Last week, the SEC approved final stock exchange listing standards addressing compensation committee independence and compensation advisers and consultants. These standards—which we detailed in their proposed form in our November 2012 client alert—address the requirements of Rule 10C-1 under the Exchange Act, which the SEC enacted as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010.1 What follows below is a brief overview of the new listing standards of the NYSE, NASDAQ, and NYSE MKT, including certain amendments to the standards proposed by the exchanges since our November 2012 client alert. Please see our November alert for a more detailed summary and analysis of the new listing standards.
For each exchange, the new standards for compensation committee independence become effective as of the earlier of the listed company’s first annual meeting after January 15, 2014, or October 31, 2014. The remaining listing standards, including compensation committee charter requirements and adviser independence assessments, become effective July 1, 2013.
New York Stock Exchange
NYSE listing rules currently require every listed company to have a compensation committee composed entirely of independent directors. Going forward, in affirmatively determining the independence a director who will serve on the company’s compensation committee, the board must consider all factors specifically relevant to determining whether a director has a relationship to the listed company that is material to that director’s ability to be independent from management in connection with the duties of a compensation committee member. These considerations must include but are not limited to (a) the source of compensation of the director, including any consulting, advisory, or other fee paid by the issuer to the director, and (b) whether the director is affiliated with the issuer, a subsidiary of the issuer, or an affiliate of a subsidiary.
In addition, each compensation committee’s charter must specify that: (i) the compensation committee may, in its sole discretion, retain or obtain the advice of independent compensation consultants, independent legal counsel, and other advisers; (ii) the compensation committee will be directly responsible for the appointment, compensation, and oversight of these advisers; and (iii) the listed company must provide the appropriate funding for payment of reasonable compensation to them.
Before retaining or accepting advice from compensation consultants, legal counsel (other than in-house counsel), or other outside advisers, the new listing standards provide that the compensation committee must assess the independence of the adviser by considering the six factors set forth in Rule 10C-1.2 In changes to the NYSE's original proposal, the committee does not need to conduct an independence assessment for advisers whose roles are limited to those entitled to an exception from the compensation adviser disclosure rules under Item 407(e)(3)(iii) of Regulation S-K,3 and the rule clarifies in commentary that the compensation committee does not need to find that the adviser is independent, so long as it considers the enumerated factors.
Smaller reporting companies, as defined in Rule 12b-2 under the Securities Exchange Act of 1934, will be exempt from the new rules, including the enhanced independence standards for compensation committee members and the considerations of compensation adviser independence. They will remain subject to the existing requirements relating to the compensation committee's authority, responsibility, and funding of compensation advisers. The final rules provide a revised transition period for companies that no longer qualify as smaller reporting companies.
NASDAQ Stock Market
The new NASDAQ rules require listed companies to establish and maintain a compensation committee that has the specific responsibilities and authority necessary to comply with Rule 10C-1. The committee must be composed of at least two independent directors who are prohibited from accepting any consulting, advisory, or other compensatory fee from the listed company or any subsidiary, other than for board service or fixed amounts received under a retirement plan for prior service. In determining whether a director is eligible to serve on the compensation committee, the Board must consider whether the director is affiliated with the listed company, a subsidiary, or an affiliate of a subsidiary, to determine whether the affiliation would impair the director’s judgment as a member of the compensation committee.
The new listing standards also mandate that the compensation committee must have a formal written charter that addresses the scope of the committee’s responsibilities, including its responsibilities for determining or recommending CEO and other executive officer compensation, and how it carries out those responsibilities. The charter must provide that the chief executive officer cannot be present for deliberations or voting concerning his or her compensation. Companies will have to certify that they will review and assess the adequacy of the charter on an annual basis.
Although an outside compensation consultant or adviser does not have to be independent, NASDAQ compensation committees must assess the independence of outside advisers using the six factors set forth in Rule 10C-1.4 In a change from NASDAQ's original proposal, the committee does not need to conduct an independence assessment for advisers whose roles are limited to those entitled to an exception from the compensation adviser disclosure rules under Item 407(e)(3)(iii) of Regulation S-K.5
Smaller reporting companies listed on NASDAQ are exempt from the enhanced independence standards for compensation committee members, the charter requirements relating to the committee’s authority to retain advisers, the requirement to consider certain independence factors prior to engaging an adviser, and the annual review of the adequacy of the charter. They are not exempt from the requirement to have a compensation committee of at least two independent members. The final rules provide a revised transition period for companies that no longer qualify as smaller reporting companies.
The SEC also approved final listing standards addressing compensation committee independence and compensation advisers and consultants for companies listed on the NYSE MKT, which was called the America Stock Exchange prior to becoming part of the NYSE Euronext group. The new NYSE MKT listing standards generally mirror the final NYSE listing standards summarized above. The cure and transition periods also follow those of NYSE’s final listing standards.
Unlike NYSE’s listing standards, NYSE MKT does not require that a listed company have a standing compensation committee, so long as a majority of the independent directors approve the compensation of executives. If a NYSE MKT listed company does not have a standing compensation committee, the new listing standards apply to the independent directors of the company individually and as a group.
1 For a detailed summary and analysis of Rule 10C-1, review our June 2012 client alert.
2 The factors specified by the SEC relate to (1) other services that the adviser provides to the listed company; (2) the fees that the adviser or adviser’s employer receives from the listed company as a percentage of total revenue; (3) policies in place at the adviser that are designed to prevent conflicts of interest; (4) any business or personal relationships between the adviser and a compensation committee member; (5) any business or personal relationships between the adviser and an executive officer of the listed company; and (6) any stock of the issuer owned by the adviser.
3 Item 407(e)(3)(iii) of Regulation S-K exempts compensation advisors whose role is “limited to consulting on any broad-based plan that does not discriminate in scope, terms, or operation, in favor of executive officers or directors of the registrant, and that is available generally to all salaried employees; or providing information that either is not customized for a particular registrant or that is customized based on parameters that are not developed by the compensation consultant, and about which the compensation consultant does not provide advice.”
4 See footnote 2.
5 See footnote 3.
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