Compensation Committees To Be More Like Audit Committees: Okie-Dokie - 31 July 2009

Compensation Committees To Be More Like Audit Committees: Okie-Dokie

By fm • Jul 31st, 2009 • Category:

Treasury Announces Two Executive Compensation Bills   

Yesterday, Treasury announced that it has drafted two different
pieces of executive compensation legislation - one related to
say-on-pay and the other regarding compensation committee independence
- that they’ve sent to Congress as part of the “Investor Protection Act of 2009.“ 

Compensation committee independence:

• Compensation committee members would be subject to the same additional independence standards as audit committees members under Rule 10A-3 (no consulting or advisory fees and cannot be an affiliate).


• Compensation consultants, legal counsel and other advisors to the committee shall meet independence standards to be promulgated by the SEC.


• The compensation committee has the authority
  to retain independent consultants and is directly responsible for their
  appointment, compensation and oversight (copied from the audit committee oversight of auditors).


•  Proxy statements must disclose whether the compensation committee has retained an independent consultant, and if not, why not.


•  The compensation committee has the authority to retain legal counsel
  and is directly responsible for their appointment, compensation and
  oversight (copied from the audit committee oversight of auditors). 
  There is no requirement that proxy disclosure be made as to whether the
  committee retained such legal counsel. 


•  Companies must provide funding for the hiring of independent consultants and legal counsel by the committee.


•  The SEC is required to study the use of compensation consultants and report to Congress in two years.

Broc tells us that these provisions are based on
standards for independence of audit committees under Rule 10A-3. Rule
10A-3 implemented the requirements of Section 301 of the Sarbanes-Oxley
Act of 2002 (Section 10A(m)(1) of the Securities Exchange Act of 1934.)
As much as I wholeheartedly agree with these provisions in principle, I
am skeptical about how well they will be implemented and enforced.
Let’s look at how well the independence provisions that were
implemented for Audit Committees in 2003 worked out.  What did
lawmakers hope to accomplish when the audit committee independence
provisions were included in the Sarbanes Oxley Act?

According to the SEC:

“Accurate and reliable financial
reporting lies at the heart of our disclosure-based system for
securities regulation, and is critical to the integrity of the U.S.
securities markets. Investors need accurate and
reliable financial information to make informed investment decisions.
Investor confidence in the reliability of corporate financial
information is fundamental to the liquidity and vibrancy of our markets.

Effective oversight of the financial reporting process is
fundamental to preserving the integrity of our markets. The board of
directors, elected by and accountable to shareholders, is the focal
point of the corporate governance system. The audit
committee, composed of members of the board of directors, plays a
critical role in providing oversight over and serving as a check and
balance on a company’s financial reporting system. The audit committee
provides independent review and oversight of a company’s financial
reporting processes, internal controls and independent auditors. It
provides a forum separate from management in which auditors and other
interested parties can candidly discuss concerns…Recent
events involving alleged misdeeds by corporate executives and
independent auditors have damaged investor confidence in the financial
markets.They have highlighted the need for strong, competent and vigilant audit committees with real authority. In
response to the threat to the U.S. financial markets posed by these
events, Congress passed, and the President signed into law on July 30,
2002, the Sarbanes-Oxley Act.”

“Recent events involving alleged misdeeds by corporate executives
and independent auditors have damaged investor confidence in the
financial markets.” 

In the case of Compensation Committees, recent events involving “excessive pay”
practices by companies that eventually failed or were taken over by the
government and which continued even after those companies received
taxpayer money in a bailout have “highlighted the need for a strong,
competent, vigilant, [independent compensation committee] with real
authority.” 

Back in mid-2008, a coalition of 21 institutional investors lead by Connecticut Treasurer Denise Nappier, sent a letter to the Security and Exchange Commission (SEC). The letter to SEC Chairman Christopher Cox reads in part:

“We believe a potential conflict of interest exists
at companies in which consultants are hired to do work for both a
company’s management and its compensation committee. When a consultant
performs such services as benefits management on the one hand and
advises the board’s compensation committee on executive pay matters on
the other hand, we believe that the consultant’s integrity may be
jeopardized.“ 

Some of us have been talking about this from the beginning.

 I think there was no question immediately prior to
Sarbanes-Oxley that partners from a company’s audit firm could not also
be Directors or sit on the Audit Committee, although that was not so
unusual in the not so distant past.  Sarbanes Oxley did make it clearer
that senior members of the audit team could not join a client company directly
and that the audit partner, but not the firm itself, must be rotated
every five years so as not to get too comfortable with each other.  But
I wrote about a pretty egregious violation, in my opinion, of that rule
here.  As far as I know, nothing was done about it.

The provisions to make sure members of the Compensation Committee
are not also consulting to the company (general independence) and that
they have direct, rather than via a company executive, authority for
appointing any compensation consultants are pretty basic.  I do not see
in the Treasury Fact Sheet any discussion of a provision that explicitly requires compensation committees to hire truly

more...http://retheauditors.com/2009/07/compensation-committees-to-be-more-like-audit-committees-okie-dokie/