October 2, 2006

SEC's New Executive Compensation Disclosure Requirements Have Implications for Companies with Retirement Plans

The changes to the rules for disclosure of executive and director compensation that the Securities and Exchange Commission (SEC) adopted this summer1 include requirements for additional reporting for companies with retirement plans. These new requirements have not yet received much media attention. This Compliance Alert focuses on the additional requirements and their implications.

BRIEF BACKGROUND ON THE NEW DISCLOSURE REQUIREMENTS

The SEC's new disclosure rules affect proxy statements, annual reports, registration statements and reporting of compensation arrangements starting in 2007. The rules reorganize the Summary Compensation Table to reflect an expanded definition of "total compensation." Previously defined simply as salary plus annual incentive/bonus, it will now also include, among other things, the following:

  • Full fair value of option and option-like stock awards on the grant date,
  • Amounts earned under non-equity incentive plans,
  • All earnings on outstanding stock and non-stock incentive plan awards,
  • The value of perquisites,
  • Above-market earnings on nonqualified deferred compensation,
  • Company contributions to defined contribution plans,
  • Amounts paid as a result of severance or change in control,
  • Tax gross-ups, and
  • Increases in the actuarial value of retirement benefits.

In addition, expanded tabular disclosure is required for equity compensation and associated wealth accumulation. Also required is "plain-English" narrative describing the compensation consequences of a termination of employment, including death, retirement, change of control and voluntary/involuntary including entitlements. Disclosure of nonqualified defined contribution and other deferred compensation arrangements is required. Other post-retirement employee benefits for executives only must also be disclosed.

Previously, disclosure was required for the five highest paid individuals determined by using salary plus annual cash incentive. The new rules apply to the principal executive officer, principal financial officer and the three executives who receive the highest "total compensation" as calculated in the expanded Summary Compensation Table (excluding the value of pension benefits in this calculation of compensation to make this determination). The broader definition of total compensation may mean that some employees may find themselves in the proxy for the first time. Also included would be any individual who served as principal executive officer or principal financial officer at any time during the fiscal year and up to two additional individuals who would have been among the three highest paid executives but for the fact that they were not holding such a position at the end of the fiscal year.

The rules are intended to provide investors with a clearer and more complete picture of a company's executive and director compensation arrangements. In addition to detailed tabular data, the rules require a Compensation Discussion and Analysis (CD&A). The CD&A is a detailed narrative text, including a "plain-English" description of the executive compensation programs' objectives and how they have been implemented and monitored.

NEW REPORTING REQUIREMENTS FOR RETIREMENT PLANS

Companies are required to disclose a separate Pension Benefits Table in place of the previous pension plan table. Every defined benefit plan, whether qualified or nonqualified, in which each named executive officer participates must be listed. The new table must include the following information:

  • The participant's name,
  • The plan name,
  • The actuarial present value of accumulated benefits, determined using assumptions and methods used for financial statements, the same methods and assumptions required by the Financial Accounting Standards Board (FASB) under Statements of Financial Accounting Standards Nos. 87 and 132R,2 except, as noted below, that for this purpose the assumed retirement age is deemed to be the plan's Normal Retirement Age,
  • The number of years of credited service, and
  • Any payments made during the year.

A separate row is required for each plan in which an individual participates. If an employer only sponsors a qualified and nonqualified pension plan, then there should be two rows for each individual.

Each participant should be assumed to retire as of a plan's normal retirement age and all benefits should be determined using salary and compensation limits currently in place.

Companies also must disclose in narrative form the plan provisions for each plan along with material actuarial assumptions and methods used for performing the calculations.

A separate Nonqualified Deferred Compensation Table is used to report information on other nonqualified deferred compensation plans. Both tables must be accompanied by "plain-English" narratives describing various features of the plans, as specified in the regulations.

Observations:

Declines in value are noted as a zero in the Summary Compensation Table, which may result in misleading information for readers who do not pay attention to footnotes. For example, a decline from 100 to 90 is shown as zero in the Summary Compensation Table and a footnote specifies the actual amount of the decline. A subsequent increase from 90 to 98 is shown as 8 in the Summary Compensation Table, which suggests a two-year increase in total compensation of 8 that, in reality was -2, as the footnote indicates.

Because the plan's Normal Retirement Date is used to compute value, the value of an early retirement subsidy would appear as additional compensation in the year the named executive officer retires (making it appear as if he or she received a large incentive payment to leave).

FIRST STEPS FOR SPONSORS OF RETIREMENT PLANS

In preparation for satisfying the new disclosure requirements and in response to them, sponsors of retirement plans should:

  • Form a Response Team. This team should have as its core members legal counsel, the chief financial officer, the chief human resource officer, and the individuals responsible for executive compensation and benefits, communications, employee relations and public relations.
  • Start to collect data. The data required to complete the tables most likely will not be within the purview of one functional area. It is not too soon to determine what data will be needed and who has it - and to start collecting it.
  • Alert actuaries. The increased information regarding compensation earned from pension plans includes some information that requires actuarial calculations.
  • Get the Compensation Committee Up to Speed. Provide a preliminary review of the SEC rules. Follow up with detailed discussions of the specific impact of the disclosure rules on your company. Use company data and facts in "mocked-up" tables and narrative descriptions to educate the Committee.
  • Develop a communications strategy. The new proxy disclosure results in an extremely high degree of transparency about executive pay. Employees and the media are likely to misinterpret and misunderstand the data that is presented. A communication strategy to provide compensation "literacy" to employees and the media needs to be developed and implemented. This strategy should seek to address the organizational and individual implications associated with the expanded disclosure.

* * *

Segal/Sibson consultants and actuaries can be retained to work with employers that sponsor retirement plans to address the requirements and implications of the new SEC executive compensation disclosure rules.

  1. To see the press release, click here. (To return to the Compliance Alert text, click here.)
  2. Statement No. 87, Employers' Accounting for Pensions, and Statement No. 132 (revised 2003), Employers' Disclosures about Pensions and Other Postretirement Benefits - an amendment of FASB Statements, are available on the following page of FASB's Web site: http://www.fasb.org/st/index.shtml#fas156. (To return to the Compliance Alert text, click here.)

Compliance Alert, The Segal Company’s periodic electronic newsletter summarizing important developments affecting benefit plan compliance, is for informational purposes only. It is not intended to provide authoritative guidance. On all issues involving the interpretation or application of laws and regulations, plan sponsors should rely on their attorneys for legal advice.

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