On June 20, 2012, the Securities and Exchange Commission adopted new Rule 10C-1 under the Securities Exchange Act of 1934. National securities exchanges are now required (1) to consider new independence requirements for members of compensation committees of most listed companies, and (2) to mandate that such committees be empowered to retain advisers with funding from the issuer, after consideration of the independence of the adviser. The Commission's rulemaking also imposes a new requirement to make proxy statement disclosure of the nature of any conflict of interest raised by the use of compensation consultants.
The national securities exchanges must propose their new rules for SEC approval by September 25, 2012. Exchange rules must be approved by the SEC and in place no later than June 27, 2013. The new disclosure requirements will first apply to a proxy or information statement for an annual meeting of shareholders (or a special meeting in lieu of the annual meeting) at which directors will be elected occurring on or after January 1, 2013.
Compensation Committee Independence
How did we get here?
Members of the compensation committees of listed issuers are already required to be "independent." The NYSE adopted rules in 2003 requiring each listed company to have a compensation committee made up entirely of independent directors. NASDAQ adopted standards in 2003 requiring that the compensation of the CEO and officers of listed companies be determined or recommended to the board for determination by either a majority of the independent directors or a compensation committee made up entirely of independent directors.
The existing NYSE and NASDAQ requirements utilize definitions of independence that apply to directors generally.1 Under NYSE rules, in order to be considered independent, the board of directors must make a determination that the director has no material relationship with the company. Certain relationships preclude a determination of independence. Among other things, a director is not considered independent if, during the previous three years, the director received, or has an immediate family member who received, more than $120,000 in direct compensation from the listed company in any year, other than director and committee fees and other specified types of payments. Also, a director is not independent if he is currently employed or has a family member who is currently employed by another company that during the past three years has made payments to or received payments from the listed company in an amount that exceeds, in any fiscal year, the greater of $1 million or 2 percent of the other company's consolidated gross revenues. NASDAQ has comparable requirements with, in some cases, different numerical thresholds.
Against this backdrop, notwithstanding these existing independence requirements, section 952 of the Dodd-Frank Act, enacted July 21, 2010 amid increasing public scrutiny of executive compensation, required the SEC to direct the national securities exchanges to adopt listing standards requiring that compensation committees be "independent." The statute instructed the SEC to direct the national securities exchanges, in determining the definition of independence for compensation committee members, to "consider relevant factors, including (A) the source of compensation of [the member], including any consulting, advisory, or other compensatory fee paid by the issuer to [the member]; and (B) whether [the member] is affiliated with the issuer, a subsidiary of the issuer, or an affiliate of a subsidiary of the issuer."
The SEC has now by rule directed the national securities exchanges to act in accordance with the statutory mandate.2 In making this direction, the SEC declined to specify any additional factors that the exchanges should consider, beyond the two mentioned in the statute. Also, the rule does...