Corporate Governance

Executive Compensation and the Financial Crisis: A Problem In Search of a Solution (Still) (Part 7)

By J Robert Brown Jr.

Are there any permanent reforms or are matters destined to go back to the pre-crisis practices? 

Efforts so far have been limited to the modest reforms in Dodd-Frank.  They include say on pay, improved requirements for compensation committees, and clawbacks.  Clawbacks (which were first included in SOX but were strengthened in Dodd-Frank) hold out the greatest hope.  They provide, in the event of misstatements, for the possibility of requiring the return of performance based compensation by executive officers.  In other words, for the first time, executives must absorb some of the downside of performance compensation.

The clawback provisions, however, don't address excessive risk taking.  They address restatements.  To the extent risk taking is severe and causes harm to the company but is ultimately disclosed properly, no clawbacks will occur. 

Say on pay will provide an opportunity for shareholders to register their displeasure over pay practices and, in the long term, will likely have some effect.  In Britain, where say on pay has existed since 2002, the right has not limited escalation in amount but has forced companies to use more long term performance metrics in determining compensation.  Thus, as we noted, the the CII Study found that "non-U.S. financial institutions increased the amount of pay that is deferred, lengthened deferral periods and also increased the amount of pay that is dependent on future performance."  

Some hope in this area rests with the Securities and Exchange Commission.  Congress gave the SEC the authority to define director independence on the compensation committee.  The Agency, therefore, has an opportunity to ensure that those making the decision are truly independent, something that does not occur under Delaware law or the listing standards of the stock exchanges.  At the same time, shareholder access coupled with say on pay will likely focus the attention of independent directors on matters of concern to shareholders, including compensation. 

Our next post will look at the actions of bank regulators in the compensation area. 

Full post as published by The Race to the Bottom on December 20, 2010 (boomark / email).