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SEC passes vote to increase the details disclosed for compensation practices including stock options.

Executive compensation used to be such a clear cut matter and simply a run of the day part of corporate governance. Well, that is no longer true. The whirlwind of the economic crisis has permanently affected not only compensation structures but how they are reported and regulated. Effective March 1, the details of corporate compensation will be further open to review.

The SEC passed a vote by 4 to 1 on Dec. 17th for new changes to the amount of information revealed in proxy reports for compensation disclosure, risks and corporate governance. Riding on the backs of the Madoff fraud and a belief that the recent economic downturn was partly due to investors not having enough info of corporations risky business practices, the new rules for disclosure aim to reveal any compensation that creates an incentive for higher risk taking.

“These new rules will apply additional safeguards where the safeguards are needed most -- that is, where the risk of fraud is heightened by the degree of control the adviser has over the client's assets."
                                                  - SEC Chairman, Mary L. Schapiro

Shedding more light on the true value of stock options and their role in overall compensation is a major component of the new rules and aims to encourage longer term rewards rather than incentives based on quick profit, achievable through short-term and high-risk decisions. The new rules eliminate the need to amortize grants and have companies reporting the aggregate fair value at grant date of the award in the summary and director compensation tables, instead of the current reporting of the annual accounting charge. It also puts the probable outcome and maximum performance of the awards in black and white as footnotes of the tables.

This announcement comes only one week after Goldman Sachs announced that its top 30 executives would receive a year end stock bonus that wouldn't vest for five years. This is unquestionably a response to the public outcry against Sach's $16.7 billion payout to employees after receiving a taxpayer bailout. The ‘shares-at-risk’ are not guaranteed and can be revoked if the executive fails to adequately analyze or raise concerns of risks.

The first step of the new rules is to inventory all incentive plans, followed by assessment of the negative and risky behavior that such plans could create. The companies must then explain the risks that their compensation practices pose if they are “reasonably likely to have a material adverse effect on the company.”

The mix of compensation must be balanced between annual and long-term incentives. While there will be variance, the median breakdown for Fortune 500 companies is:

Having turned the calendar to a new year and a new decade, it is timely to look at some of the major issues negatively impacting stock plan administration and more importantly, how they can be avoided. Certainly, your professional success as well as the perceived success of your company's plans will be at least partially judged on how effectively you execute with respect to the ten areas below. So, in no particular order, the following are some key considerations to enhance the overall effectiveness of your employee incentive plan. 

1. No single person responsible for overall plan administration. While the plan itself typically designates the Board or the Compensation Committee as the overseer of the plan, the responsibility for effective and efficient day-to-day operation of the plan falls to equity compensation “experts” within the organization. Within this group of experts, it is essential to a program's success to have a first among equals, analogous to the conductor of an orchestra, for monitoring the program's overall operation. Extending this analogy, the conductor must understand the deliverables and accountabilities of all areas that touch the plan. Failing to coordinate across all these areas is asking for a discordant performance.

   It should be clear to executive management and to everyone else involved with the program who your plan's conductor is. This is the person to whom the CEO or the Board Chairman will turn when there are questions or issues. This person should have the status and title to effectively carry out this role.

2. Not creating procedures for all major activities. Now that we've established the importance of the equity compensation program “coordinator”, an essential role of that person is to ensure that procedures are created for all key transactional, filing and reporting activities. Nothing ruins a plan administrator's day quite like a failure to complete a requested stock option exercise or missing the deadline for an SEC Form 4 filing.
3. Failure to measure the total expense of your equity compensation plans. Certainly, great emphasis is placed on the accounting expense and shareholder dilutive impact of your equity compensation program and rightly so. However, the total cost of your program includes all the administrative expenses and cost of errors relating to the program (see #2 above). To measure the cost effectiveness of your plan, you need to understand where and what all these costs are and then take steps to improve the plan's cost effectiveness.
4. Failure to specify key performance measures for success of your equity program. This is the “benefit” side of the cost-benefit analysis to the cost side above. Internally, and with the agreement of management, determine the success factors for your plans. These factors should be quantitative and measurable so that you can regularly track results against those standards. Don't be afraid to raise the bar over time.
5. Deficient participant communications. Don't overlook the importance of communicating with your plan participants (think of them as “your customers”) clearly, regularly and concisely. As experts in the field, plan administrators may assume a knowledge and appreciation of the plan among the participants which, absent a good communications program, is typically not be the case. Even though plan beneficiaries often are higher level managers in the organization, they may undervalue their awards if they don't both fully understand how and when those awards will directly benefit them and as important, how they need to perform to achieve the desired outcome.
6. Failing to survey the program's constituents. Continuing the “customer” concept from above, how do you know whether your plan is operating well without surveying your plan participants and other organizational areas which are impacted by your plan? Are there some existing deficiencies which can be improved on? You won't know unless you ask. Use a simple-to-complete and easily understood survey (on-line if possible) to boost your response rate. Also, attempt to standardize surveys over time so that you can do trend analysis to hopefully establish new performance standards and document improvements to the program.
7. Assuming that one size fits all wherever your company has operations. In an era of globalization, plans operating across multiple countries provide the stock plan administrator added challenges. The securities registration and filing, tax, accounting and privacy requirements may differ dramatically across many of the countries where your company's plans operate. And if the above was not enough, ignoring international employee mobility tracking and related tax withholding requirements can come back to bite you.
8. Garbage in-garbage out. Although this is presumably obvious, don't neglect the data integrity of your plan. Unless you are auditing all transactions and monitoring plan shares granted against shares approved and plan shares issued against total shares outstanding on a regular basis, it is easy for your plan data to get seriously out of balance. This is not something for which you want to depend on your auditors; data deficiencies suggest control issues and will raise a red flag for the audit overall. An ounce of prevention is worth a pound of cure.
9. Not keeping current with changing requirements. Equity compensation practitioners are aware of how frequently securities, tax and accounting standards can change. Remaining abreast of these changes, while undoubtedly challenging, is essential to having a compliant plan. Also, don't forget to verify that your equity plans software remains current. Knowing about the changes is only half the battle; ensuring that your software allows your company to conform to new requirements is the other half.
10. Not knowing when to go outside for help. While we would all like to be completely self-sufficient in managing our companies' equity programs, the reality is that the coordinator role is both complex and dynamic. Any one individual cannot necessarily be expected to have a mastery of all the securities, accounting, tax, payroll and international plan requirements associated with a plan's operation. Know when to ask for help, and determine where there is expertise for a particular area.

Being mindful of pitfalls and taking the necessary steps to avoid those listed above should go a long way to ensuring your and your company's plans' long term success.

We sincerely wish you success and prosperity in 2010! Keep in mind that if your list of New Year's resolutions includes some of the great tips & suggestions provided above, you're in good company. Solium Equity Consulting has the depth of knowledge, expertise and experience to assist! Contact us today at 248.348.7104 or email us for more information about our services and offerings.

Part 1 of 2 — The Assessment

With regard to internal equity plan administration practices, many companies and stock plan administrators have an, “if it’s not broken, don’t fix it” mind set. What we are suggesting in this white paper is a holistic assessment of your program’s operation and determining potential enhancements to the program’s overall efficiency and effectiveness.

In this, the first of a two-part white paper, we’ll look at how you should go about conducting this internal assessment, ideally on a periodic basis, to ensure that your program is the best that you can make it. In the second paper, we’ll examine special considerations should you determine that the best solution for your company is outsourcing all or a portion of your equity plans administration.

To conduct your internal equity plans administration assessment, you’ll need a team of specialists—all those who are responsible for, or in some way connected to, the operation of the program. Be as inclusive as possible in comprising your project team—this will help to ensure a higher quality review, result in greater likelihood of your team’s recommendations being approved and increase buy-in for changes, if any. Project teams are most successful if sponsored at a senior level in the organization, given a specific charter, and managed by a team leader. Consider support from an internal project management area or IT, depending on where project knowledge resides in your organization. Also, consider engaging an outside consultant for objectivity and expertise. This is a situation where a modest investment up front could pay large dividends in the future.

Once you have comprised your team and included outside resources as needed, your next step is to understand your current processes. Diagramming all these current processes in sufficient detail (how they actually work, not how you wish them to work) is important to understanding where the opportunities for improvement lie. Also, once these diagrams are complete and assuming some activity costing information in your company, you should be able to, with reasonable accuracy, understand the present costs of operating your program. Further, this analysis should assist you in identifying areas of overlap and/or gaps in the operation of your program.

Related to the above step is evaluating your current data to ensure complete data integrity or to understand where deficiencies exist and, if appropriate, how to correct those data deficiencies. This represents a prime opportunity to either correct these existing data deficiencies or, less preferably, to document them to be better able to respond to audit issues and to avoid this step in future data validation efforts.

The next step for the project team is to survey the users (employees) of your program. These are the individuals who use the equity plans reports, the executives in the company who (at a high level) monitor the effectiveness of the program and the award recipients for whom the equity plans exist. First, you must understand and evaluate the needs for special services, e.g. Section 10b5-1 plans, Section 16 and Rule 144 reporting, and monitoring executive shareholdings against targets. Surveyed individuals ideally will be able to give you feedback on how well the program is presently performing, identify areas for improvement and provide suggestions for elimination of unnecessary activities, for example, unnecessary reports where the data is obtained elsewhere or is no longer required. This step will enable your team to identify both plan design and administration simplification opportunities.

Once you complete the overview of your present program, the project team should:

1. determine where the risks to the present equity administration solution lie
2. attempt to quantify the likelihood and potential financial and non-financial impacts of those risks, and;
3. identify potential steps (and costs entailed) to mitigate the risks.

Consider global requirements for your plans, including, as applicable, securities registration, taxation, foreign exchange controls, mobility tracking, language and privacy requirements.

The above steps should enable your team to define the desired end state. Starting with the initial process diagrams, mark those up to redefine new processes that eliminate overlaps and address unmet needs. These updated process maps will lead to revised roles and responsibilities in the new environment and will begin to answer the question of whether your plan should be outsourced or if already outsourced,  brought in-house or outsourced to a different provider that better fulfills your requirements.

Last in the assessment process is determining the path to the end state. Begin with the gap analysis—the differences between where the program is now and its desired state. Here, you will use your marked-up process diagrams to understand changes to costs and deliverables in the new program administration environment, the requirements for, and obstacles to, a successful migration. Consider carefully any impact from changes to existing systems and the associated costs, not only those for record keeping your equity plans but also other systems which interface to or from your equity plans record keeping systems (e.g. HRIS). Finally, at the conclusion of this step you’ll want to present your team’s findings and receive sign-off from the project sponsor. Then, with your analysis and approval to proceed behind you, you can embark on your next project—the successful conversion.

In a following white paper, we’ll look specifically at the outsourcing decision and how to achieve the desired outcome.

Remember that more information and/or assistance in implementing any of the suggestions above are just a quick phone call or email away. You can contact Solium Equity Consulting for a no obligation, no charge, 30 minute exploratory discussion to determine a possible fit between your corporation’s requirements and our expert consulting services.

Contact us at 248.348.7104 or via email

It is likely that everyone would agree that 2009 was a tumultuous year and that we will forever be changed because of it. While politically and economically it's been a rollercoaster, lets take a quick look back at those events that had (and will have) a pronounced affect on employee incentive plans.

1. Economic Downturn – With stock prices across the board plunging to new lows, a huge percentage of the workforce watched their stock options go underwater. This led to many corporations revamping their compensation policies and pay structures. The full impact of the economic downturn isn’t yet clear, or completely over.
2. Shift to Restricted Stock and Performance-based compensation – Corporate responses to #1 above included the repricing of existing underwater awards and a deliberate shift towards RS/RSU and/or PS/PSU (performance) awards, from the more traditional Stock Option awards that were very common before.
3. Risk analysis and Executive Compensation – The analysis of risky behavior and how that had a hand in the shift towards long-term incentives, restructuring of corporate compensation policies and new rules for proxy disclosures. The behind-closed-doors boardroom meetings of the past have been exchanged for ‘open boardroom doors’ and corporate discussions more transparent to corporate shareholders.
4. Shareholder Say on Pay – Compensation and stock awards are no longer strictly an internal discussion. While not required by federal law (yet), at least 38 US companies have pledged to hold voluntary say on pay votes in the spring of 2010. Included is Goldman Sachs who, after the public outrage over the bonuses received last year, are revamping the compensation plans for their executives by giving options with a vigorous 5-year vest schedule and classifying them as “Shares at Risk”, meaning they can be forfeited if evidence of fraud or malfeasance is uncovered.
5. Rise and fall of IFRS – While IFRS could have been the most talked about change in the equity and general financial reporting planning sessions during 2009, it took a backburner for most of the year due to many pressing other topics on the agenda. As we head into 2010 it’s likely to get back on the radar or be in the forefront of conversation circles again in the very near term. A solidified timetable should be released by the SEC early in 2010 with the final decision on whether or not the US will adopt it is scheduled for 2011.  
6. Madoff Scandal – While not directly affecting incentive stock plans, the SEC’s oversight of the Madoff Ponzi scheme will likely lead to heightened scrutiny on all levels. In response, the SEC passed a rule for surprise audits of some investment advisors on December 17th.
7. Options back-dating scandals and trails – the media had many opportunities to report on many options back-dating allegations and the subsequent related trails of corporate executives from Broadcom, Comverse, Monster and several other large, publicly traded corporations. 
8. The end of FAS 123R – While not a change in policy, the re-organization of over 20 sources of GAAP literature into the single source of FASB Accounting Standards Codification™ marks a significant shift in the terminology we’ve been using for five years. ASC Topic 718 replaces FAS 123r.
9. The Inauguration of Barack Obama  – With a new president comes a new era, new leadership and new ideas. Even with his inauguration speech on Jan. 20th, Obama addressed the fact that 2009 needed to be a year of change “Starting today, we must pick ourselves up, dust ourselves off, and begin again the work of remaking America.” Part of that plan was the $787billion American Recovery and Reinvestment Act which has created a reported 640,000 jobs and the appointment of Mary L. Schapiro to chair of the SEC with a focus on protecting investors and vigorously enforce SEC’s rules.
10. The explosion of Social Media – 2009 saw the global economy becoming even ‘smaller’ as corporations and private individuals started creating Facebook, Twitter, LinkedIn and similar pages/accounts in order to communicate with one another. Who would have thought – a couple of years ago anyway – that people would be adding e.g. NASDAQ as a ‘friend on Facebook’?

Regular Sections

Regulatory Amendment for Stock Compensation

FASB ASC - Compensation - Stock Compensation Topic 718

Comments Due: February 12, 2010

This proposal would amend Topic 718 Compensation to clarify when a share-based payment award, such as a stock option, should be classified as equity or a liability. Confusion has surfaced about how to classify such awards when the exercise price is set according to a foreign currency, FASB says. The proposed guidance says the currency issue should not be seen as a condition that would compel a liability classification if the award otherwise qualifies as equity.

IFRS Around the World

Click here for a full list of countries.

The SEC Hit List

The Future of Unemployment

A survey of top economists in November by the National Association of Business Economics found that 60% don't expect payrolls to return to pre-recession levels until 2012, and another 35% say it will take even longer than that. While the unemployment level for December remained at the 10% from November, economists speculate that many frustrated workers have stopped looking for jobs so are no longer categorized as unemployed which held that number from being higher.

The Congressional Budget Office aggress with the position and stated on Jan 14th that unemployment is unlikely to drop below 8% before 2012 without further boosts to the economy. Pre-recession rates (Dec 2007) were at 4.9%.

New SEC claims against Bank of America not included in March trial

In August the SEC filed a case against Bank of America for violating securities laws by failing to reveal $4.5 billion in bonuses and incentive pay authorized to Merrill Lynch employees when shareholders voted on the takeover deal in 2008. The trial is set to begin on March 1, 2010. New claims by the SEC now set the amount at $5.6 billion but a federal judge ruled that the new accusations could not be brought up in the upcoming March trial and will have to be filed separately as a new case.