Statement on the Reopening of Pay vs. Performance
Jan. 27, 2022
In 2010, with the passage of the Dodd-Frank Act, Congress recognized the importance of increasing transparency and accountability in executive pay practices.[1] As part of that executive compensation disclosure mandate, the Commission proposed a rulemaking in 2015 that would provide insight into the links between executive pay and company performance. Unfortunately, the Commission let that rule, like other Dodd-Frank rules, languish.
Today, I am glad see that we are moving forward on this Congressional mandate once again. However, the world has changed significantly since 2015 and so have executive pay practices.[2] For example, companies are increasingly linking executive pay to environmental, social, and governance (“ESG”) measures, which is one tangible way that companies may be able to advance their stated ESG goals and improve performance.[3] Given these kinds of changes, it is important that we re-open the comment file and solicit further input.
As the Commission considers the best ways to calibrate pay and performance disclosures, I encourage commenters to provide insight into how ESG measures are utilized in executive pay packages. It is critical that investors and commenters let the Commission know whether there is sufficient insight into the methodologies behind the measures on which ESG compensation targets are based.[4] Separately, similar questions arise about the use of targets based on measures of performance with qualitative or discretionary inputs—for example, targets that are not based on quantitative measures with defined methodologies or items disclosed in financial statements. The reopening release seeks to grapple with these practices by proposing to give registrants flexibility in deciding what measures should be disclosed.[5] I look forward to comments on these issues.
Lastly, I am interested in feedback on whether to scope in companies classified as smaller reporting companies (“SRCs”).[6] Recent data show that approximately 45% of all reporting companies are classified as SRCs.[7] I certainly support promoting greater competition and capital formation in our markets, but, as commenters in 2015 noted, disclosure about executive compensation provides information that affects a company’s bottom line[8] and can be an important input for investors as they allocate capital.[9]
Meaningful disclosure of executive compensation is key to aligning the incentives of a company’s management, board of directors, and investors. So I look forward to the feedback and working to improve transparency in this critical area. As always, thank you to the staff at the SEC, whose excellent work and continued dedication to improving the markets for investors advanced this important rulemaking.
[1] See, e.g., Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. 111-203 §§ 952-956.
[2] See Reopening of Comment Period for Pay Versus Performance, Release No. 34-[] at n. 11 & accompanying text (Jan. 26, 2022) [hereinafter Release].
[3] See UN Principles for Responsible Investment, ESG-Linked Pay: Recommendations for Investors (June 17, 2021) (“In the last few months, a steady stream of companies have announced the introduction of ESG-linked executive pay to bolster sustainability credentials...The moves appear to be in line with a broader trend: a 2020 Willis Towers Watson survey found that four in five companies are contemplating similar measures over the next three years, elevating environmental and social factors in their incentive plans.”); Meridian Compensation Partners, 2020 Executive Compensation Trends and Developments Survey (20% of 108 issuers surveyed included ESG performance metrics in 2020 incentive plans, with most adding ESG metrics to the short-term incentive plan).
[4] See Release Request for Comment #22 at 28. See also Caroline A. Crenshaw, Commissioner, Sec. & Exch. Comm’n, Virtual Remarks at the Center for American Progress and Sierra Club: Down the Rabbit Hole of Climate Pledges (Dec. 14, 2021) (“Accurate and reliable climate metrics are not only important for investors’ evaluation of sustainability efforts or how companies are spending shareholder money on politics, it is also critical for assessing fundamental and traditional corporate governance matters, like executive compensation. Recent surveys indicate that more executive compensation is being linked to ‘sustainability performance.’ Linking executive pay to achieving ESG or sustainability-related goals can be a positive alignment of incentives. However, without reliable and consistent disclosures about those ESG targets, I wonder whether investors and Boards have the tools to accurately assess if such targets have been met and if that alignment between executive pay and ESG targets has been achieved.”).
[5] See Id. at 9-11.
[6] For a definition of smaller reporting company See 17 CFR 240.12b-2. The Commission updated this definition in 2018 to scope a larger number of reporting companies, intending to reduce compliance costs facilitate capital formation. See Amendments to the Smaller Reporting Company Definition, Release No. 33-10513 (June 28, 2018) [83 FR 31992 (July 10, 2018)]
[7] See Release at n. 5.
[8] See Council of Institutional Investors, Comment Letter on Pay Versus Performance Proposal (June 25, 2015) “(We believe pay decisions are one of the most direct ways for shareowners to assess the performance of the board. And, as indicated, they have a bottom line effect, not just in terms of dollar amounts, but also by formalizing performance goals for employees, signaling the market and affecting employee morale. As a result, the Council has and will continue to oppose exempting SRCs and EGCs from compensation related disclosures . . . that . . . are useful to investors.”).
[9] See CalPERS, Comment Letter on Pay Versus Performance Proposal (July 6, 2015) (“The cost of compliance may initially appear to be a larger cost for a smaller company, but research in similar contexts has shown that the lack of transparency ultimately penalizes such exempted companies in the market.”).