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Maslon Legal News Alert

July 26, 2006

SEC Adopts Compensation Disclosure Rules and Related Party Transaction Disclosure Rules  

The Securities and Exchange Commission today adopted extensive amendments to its rules governing disclosure of executive pay in public companies' proxy statements and other reports. The SEC also adopted changes to the disclosure rules for related party transactions. This is the first major change in the compensation disclosure rules since 1992. Public companies need to take action now to review their compensation and disclosure practices (if they haven't done so already), so they can be ready to draft the new disclosures. The actual text of the new rules probably will not be published for a week or two, but the SEC released the following information today:

Question & Answer

Q: When will the new rules be effective, and what public companies will be affected?

A: The new rules will apply to the upcoming proxy statement and Form 10-K, for any company with a fiscal year ending on--or after--December 15, 2006. For changes to Form 8-K reporting items, compliance will be required sometime in October.

All public reporting companies will need to comply with the new rules. However, "small business issuers" will be exempt from many of the new disclosures--most importantly, the requirement to include CD&A (described below) in their proxy statements. These smaller companies will also be exempt from some of the new tabular disclosures described below and will only be required to present two years of compensation information in the summary table. 

Q: What are the main features of the new rules?

A: First, the new rules contain significant new narrative disclosures, especially a new section called "Compensation Discussion and Analysis" (CD&A), and require that compensation disclosures be presented in plain English. CD&A provides a general overview of the company's compensation policies. The new section must also answer specific questions contained in the rules, analyzing the compensation policies and decisions reflected in the company's reported compensation data. 

Consistent with the proposed rules, the CD&A disclosure will be considered "filed" rather than "furnished." Therefore, unlike the existing compensation committee report, CD&A will be covered by the CEO and CFO certifications filed with the Form 10-K. In a new condensed committee report that is furnished, the committee will endorse the CD&A disclosure, and the SEC staff reported that the officers will be entitled to rely on that report in connection with their certifications.
 
Second, the new rules reorganize and streamline the compensation tables in the proxy statement, add additional tables, and require narrative disclosures to explain information in the tables. The Summary Compensation Table has been changed in various ways, including the addition of a column for the disclosure of "total compensation" for each named executive. Also, more disclosure of perquisites will be required, with the disclosure threshold lowered to $10,000 in the aggregate. New tables have been added to provide information about grants of performance-based and equity awards; holdings of stock options and other compensation-related equity interests; retirement and other post-employment benefits, including change in control payments; and director compensation.

Q: What changed in the final rules from the proposed rules that were issued in January 2006?

A: The final rules are similar to the proposed rules, but they reflect some significant changes, including the following:

• The final rules will require very specific disclosures about stock option granting practices, including: the dates the compensation committee took action on option grants; any deviations of the exercise price of a stock option from the market value of the stock on the date of grant; and any practices that would suggest that option grants were timed to precede the announcement of positive company news.
  
• Under the proposed rules, total compensation would have been used to determine the executive officers named in the compensation tables. The new rule has been changed to adjust total compensation, for these purposes, to exclude certain changes in the present value of accumulated pension benefits and above-market earnings on non-qualified deferred compensation.
  
• The final rules do not include the so-called "Katie Couric clause," which would require disclosure of up to three additional employees who were not executive officers but whose total compensation during the year was greater than that of any named executive officer. The SEC re-proposed a revised version of this rule that would only apply to large companies and would be limited to employees with some policy-making role.
  
• The proposed rules would have eliminated the stock performance graph currently required in the proxy statement. Under the final rules, the graph will be retained, but it will be included in the annual report or Form 10-K.

Q: What are the other features of the new SEC rules?  

A: The new rules modify several other disclosure requirements. For example, the requirements of Form 8-K will be modified, including expanding the types of compensation arrangements that must be disclosed and requiring the disclosure of the retirement, resignation or termination of more categories of executive officers. Also, the disclosure of "certain relationships and transactions" has been modified, including increasing the disclosure threshold from $60,000 to $120,000, requiring disclosure of the company's policies for approval of related party transactions, and otherwise streamlining the reporting rules for such transactions.

Q: What aspects of the new rules require action before the next proxy statement?

A: Maslon's news announcement about the proposed rules in May 2006 contained some specific action items that apply now more than ever. Read more on our website at: http://www.maslon.com/CM/News/News1232.asp  

In the coming weeks, we will provide more advice on how to prepare for the new rules.

Q: How do I get more information about the new rules?

A: The SEC has issued a press release that provides a more extensive summary of the new rules, including a link to the final form of the Summary Compensation Table that will be required by the final rules. You can view this online at: http://www.sec.gov/news/press/2006/2006-123.htm

For questions, please contact:

Martin Rosenbaum
Maslon attorney  
612.672.8326
martin.rosenbaum@maslon.com