by the Securities and Corporate Governance Team
Arnall Golden Gregory LLP

Board RoomThe Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Act”), widely considered to be one of the most comprehensive reforms of the U.S. financial industry in years, was signed into law on July 21.  While many provisions of the Act relate primarily to banks and the financial regulatory system, the new legislation will also have a significant impact on corporate governance and executive compensation practices for public companies in general.

These provisions of the Act are most likely to impact disclosure in the 2011 proxy season.

Say on Pay

Beginning with the 2011 proxy season, shareholders of public companies will be given the opportunity to cast an advisory vote, commonly referred to as a “Say on Pay,” as to whether they approve of their company’s executive compensation practices.  The Say on Pay vote, which will occur at least once every three years, does not allow shareholders to set limits on pay, but instead requires companies to include a resolution in its proxy statement asking shareholders to approve, in a non-binding vote, the compensation of the company’s named executive officers.  This means that current executive compensation decisions and practices that will be disclosed in the Compensation Discussion and Analysis within your next proxy statement will be the subject of the Say on Pay vote. 

In its 2011 proxy statement, companies will also be required to include a separate non-binding resolution asking shareholders to determine whether the Say on Pay vote will occur every one, two or three years.

Also, a similar non-binding vote with respect to golden parachutes, or certain payments executives are due to receive upon the termination of their employment following a change in control of the company, would be required in conjunction with any future mergers or similar events if the golden parachute arrangements were not previously subject to the Say on Pay vote.

Executive Compensation Disclosures

The Act provides that the SEC shall require disclosure in a company’s proxy statement of the relationship between executive compensation actually paid and the company’s financial performance, taking into account any change in the value of the company’s shares and dividends and any distributions.  This information may be disclosed by graphical representation.

Companies will also be required to disclose in their proxy statements (i) the median annual total compensation for all employees, not including the CEO, (ii) the CEO’s annual total compensation and (iii) the ratio of the median employee compensation to that of the CEO.

Disclosure regarding employee and director hedging

The Act provides that the SEC must enact rules to require proxy statement disclosure as to whether any employee or director, or his or her designee, is permitted to purchase financial instruments that are designed to hedge or offset any decrease in the market value of equity securities granted by the company as compensation to the employee or director or held, directly or indirectly, by the employee or director.

Clawback Provisions

The Act provides that national securities exchanges must require companies to develop and implement a “clawback” policy that requires that, in the event the company is required to restate its financials due to material non-compliance with any reporting requirements under the securities laws, the company will recover from any current or former executive officer who received incentive-based compensation (including stock options awarded as compensation) during the prior three-year period the excess amount that the executive would not have otherwise received except for the misstated financials.  In implementing these policies, companies may need to revise outstanding contracts and stock plans to add clawback provisions where required.  Companies will also be required to develop and implement a policy for disclosure of the company’s policy on incentive-based compensation that is based on financial information required to be reported under the securities laws.

Proxy Access

The Act authorizes the SEC to establish proxy access rules that allow shareholders to include director nominees in the company’s proxy materials.  The SEC has proposed proxy access rules three times in the past, with June 2009 being the most recent of such proposals.  While the timing and final form of any proxy access rules are uncertain, many commentators believe that the SEC may move quickly to adopt proxy access rules that would be in place for the 2011 proxy season.  The SEC’s June 2009 proposal, if adopted without revisions, would establish a right of access to the proxy statement that cannot be superseded by a company’s bylaws whereby holders of between one and five percent of a company’s outstanding shares, depending on the size of the company, would have the ability to nominate up to 25% of the company’s directors.  Shareholders would be permitted to form groups in order to aggregate their shares for purposes of meeting the ownership threshold.

Disclosures regarding Chairman and CEO structures

The Act requires that the SEC adopt rules within 180 days of its passage that require disclosure in a company’s proxy statement of why it has chosen to have either the same person or different persons in the position of Chief Executive Officer and chairman of the Board of Directors.  This rule was adopted by the SEC in December 2009.

Compensation Committee Independence

The Act requires that the SEC issue rules requiring national securities exchanges to mandate that each member of a company’s Compensation Committee be independent.  In determining a director’s independence, companies will be required to consider relevant factors, including (i) the source of a director’s compensation, including any consulting, advisory or other compensatory fee paid by the company to the director, and (ii) whether the director is affiliated with the company or any of its subsidiaries or affiliates.  The independence standards promulgated by the SEC may be more stringent than the policies currently in place at the stock exchanges.

The new listing standards will also require that a Compensation Committee may only select consultants, legal counsel and advisors after taking into consideration independence standards to be established by the SEC.  By July 2011, enhanced disclosure will also be required in proxy statements of whether the Compensation Committee has obtained a compensation consultant and if the consultant’s work has raised any conflict of interest and, if so, the nature of the conflict and how it is being addressed.  The Act also requires companies to provide appropriate funding for the Compensation Committee to hire a compensation consultant and independent legal counsel or any other advisor.

Voting by Brokers

The Act prohibits brokers from using discretionary authority when voting proxies in connection with the election of directors, executive compensation, or any other significant matter, as determined by the SEC.

Majority Voting Standard dropped from the Act

Of note, mandatory majority voting in director elections was originally in the Senate bill, but was dropped from the final version of the legislation.

Joseph Alley, Jr., Terrell E. Gilbert, Jr. and Robert F. Dow are attorneys in the Atlanta-based law firm of Arnall Golden Gregory LLP.