Pay Week in Washington

by W. Bernard Mason, Regulatory Relations Liasion, The Risk Management Association


Last week both the Administration and Congress were focused on executive pay and corporate compensation programs. On Wednesday, Treasury Secretary Geithner released an interim final rule on “TARP Standards for Compensation and Corporate Governance”. This rulemaking limits executive compensation for certain executives and highly compensated employees at entities receiving TARP funds. It will limit bonus payments, curtail golden parachute payments, and impose a clawback for bonuses found to be based on “materially inaccurate performance criteria”. It also appoints a Special Master to review compensation plans at firms receiving “exceptional” assistance. Another provision institutes “say on pay” requirements for all TARP recipients. A further provision prohibits tax gross-up practices and mandates disclosure of compensation consultants.


More specifically, the new rule will limit bonuses paid to “senior executive officers” and to a specified number of the most highly compensated employees of TARP recipients to one-third of total compensation, implementing the provisions passed by Congress. It also encourages firms to pay salary in the form of stock that must be held for a long period of time and may not be entirely converted to cash until TARP funds are repaid. The Special Master (Kenneth R. Feinberg has been appointed) will have authority to disapprove compensation arrangements for companies with “exceptional” assistance where salary or other compensation is found to be inappropriate. The rule implements the statutory requirement that TARP recipients provide an annual shareholder vote on a non-binding resolution to approve executive compensation packages (say on pay).


In addition to the new TARP rules, Secretary Geithner issued a more general statement regarding financial system compensation. He indicated that compensation practices were a contributing factor to the financial crisis. In his view, incentives for short-term gains overwhelmed the checks and balances meant to mitigate against the risk of excess leverage. He announced that he was seeking ways to better align compensation practices with sound risk management and long-term growth. He outlined some broad general principles that would address his concerns:

• Compensation plans should properly measure and reward performance.


• Compensation should be structured to account for the time horizon of risks.


• Compensation practices should be aligned with sound risk management.


• Transparency and accountability should exist in setting compensation.
  

Mr. Geithner emphasized the importance of efforts underway by the banking agencies to lay out broad standards on compensation that will become part of the normal supervisory process. He stressed that there are no moves to cap pay and no precise prescriptions will be set forth dictating how companies set compensation.


Secretary Geithner announced two pieces of legislation to address compensation issues. One would give the Securities and Exchange Commission authority to require “say on pay” more broadly, giving shareholders a non-binding vote on executive compensation packages. The second piece would give the SEC the power to ensure that compensation committees are more independent, adhering to standards similar to those in place for audit committees under Sarbanes-Oxley. This legislation would also give compensation committees the responsibility and resources to hire their own independent compensation consultants and outside counsel. More details can be found at the following web site under “Recent News”: http://www.ustreas.gov/

On Thursday the House Financial Services Committee held a hearing regarding compensation and systemic risk. The committee delved into the “lessons learned” regarding compensation practices and their perceived contribution to the current financial crisis. The Committee heard from two witness panels: the first panel consisted of representatives from Treasury, the Federal Reserve, and the Securities and Exchange Commission; the second panel was comprised of outside experts. Committee Chairman Barney Frank (D-RI) stated that the focus should not be on the amount of compensation but the structure, and he believes “the structure of compensation has been flawed”. Mr. Frank stated his support for the principle of “say on pay”; the House passed such legislation last year but it failed to become law. Gene Sperling, Counselor to the Secretary of the Treasury, was the first panel witness and he set out in more detail the basis and rationale for the Administration’s two legislative proposals: say on pay and independent compensation committees.


Republican Committee members were less supportive of governmental efforts to set pay standards. Ranking Member Spencer Bachus (R-AL) stated his view that it was not the role of government to mandate compensation policies or to determine who sits on corporate boards of directors. Rep. Jeb Hensarling (R – TX) stated that, while there was no question that government compensation controls should be placed on any firm receiving taxpayer assistance, it was his belief that government intervention in private compensation matters “was the wrong remedy for what is probably a non-existent problem”.


Chairman Frank stated his goal to have some form of compensation legislation enacted before Congress’ summer recess. The prepared testimony of the various witnesses contained many statements of sound principles for compensation programs and related risk management, as well as examples of flawed programs and approaches, and can be accessed at the following link: http://www.house.gov/apps/list/hearing/financialsvcs_dem/hrfc_061109.shtml