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Newly Proposed Under Dodd-Frank: Listing Standards for Compensation Committees

April 8, 2011

As required by the Dodd-Frank Act, the SEC has proposed rules directing the national securities exchanges to adopt certain listing standards related to the compensation committee of a listed issuer’s board of directors.

Painting by Vincent Van Gogh (1885, public domain). Photo by Jan Tito.

Importantly, the proposal affects most issuers who are listed under these exchanges, in two ways. First, it would require new disclosures from issuers concerning their use of compensation consultants and conflicts of interest. Second, once an exchange’s new listing standards are in effect, a listed issuer must comply with these standards in order for its shares to continue trading on that exchange.

Compensation Committees

Neither the Securities Exchange Act, nor the Dodd-Frank Act, nor current SEC rules require issuers to maintain compensation committees. However, most national exchanges mandate that issuers have a compensation committee, or that an issuer’s independent directors oversee certain executive compensation matters. The proposed rule would allow an exchange to adopt listing standards using either model. 

“Independence”

Rather than establishing minimum director independence standards that the exchanges must apply, the proposed rule permits each exchange to establish its own independence criteria, provided an exchange considers certain relevant factors (including, but not limited to, the source of the director’s compensation; as well as whether the director is affiliated with the issuer, a a subsidiary of the issuer, or an affiliate of either).

No other factors have been proposed.  Indeed, the proposing release specifically notes that the proposed independence factors for compensation committee members are less stringent than the requirements for audit committee members.

Compensation Consultants

The proposed rule provides that ifa compensation committee chooses to retain a compensation consultant, the committee must consider certain independence factors: the consultant’s provision of other services; the amount of fees the consultant has received; the consultant’s conflicts of interest policies; the consultant’s business or personal relationships; and the consultant’s ownership of the issuer’s stock.

Exemptions

Certain exchanges, as well as certain issuers, would not be subject to the proposed listing standards, as follows:

  • Exempt exchanges.  The proposed requirements would not apply to the OTC Bulletin Board or the OTC Markets Group. In addition, any national securities exchange registered for the exclusive purpose of trading security futures products in accordance with Section 6(g) of the Securities Exchange Act would not be required to adopt the compensation committee listing standards.
  • Exempt issuers. The listing standards, moreover, would only apply to issuers of equity securities; those who exclusively issue debt securities, security futures products, or standardized options would be exempt. And, by statute, five categories of issuers would not be subject to an exchange’s compensation committee independence requirements: (1) controlled companies, (2) limited partnerships, (3) bankrupt companies, (4) open-end management investment companies, and (5) foreign private issuers. Finally, the proposed rule permits the exchanges to exempt a category of issuers as each exchange determines is appropriate.

Conflicts of Interest

The proposed rule would require an issuer to disclose certain conflicts of interest information concerning its use of compensation consultants in any proxy solicitation for the election of directors. It would amend Item 407 of Regulation S-K to require an issuer to disclose whether its compensation committee has “retained or obtained” the advice of a compensation consultant during the issuer’s last completed fiscal year, whether the consultant’s work raised any conflict of interest and if so, the nature of that conflict and how it was addressed.

Comments should be submitted on or before April 29, 2011. View the proposing release and text here.

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