards for permitting shareholders to nominate directors to appear on management proxy statements. Schapiro and other SEC officials have said they hope to approve a final access rule in early 2010.

The California Public Employees’ Retirement System, the nation’s largest public pension fund, hailed the approval of the proxy access amendment. “This legislative effort strongly led by Rep. Maxine Waters supports the single most powerful thing we can do to improve corporate governance in America’s boardrooms by giving shareowners a way to hold directors more accountable,” Rob Feckner, CalPERS’ board president, said in a press release.

The House committee also voted 41-27 to reject an amendment by Rep. Christopher Lee of New York that would have prohibited certain contingency fee arrangements for lawyers suing broker-dealers and investment advisers under contracts that predate the legislation.

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Recent Executive Summaries of legislation impacting Boards of Directors.  Latest Major Action may not be current.

H.R.3269
Title: To amend the Securities Exchange Act of 1934 to provide shareholders with an advisory vote on executive compensation and to prevent perverse incentives in the compensation practices of financial institutions.
Sponsor: Rep Frank, Barney [MA-4] (introduced 7/21/2009)      Cosponsors (11)
Related Bills: H.RES.697
Latest Major Action: 8/3/2009 Referred to Senate committee. Status: Received in the Senate and Read twice and referred to the Committee on Banking, Housing, and Urban Affairs.
House Reports: 111-236

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SUMMARY AS OF:
7/31/2009–Passed House amended.    (There are 2 other summaries)

Corporate and Financial Institution Compensation Fairness Act of 2009 – (Sec. 2) Amends the Securities Exchange Act of 1934 to require that any proxy or consent or authorization for an annual shareholders meeting provide for a separate shareholder vote to approve executive compensation for named executive officers as disclosed pursuant to rules of the Securities and Exchange Commission (SEC).

States that the shareholder vote shall not be: (1) binding on the corporation or the board of directors; (2) construed as overruling a board decision, or as creating or implying any additional fiduciary duty by the board; or (3) construed as restricting or limiting shareholder ability to place executive compensation proposals within proxy materials.

Requires solicitations that seek shareholder approval of an acquisition, merger, consolidation, or proposed sale or other disposition of assets to disclose clearly and simply in the proxy or consent solicitation material any agreements or understandings with named executive officers of the disposing or the acquiring issuer concerning (golden parachute) compensation (present, deferred, or contingent) that is based upon or relates to such asset disposition, including the aggregate total compensation to or on behalf of such executive officer.

Requires separate shareholder approval of such golden parachute agreements or understandings and compensation, as disclosed, unless already subject to a shareholder vote at an annual shareholders meeting. States that a separate shareholder vote on golden parachute compensation shall not be: (1) binding on the issuer or its board of directors or the person making the solicitation; or (2) construed as overruling a decision by such person or issuer, or as creating or implying any additional fiduciary duty by any such person or issuer.

Requires certain institutional investment managers to report annually how they voted on any shareholder vote.

Authorizes the SEC, after taking into account the potential impact on smaller reporting issuers, to exempt certain categories of issuers from the requirements of this Act.

(Sec. 3) Directs the SEC to direct the national securities exchanges and national securities associations to prohibit the listing of any class of equity security of an issuer that does not comply with specified requirements for compensation committees (or equivalent bodies) established by and amongst an issuer’s board of directors for the purpose of determining and approving the compensation arrangements for the issuer’s executive officers.

Requires each member of the compensation committee of the issuer’s board of directors to be independent. Prohibits any compensation committee member from accepting any consulting, advisory, or other compensatory fee from the issuer. Allows for SEC exemptions from such requirements for particular relationships.

Requires a compensation consultant, legal counsel, or other adviser to an issuer’s compensation committee to meet SEC independence standards.

Grants the compensation committee of each issuer discretionary authority to retain and obtain the advice of a compensation consultant meeting SEC independence standards. Requires any proxy or consent solicitation material for an annual shareholder meeting to disclose whether the issuer’s compensation committee retained and obtained the advice of an independent compensation consultant.

Authorizes a compensation committee to retain and obtain the advice of independent counsel and other independent advisers.

Directs the SEC to study and report to Congress on the use of independent compensation consultants.

(Sec. 4) Directs federal regulators to prescribe jointly regulations requiring each covered financial institution to disclose the structures of all incentive-based compensation arrangements sufficient to determine whether the compensation structure: (1) is aligned with sound risk management; (2) is structured to account for the time horizon of risks; and (3) meets other criteria appropriate to reduce unreasonable incentives offered by such institutions for employees to take undue risks.

Requires such regulators to prescribe jointly regulations that prohibit any compensation structure or incentive-based payment arrangement that encourages inappropriate risks by financial institutions that could: (1) threaten the safety and soundness of covered financial institutions; or (2) present serious adverse effects upon economic conditions or financial stability.

Exempts covered financial institutions with assets of less than $1 billion from these compensation arrangement disclosure requirements.

Prohibits any such regulation from requiring the recovery (clawback) of incentive-based compensation under compensation arrangements in effect on the date of enactment of this Act if such an agreement is for a period of no more than 24 months. Declares that this Act shall neither prevent nor limit the recovery of incentive-based compensation under any other applicable law.

Directs the Comptroller General to study and report to Congress on whether there is a correlation between compensation structures and excessive risk taking. Requires the study, in determining whether a company failed, or nearly failed but for government assistance, to focus on: (1) companies that received exceptional assistance under the Troubled Asset Relief Program (TARP) under the Emergency Economic Stabilization Act of 2009 (EESA) or other forms of significant government assistance, including under the Automotive Industry Financing Program, the Targeted Investment Program, the Asset Guarantee Program, and the Systemically Significant Failing Institutions Program; (2) the Federal National Mortgage Association (Fannie Mae); (3) the Federal Home Loan Mortgage Corporation (Freddie Mac); and (4) companies that participated in the SEC’s Consolidated Supervised Entities Program as of January 2008.

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H.R.2861
Title: To amend the Securities Exchange Act of 1934 to provide for rules and standards relating to the election of boards of directors and certain requirements relating to compensation of executives.
Sponsor: Rep Peters, Gary C. [MI-9] (introduced 6/12/2009)      Cosponsors (11)
Latest Major Action: 6/12/2009 Referred to House committee. Status: Referred to the House Committee on Financial Services.

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SUMMARY AS OF:
6/12/2009–Introduced.

Shareholder Empowerment Act of 2009 – Amends the Securities Exchange Act of 1934 to direct the Securities and Exchange Commission (SEC) to prohibit national securities exchanges and associations from listing the securities of any issuer unless, to the extent permitted by state law, such issuer requires: (1) the election of directors who receive the majority of votes in uncontested elections or a plurality of votes in contested elections; and (2) directors who are not reelected to offer to tender their resignations.

Directs the SEC to: (1) require issuers to identify and provide security holders with an opportunity to vote on director candidates who have been nominated by holders of at least 1% of the issuer’s voting securities for at least two years, provided security holders have nominated fewer than a majority of the directors then authorized to serve; (2) prohibit brokers from voting securities on an uncontested election to the board of directors without having received specific instructions from the securities’ beneficial owners; and (3) requires listed issuers, to the extent possible, to have an independent chairman of their board of directors who has not served as an executive of the issuer.

Requires any proxy or consent or authorization for an annual or other meeting of a securities issuer to permit a separate shareholder vote on executive compensation, though such vote shall not be binding on its board of directors.

Directs the SEC to direct the national securities exchanges and national securities associations to prohibit: (1) issuers from retaining advisors in negotiating executive employment or compensation agreements that are not independent or are protected from liability by such issuers; (2) the listing of issuers that do not have a (clawback) policy of recovering executive payments that were unearned due to fraud, faulty financial statements, or some other cause; and (3) the listing of issuers that provide severance payments to senior executives who are terminated for poor performance.

Directs the SEC to require additional disclosure of specific performance targets issuers use in determining a senior executive’s eligibility for bonuses, equity, and incentive compensation.

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S.1074
Title: A bill to provide shareholders with enhanced authority over the nomination, election, and compensation of public company executives.
Sponsor: Sen Schumer, Charles E. [NY] (introduced 5/19/2009)      Cosponsors (1)
Latest Major Action: 5/19/2009 Referred to Senate committee. Status: Read twice and referred to the Committee on Banking, Housing, and Urban Affairs.

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SUMMARY AS OF:
5/19/2009–Introduced.

Shareholder Bill of Rights Act of 2009 – Amends the Securities Exchange Act of 1934 to require any proxy or consent or authorization for an annual or other meeting for which the proxy solicitation rules of the Securities Exchange Commission (SEC) require shareholder compensation disclosure to include a separate resolution subject to shareholder vote to approve the compensation of executives.

Requires any person making a proxy solicitation concerning an acquisition, merger, consolidation, or proposed sale or other disposition of substantially all of the assets of an issuer (transaction) to disclose in the proxy solicitation material, in a clear and simple form, any agreements or understandings of that person with any of the issuer’s principal executive officers concerning any type of (golden parachute) compensation based on or otherwise related to the transaction that have not been subject to a shareholder vote.

Requires the proxy solicitation material for a golden parachute to require a separate shareholder vote to approve it.

Directs the SEC to establish rules for the use by shareholders of issuer proxy solicitation materials for the purpose of nominating individuals to membership on the issuer’s board of directors. Prohibits such rules from providing for such use, however, unless the shareholder, or a group of shareholders acting by agreement, has beneficially owned, directly or indirectly, an aggregate of at least 1% of the issuer’s voting securities for at least the two-year period preceding the date of the issuer’s next scheduled annual meeting.

Requires the SEC to direct the national securities exchanges and national securities associations to prohibit the listing of any security of an issuer that is not in compliance with any specified requirements pertaining to director independence, mandatory annual elections, SEC rules on elections, and mandatory establishment of a risk committee to establish and evaluate the issuer’s risk management practices.

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RiskMetrics Group U.S. Policy – Repricing of Stock Options

Option Exchange Programs/Repricing Options:

Vote CASE-by-CASE on management proposals seeking approval to exchange/reprice options taking into consideration:

• Historic trading patterns–the stock price should not be so volatile that the options are likely to be back “in-the-money” over the near term;
• Rationale for the re-pricing–was the stock price decline beyond management’s control*
• Is this a value-for-value exchange*
• Are surrendered stock options added back to the plan reserve*
• Option vesting–does the new option vest immediately or is there a black-out period*
• Term of the option–the term should remain the same as that of the replaced option
• Exercise price–should be set at fair market or a premium to market
• Participants–executive officers and directors should be excluded.

If the surrendered options are added back to the equity plans for re-issuance, then also take into consideration the company’s three-year average burn rate. In addition to the above considerations, evaluate the intent, rationale, and timing of the repricing proposal. The proposal should clearly articulate why the board is choosing to conduct an exchange program at this point in time. Repricing underwater options after a recent precipitous drop in the company’s stock price demonstrates poor timing. Repricing after a recent decline in stock price triggers additional scrutiny and a potential AGAINST vote on the proposal. At a minimum, the decline should not have happened within the past year. Also, consider the terms of the surrendered options, such as the grant date, exercise price and vesting schedule. Grant dates of surrendered options should be far enough back (two to three years) so as not to suggest that repricings are being done to take advantage of short-term downward price movements. Similarly, the exercise price of surrendered options should be above the 52-week high for the stock price.

Vote FOR shareholder proposals to put option repricings to a shareholder vote.

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RiskMetrics

Monday, September 21, 2009

“Microsoft Agrees to Hold a Triennial Pay Vote”
Submitted by: Ted Allen, Publications

Microsoft has become the first U.S. company to agree to hold a triennial advisory vote on executive compensation. The software giant’s example, if followed by other issuers, could put significant pressure on U.S. lawmakers to allow firms to hold triennial rather than annual “say on pay” votes.

In a Sept. 18 blog posting, Brad Smith, Microsoft’s general counsel, and deputy general counsel John Seethoff said the company’s board decided to conduct a triennial vote at the next annual meeting on Nov. 19 after receiving a triennial vote proposal from the United Brotherhood of Carpenters and a request for an annual advisory vote from Walden Asset Management and the Calvert Group.

The company lawyers said the board considered the merits of both resolutions and concluded that a triennial pay vote was preferable. Among the reasons cited by the Redmond, Washington-based company were:

• Our compensation program is designed to induce and reward performance over a multi-year period. Say-on-Pay votes should occur over a similar timeframe.
• A three-year cycle will provide investors sufficient time to evaluate the effectiveness of our short- and long-term compensation strategies and related business outcomes.
• Most compensation programs can’t be changed overnight. Triennial votes give the Board and the Compensation Committee sufficient time to thoughtfully respond to shareholders’ sentiments and implement any necessary policy changes.
• Pre-existing Board requirements to seek shareholder approval of employee stock plans and other compensation-related matters give our shareholders an opportunity to provide feedback even in years when Say-on-Pay votes do not occur.

In late July, the Democratic-controlled House of Representatives approved legislation to require U.S. issuers to hold annual pay votes, although some Republicans argued that triennial votes would be less burdensome on issuers. The Senate likely will consider the issue, along with other governance reforms, in the coming months. The Carpenters union, which had filed more than 20 triennial proposals, has withdrawn the resolutions and plans to focus on lobbying lawmakers.

Two dozen U.S. companies, including Intel and Occidental Petroleum, have agreed to hold annual votes on compensation, according to RiskMetrics Group data.

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KPMG LLP

M&A Spotlight, August 19, 2009

“Global Acquirers Should Include FCPA Due Diligence to Limit Liability”

A challenging deal environment and a rigorous regulatory enforcement environment are increasing the importance of due diligence. Acquirers involved in cross-border deals need to pay particular attention to the Foreign Corrupt Practices Act (FCPA) to limit their potential liability. The FCPA, in essence, prohibits U.S. companies and issuers from bribing foreign entities or officials in order to obtain business. U.S. regulatory agencies have stepped up their already aggressive enforcement efforts in prosecuting companies for alleged violations of the statute. For example, this year, a leading global engineering, construction, and services company agreed to pay a record fine of $579 million in a case involving the bribery of Nigerian officials. Another global engineering company in December 2008 pled guilty to FCPA violations involving kickbacks to Iraqi officials and paid $450 million in criminal fines and $350 million in civil penalties. And in July, a U.S. executive was convicted of FCPA charges arising out of inadequate due diligence concerning an investment involving the privatization of the State Oil Company of the Azerbaijan Republic. There were at least 120 companies at the end of May 2009 under investigation by the Department of Justice, up from 100 at the end of last year, according to the Wall Street Journal.

There currently is at least one high-profile investigation with mergers and acquisition (M&A) implications. A large public information technology company, which may be acquired by a competitor, stated in its recent 10-Q that “[d]uring fiscal year 2009, we identified activities in a certain foreign country that may have violated the Foreign Corrupt Practices Act.” It is not uncommon for FCPA issues to first come to light during the M&A due diligence process.

Discovering Problems

According to a recent KPMG LLP survey of over 100 U.S. executives operating abroad, 84 percent reported having implemented FCPA anti-corruption policies, while 75 percent reported having implemented whistleblower mechanisms; 67 percent stated that their companies provided FCPA-related communications and training programs to at least a segment of their employees. Only 36 percent, however, felt that their company’s level of FCPA due diligence in a merger, acquisition, or other transaction in the past five years was “adequate,” while 27 percent described FCPA due diligence efforts as “minimal.”

A recent criminal prosecution illustrates the cost of failing to undertake adequate pre-deal due diligence. In April, a recently acquired telecommunications company pled guilty to violating the FCPA’s anti-bribery provision. The acquiring company did not discover the violations until after the closing. The acquiring company self-reported the violation to the Department of Justice, paid a $2 million fine and fired the acquired company’s management team. The acquiring company also wrote off $20 million of its $26 million investment, as a direct result of the discovery of the FCPA violation, costs associated with the company’s resulting internal investigation and its cancellation of various contracts and business lines. Finally, the acquiring company agreed to conduct pre-deal due diligence on all future acquisitions. Clearly the acquiring company would have been in a far better position had it uncovered the FCPA violation prior to closing.

Adding to the due diligence challenges is the fact that there is not a great deal of legal precedent in this area. Therefore, new regulatory enforcement actions and legal settlements can alter established interpretations of the FCPA, thereby requiring companies to continuously recalculate FCPA-related risk assessments, especially in regard to due diligence and internal audit work plans.

Those involved in overseas acquisitions should always consider including FCPA issues during due diligence. These issues need to be uncovered early in the process because if a problem is found, resources need to be mobilized quickly to assess the impact of that problem on the overall acquisition and the acquirer needs to determine the steps that should be taken either before or immediately after an acquisition closes. It should be noted, however, that the discovery of FCPA violations does not have to be a deal breaker. A deal may be able to be completed if the improper business practices and the legal issues are promptly and appropriately addressed.

In addition to the risk of potentially large financial liabilities, companies associated with FCPA violations may also experience a loss of investor confidence, loss of revenue generated through improper or illegal conduct, and, in some instances, indictments or convictions that put the acquirer at risk of being barred from doing business with government agencies. “While purchasers may not be aware of all of the target’s inappropriate historical practices, they are nevertheless legally liable in most cases for those practices that continue after the transaction is closed,” according to KPMG’s Rocco deGrasse, a principal in the firm’s Forensic practice who performs FCPA-focused due diligence. “Federal regulators are less inclined to consider reducing penalties for an acquirer who fails to discover a target’s improper practices before the closing of an acquisition if the government believes that inadequate due diligence played a role in causing that oversight,” he says.

FCPA violations may also impact the target’s valuation, says KPMG’s Rob Coble, who has worked on numerous cross-border deals. If an acquirer discovers that the target has obtained business partially through payments of bribes, then the buyer needs to understand how the absence of bribe payments would affect future revenue.  Depending on the situation, the acquirer may decide to lower its purchase price or possibly walk away from the transaction.  The company may also want to request guidance from federal regulators through a formal process offered by the Department of Justice. The acquirer’s degree of leverage also is an important consideration in planning FCPA-related preacquisition due diligence, according to Coble. “It is much more challenging to perform FCPA-related due diligence in an auction context, as opposed to a deal environment in which the potential acquirer has an exclusive right to acquire for at least a set period of time,” he says.

Understanding the Risk Factors

FCPA-focused due diligence is most relevant in deals that share certain types of high-risk characteristics. The target’s geographic location and the nature of a target’s business operations are the two most significant factors to consider in undertaking an FCPA risk assessment. Organizations such as Transparency International rank countries based on corruption and propensity to demand bribes. According to a recent Transparency International report, the least corrupt countries were Denmark, New Zealand, and Sweden; the most corrupt countries included Somalia, Myanmar, Iraq, and Haiti.

The target’s industry and business operations is a significant consideration because the nature of those operations define the areas in which the target’s operations interact with foreign entities or foreign officials. Companies that provide goods and services to state-owned entities (SOEs) or government agencies create a different FCPA risk profile from targets that do not sell to SOEs but are heavily regulated by foreign governments. For example, industries with significant contacts to SOEs as both customers and regulators will merit even greater scrutiny, such as target associated with the oil and gas, pharmaceutical, and aerospace and defense industries, according to KPMG’s deGrasse. In short, any acquisition that may require some sort of governmental approval or involvement beyond something standard such as an antitrust evaluation may indicate a possible vulnerability.

“When reviewing financial records of targets that have added risk factors, acquirers should look for unexplained commissions, suspicious ‘charitable’ donations, and suspect invoices,” says KPMG’s Coble. Complicating the due diligence process, however, is the fact that the types of deals and jurisdictions that are most vulnerable to potential FCPA problems are also those that are likely to pose the most challenging due diligence environments. According to the KPMG study, 73 percent found that it was either “very” challenging or “somewhat” challenging to conduct FCPA due diligence during M&A activities.

Conclusion

Targets with business practices that may constitute FCPA infractions may create significant legal liabilities for an acquirer that can result in fines, penalties and termination of business lines that generate significant revenue. It is therefore crucial for acquirers, especially those involved with targets that have a relatively high FCPA risk profile to include a forensic FCPA component in the due diligence process. Early discovery will help an acquirer to determine if a deal should proceed and also provide it with the information needed to address the relevant legal and business issues if the deal does proceed.

(underlining by The Directors Letter)

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