Senior Officers Compensation Disclosures - Proposed Rule
April 9, 2012
Mr. Gary K. Van Meter
Office of Regulatory Policy
Farm Credit Administration
1501 Farm Credit Drive
McLean, Virginia 22102-5090
RE: Proposed Rule on Executive Compensation Disclosures
Dear Mr. Van Meter:
Farm Credit West, ACA, PCA and FLCA (collectively “FCW”) appreciates the opportunity to comment on the Farm Credit Administration’s (FCA) Proposed Rule regarding requirements for institutions of the Farm Credit System (System) to disclose to stockholders and investors on executive compensation that was published in the January 23, 2012 Federal Register.
The comments that follow were developed after FCW’s participation in a series of teleconferences that were held with System institutions’ bank and association management and counsel. A series of draft comment letters reflecting the consensus of that group was developed and distributed to all participants for further review and concurrence. FCW also held extensive discussions with its board of directors and senior staff members.
FCW is committed to adhering to both the “letter and the spirit” of the Farm Credit Act in regard to timely, meaningful and accurate disclosure of financial information, including information relating to compensation programs. We are also proud of our cooperative style of governance, including the director election process, which relies on active stockholder participation and excludes employees from taking any role in the nomination or election of directors, and precludes employees from serving on the board of directors. These governance procedures continue to serve our association well, and have helped to avoid some of the problems encountered by other financial institutions during recent years. An important aspect of the cooperative structure is that our board truly operates independent of FCW’s management. The events associated with the financial crisis of 2008, and the subsequent reform efforts afterward, including the passage of the “Dodd-Frank” legislation highlight the differences between the compensation practices in publicly traded financial services companies and those of System institutions. In addition to the independence of FCW’s directors, there is no compensation to any employees in the form of stock or stock options, and, therefore, no incentive to seek to “manage” financial performance to increase stock-based compensation. While publicly traded companies are subject to SEC regulation in regard to financial disclosures, most such companies do not have an active safety and soundness regulator reviewing their compensation programs.
As noted in our specific comments that follow, some updating of existing regulations may be appropriate. However, we are unaware of any circumstances where the existing statutory and regulatory framework does not result in comprehensive compensation disclosures to stockholders. We believe that additional regulatory requirements are not necessary given that FCW utilizes appropriate policies and procedures that ensure complete meaningful, timely and accurate compensation disclosures consistent with Generally Accepted Accounting Principles (GAAP), the objectives of the Act and regulatory requirements. As noted in the “Background” section, the other financial institution regulators are considering changes to their regulations regarding incentive based compensation (See SEC release dated March 2, 2011). We believe the FCA should adopt the approach being proposed by other financial institution regulators, i.e., require the establishment of a compensation program that addresses delineated areas and then examine against implementation of that program in light of the particular circumstances of the institution. Given the absence of any significant safety and soundness issues in regard to current compensation programs, it would create little, if any, additional burden on FCA to examine those institutions against their own policies. In the event the FCA was to uncover any unsafe or unsound governance practices in a System institution, it has the requisite enforcement power necessary to correct the situation.
We specifically note that the National Credit Union Administration is participating in the proposed rulemaking referenced above. They do not require compensation disclosures (or a non-binding shareholder vote) for “individual member” credit unions, (but did recently amend their rules in regard to “corporate” credit unions). As you are aware, Sec. 5.17 (a)(8) of the Farm Credit Act provides generally that the requirements of FCA in regard to the preparation of financial statements “may not be more burdensome or costly than the requirements applicable to national banks….”
Finally, we want to reiterate our commitment to complete, accurate financial reporting in accord with industry standards. However, unless there is a compelling business justification based on the System’s unique characteristics, compensation disclosure should be no more detailed than those used by other regulated entities. As more fully described in the specific comments, we strongly object to any requirement for a non-binding “say-on-pay” vote for executive compensation or a change in the current format for reporting senior officer compensation.
1) Nonbinding Advisory Stockholder Vote
· We strenuously object to FCA proposed rules 610.100(a), 611.360, and 611.410 which propose, in certain circumstances, non-binding advisory stockholder “say-on-pay” votes at System institutions. In the preamble to the proposed rule, FCA propounds that such votes will “encourage member participation in the control and management of their institution by providing voting stockholders an opportunity to cast a nonbinding, advisory vote on senior officer compensation.”
We fail to see any logic in FCA’s conclusion. Unless a vote was unanimous, there are inevitably stockholders who will be dissatisfied with the result. The only objective of a vote can be to force a referendum on the board’s decision(s). Because the vote is non-binding, the only result is to undermine the discretion and decision making of the board.
For many years, FCA has promoted director education and development programs on the roles and responsibilities of System boards and has distributed informational material on the subject. USDA has published similar information for farmer cooperatives. Among the consistent themes in those materials are the responsibility of the board to make the best long-term decisions it can for the cooperative, and the need for the board to hire, evaluate, and compensate management. Even with enhanced disclosure of compensation programs, stockholder members will never have all the information board members have when they make these decisions. Indeed much of the information is confidential and should not be made available to the membership.
· Stockholder “say-on-pay” advisory votes came about as a result of the recent financial crisis. Through passage of the Dodd-Frank Act, Congress tailored the “say-on-pay” vote to be required of only public companies and the largest commercial banks as a judgment upon their past sins of excessive pay practices. Congress mandated these votes in an effort to curb excessive compensation and egregious pay practices. Many of the cases Congress cited in the legislative history involved companies with extensive stock option compensation programs, and Congress also noted that these compensation plans provided a strong incentive to maximize short term profits in lieu of longer term profitability. Nowhere in the Dodd-Frank bill passage did legislators identify that a “say-on-pay” would increase stockholder participation. More importantly, through enacting Dodd-Frank, Congress recognized that FCS institutions “were not the cause of the problem, did not utilize TARP funds, and did not engage in abusive subprime lending” and therefore “insisted that the institutions of the FCS not be subject to a number of the provisions of” Dodd-Frank including those related to executive compensation. 156 Cong. Rec. H5246 (daily ed. June 30, 2009) (statement of Rep. Holden). To require the application of “say-on-pay” votes to the System via regulation would be an attempt to skirt the intent of Congress.
Moreover, looking at the other federally regulated financial institutions, we cannot identify any safety and soundness regulator that advances that a purpose for “say-on-pay” votes is to encourage stockholder participation, as FCA asserts.
We also note the following:
· FCW is not an investor owned company. Stockholders do not become members because they expect any kind of “investment return”, or appreciation in stock price.
· FCW was not made subject to applicable provisions of Dodd – Frank, nor were privately owned banks. The only banking institutions subject to “say-on-pay” are large, SEC regulated investor-owned financial institutions.
· We are unaware of any “credible” evidence to suggest that this represents a “best practice” for cooperative institutions, and we unaware of any cooperatives who have instituted the practice.
· Unlike investor owned companies, and in particular the institutions that Dodd-Frank targeted, FCW does not compensate any directors or employees with stock options of any kind. Moreover, no employees serve on the board of directors, or on the compensation committee.
· A stockholder vote would actually undermine the work of the compensation committee (who as noted above does not have employee members). The compensation committee has access to a tremendous amount of compensation information and comparison data that is not generally available to all stockholders.
· A stockholder vote could unduly “politicize” the election of directors, and creates the potential for candidates to run on a platform regarding salary information.
· Current “Best Practice” is to establish programs where executive compensation is dependent on performance. This approach has in fact been encouraged. However, FCW’s performance based compensation program (“PBC”) could at times trigger a non-binding vote, not because of an increase or decrease in base pay, or in the established components of the PBC program, but merely because of high or low achievement of specific quantifiable goals within the program that would, in a given year, result in a 15% increase or decrease in compensation resulting from the PCB payout. This result could undermine the incentive of employees to achieve higher levels of performance. Certainly this could not be the intended result of the “say-on-pay” component of the regulation and is additional evidence of its unworkability.
· Based on information available, the total salary and benefits paid to FCW employees, including senior officers, remains reasonable in relation to the financial services industry in general. Moreover, should a particular institution adopt a program that created undue stress on that institution’s operating rate, FCA currently possesses the necessary enforcement powers to address the problem.
· The experience to date with “say-on-pay” for investor-based companies has been “mixed” at best. Much of the analysis done to date suggests a number of unintended consequences, not the least of which is shareholder lawsuits, even though the votes are supposed to be “advisory”.
Contacting stockholders to request a non-binding vote on an issue about which the stockholders have little information to form an opinion, could very easily dilute the response to the director election ballots – a binding vote with significant impact on the stockholders and the institution. Also, we believe many stockholders would view the cost of a non-binding vote as a misuse of funds of the cooperative. Almost all institutions report that they have never had a request for the supplementary information currently available on senior officer compensation. We strongly object to the requirement in general, and view it as a wholly unwarranted, inappropriate action by a safety and soundness regulator. In addition, FCW has the following practical concerns with the rule as proposed.
Annual Report; Reporting “Say-On-Pay” Vote Results. Proposed 620.5(a)(11) provides that each annual report describe a “say-on-pay” advisory stockholder vote and its results. Assuming such a vote occurs, we request clarification regarding whether a vote occurring after the end of the reporting period (12/31) but before the subsequent events date (3/15) would need to be disclosed in that financial statement. Additionally, we are confused as to the timing of when a “say-on-pay” vote must take place because, depending on the timing of compensation committee decisions, the “say-on-pay” vote may take place based on compensation that was awarded just prior to the vote. It is unclear whether FCA intends (i) that the compensation committee delay compensation decision until after the results of the vote, (ii) a compensation committee is to delay compensation decisions until the results of audited financial statements, or (iii) delay executive compensation incentive payments.
Proposed Rule 611.360 requires System banks and associations to adopt procedures for advisory votes. However, the Proposed Rule offers no guidance, or limitation, on the subject matter for such votes, other than with respect to compensation. Even more troublesome, the proposed regulation calls for institutions to establish procedures that “identify the subject of the advisory vote”. An institution board cannot be expected to anticipate the subjects of interest to stockholders. Again, such votes frustrate the well-established roles and responsibilities of boards of directors in general and, in particular, the boards of cooperatives. As with ”say-on-pay””, we are unaware of any other situations where cooperative boards have adopted such practices. Existing annual meeting practices provide the opportunity for interested stockholders to attend and ask questions of their boards of directors regarding business issues. There is no demonstrated need to hold non-binding advisory votes on any particular issues. (The Act and Regulations already specify the situations where a binding stockholder vote is required.)
2) Compensation Committee Responsibilities
· We believe the existing regulation, coupled with the guidance provided by the FCA through bookletters and other resources, is adequate. Given the tremendous variation in the size and complexity of System institutions, together with the great variation in compensation and incentive programs throughout the System, the Proposed Regulation is too prescriptive, inappropriately injects the regulator into matters that are within a board’s discretion, and results in a “one-size fits all” scheme that might be relevant, if at all, to only the most complex of compensation programs.
· The FCA’s recent bookletter on the subject provides adequate guidance and direction to System boards. The proposed regulation would be unduly costly and burdensome for many System institutions. In the event FCA were to determine that an institution’s compensation committee was not addressing relevant concerns or potential risks, it already has ample tools at its disposal to address any legitimate concerns.
· While we urge the Agency to not adopt this portion of the Proposed Rule, we do note the following practical concerns with the language as proposed.
i. Proposed 620.31(b)(2) states it is a compensation committee responsibility to: (i) review incentive-based compensation programs and payments, (ii) determine that they were not unreasonable or disproportionate to the services performed, and (iii) were structured so the payout schedule considered the potential for future losses or risks to the institution. We have concern that use of the past tense terms “were not” and “were structured” marginalize the compensation committee’s rule to be involved in the design of all compensation plans. We believe “were not” and “were structured” should be replaced with “are not” and “are structured” to provide clarity that a compensation committee is to actively and continuously evaluate the appropriateness of compensation plans in light of compensation philosophy and ensure that those plans appropriately balance risk/reward.
ii. We also have concern with respect to the use of the phrase “structured so the payout schedule considered the potential for future losses or risks to the institution.” Is this language intended to discourage or make obsolete all employee short-term incentive programs used at System institutions? The purpose of this language, as written, is unclear and if implemented we believe would discourage compensation committees from using any type of short-term compensation plan regardless of which employee group is benefitting, without use of a delayed payout date or installation of a claw back provision. If this is FCA’s intention, we object to discontinuing use of short-term pay-for-performance plans that by design are reasonable, competitive, would not pose a safety and soundness issue, and would not result in excessive pay or excessive risk taking.
3) Significant and Material Event Disclosure
FCW supports the notion that stockholders and investors receive timely, effective, and meaningful disclosure of significant and material events that are relevant to the total mix of financial information presented to stockholders. However, in our view, FCA’s proposals are, in some ways, too prescriptive as set out in the following comments.
FCA’s approach in proposed 620.10(c) and 620.15 that all significant and material events be disclosed on the first page of the next quarterly report is too prescriptive. First, we urge FCA to clarify that not all the events cited in proposed 620.15 (a) (2) may be either significant or material. We ask that FCA clarify that System institutions may interpret using accounting principles and legal standards in determining whether disclosure is required. As a general matter, whether an item is a significant event is open to interpretation of accounting rules and the legal standard of materiality. For FCA to make these determinations inflexible inserts FCA into the operations and management of the individual institution. For there to be effective disclosure within periodic reports, mention of the significant or material event should be placed where required by GAAP. As proposed by FCA, a disclosure in regard to a director who chose to resign or retire early, for reasons wholly unrelated to FCW, would be mandated. Similarly, the proposed rule provides that a senior officer’s unplanned separation should be disclosed prominently on the first page of the quarterly or annual report. It is clear that in many cases such personnel matters are neither significant nor material, nor worthy of any “enhanced” disclosure as contemplated by the proposal. We believe FCA’s rule is too rigid and does not consider that, in our experience; most senior officer departures are neither material nor significant to financial condition or operations of the organization. In these common scenarios prominent disclosure of the employee’s leaving may be imprudent and inconsistent with GAAP or advice of counsel because to highlight the person’s absence would be redundant and overstate the significance of their departure. In summary, an employee’s leaving is (and should continue to be) open to FCW’s broad interpretation of materiality. FCA’s rule must recognize that when under GAAP or by advice of legal counsel it would be prudent to disclose the same, institutions will make prominent disclosure of that employee separation.
We also believe that requiring disclosure of a senior officer compensation or departure so prominently in its financial disclosures (as proposed under 620.10(c) and 620.15) without permitting accounting and legal interpretation by the institution will result in adverse effects to FCW employees. If, for instance, we were to discharge a senior officer and enter into a severance arrangement or legal settlement with the departing employee, details of those events will be undeservedly and unreasonably magnified. We believe imposition of disclosure of a terminated senior officer will adversely affect both the company and the ex-employee’s privacy and inhibit the parties’ ability to enter into post-separation agreements. For these reasons, we think FCA should follow a principles-based approach, which grants System institutions the ability to follow GAAP and latitude to interpret the significance and materiality of events, rather than using a directive approach.
Finally, we request clarification that events determined to require disclosure under these rules that occur within 10 business days of the distribution of any quarterly report may be disclosed in the subsequent report to stockholders.
4) Compensation Disclosure
· FCW is committed to clear, complete, and meaningful disclosure of financial information, including information relating to compensation programs, consistent with the Farm Credit Act. We appreciate and understand FCA’s objective to ensure transparency of financial information of System institutions that is both material in relation to the System institution and meaningful to the institutions’ stockholders. Moreover, we endorse FCA’s adoption of rules that would make consistent System institution compensation disclosures and that embrace the System’s current practices in disclosure to holders of System debt obligations.
· Further, the System supports that the compensation discussion and analysis portions of financial disclosures tell a clear story regarding incentive pay risk management.
· Supplemental Retirement Plans. We do not object to FCA’s initiative to increase reporting of obligations and commitments related to supplemental retirement plans, in principle; however, we offer the following comments regarding how, where, and in what form that information should be presented so that the disclosure is more valuable to stockholders and takes into account current business practices.
i. Vested and Unvested Amounts. With respect to proposed 620.5(e)(4), which specifies what supplemental retirement plan information is to be disclosed, some of the required disclosure components are problematic, not meaningful and, if disclosed, would be misleading. It is unclear what value, if any, disclosure of “vested and unvested dollar amounts” associated with SRPs would bring to financial disclosure. To the extent these amounts are ascertainable; they are already contained in footnotes to the Pension Table in the annual financial report. It would be inappropriate to implement a rule that requires breaking out vested/unvested amounts on a per person basis because allocations to these funds are done on a macro basis. We ask FCA to withdraw its requirement that FCS institutions have to calculate vested and unvested amounts for senior officers on an individual basis as it is excessively detailed, not material, would repeat information already contained in the pension liabilities table, and goes beyond GAAP and SEC requirements.
ii. Funded and Unfunded Amounts. With respect to funded and unfunded supplemental retirement plan liabilities, we support disclosure of these amounts in total and as they are aggregated from all plans. Proposed 620.5(e) and 620.6(c)(4) would require that institutions allocate specific amounts of funded and unfunded supplemental retirement plan liabilities per senior officer. We support disclosure of this information in accordance with GAAP, which simply requires reporting of aggregate funded and unfunded pension liabilities. We do not track funded and unfunded amounts on a per-person or other basis. It is confusing whether FCA insists that funded and unfunded pension liabilities are to be broken out per plan and/or on a per-person basis. Nevertheless, we ask FCA withdraw its requirement that FCS institutions disclose funded and unfunded pension amounts on an individual plan basis or on a per-person basis because such disclosure would be excessively detailed, not material, would repeat information already contained in the pension liabilities table, and it goes beyond GAAP and SEC requirements. Providing disclosure beyond a lump sum amount would not provide meaningful information to stockholders and investors.
iii. Supplemental Retirement Plans. Proposed 620.6(c)(4) would require that institutions disclose information related to supplemental executive retirement plans, if provided to chief executive officers, senior officers or other highly compensated employees. If the CEO and senior officers participate solely in pension and retirement plans offered to all employees, the disclosure would not be required. FCA should clarify that such disclosure is not necessary for plans that may now be participated in only by senior officers but that were, at the time they were offered, open to all employees. For example, an institution may have a defined benefit plan that is no longer offered and which currently only consists of senior officer participants. However, at the time the plan was still open for participation it was offered open to all employees.
· Summary Compensation Table; Tax Gross-Ups and Other Tax Payments. Proposed 620.6(c)(2)(B) provides that “the dollar value of any tax reimbursement provided by the institution” be included in the “Deferred/perquisite” column in the Compensation Table. Tax reimbursements simply have nothing to do with deferred compensation amounts and are not naturally thought of as a perquisite. We think it would be more effective and appropriate to include tax reimbursements and other tax payment amounts in the “Other” column of the Compensation Table in proposed 620.6(c)(3). We ask that FCA clarify whether sums contained in the “Deferred/perquisite” column must be aggregated into a lump sum amount. Providing disclosure beyond a lump sum amount would involve disclosure of immaterial amounts and would not be meaningful information to stockholders and investors.
· Summary Compensation Table; “Other” Column. For the Compensation Table proposed in 620.6(c)(3)(ii)(B), perquisites having an annual aggregate value of less than $5,000 need not be disclosed. Based on similar materiality concerns, we think “other” income that does not meet a de minimis threshold should also be exempt from disclosure. We propose that a $5,000 threshold be met before amounts need to be disclosed in the “Other” column. We ask that FCA clarify whether sums contained in the “Other” column are aggregated into one lump sum amount.
· Compensation Information Available Upon Request. Proposed 620.6(c)(2)(ii) provides that beneath the Compensation Table proposed in 620.6(c)(3) there would be a disclosure that, upon request, stockholders may be provided total compensation information for senior officers and others whose annual compensation is at a level among the five highest paid by the institution for the prior year. FCS strenuously objects to expanding the scope of this boilerplate language beyond any person identified as a senior officer per 619.9310. The compensation information of a highly paid non-senior officer (whose annual compensation is at a level among the five highest paid by the institution) should not be made readily available to stockholders and stockholders of related associations because it will result in undesirable human resource and personnel issues. Without a doubt, senior officers of FCW accept their employment position with full knowledge that stockholders and select others may be privy to their total compensation information. In contrast, non-senior officer highly compensated employees do not know when they join FCW or accept a new position that they could become subject to such a disclosure. Further, we have serious concerns that disclosure of compensation information of these highly compensated individuals will lead to competitors poaching FCW employees.
· Descriptions of Compensation, Retirement, Incentive, and other Benefit Plans. Proposed 620.6(c)(5)(ii) states that annual compensation reporting must contain narratives describing “all compensation, retirement, incentive, performance, and other benefit plans” and how these plans fit the FCS institution’s business strategy. We believe that including the word “all” does not take into account that it will result in voluminous and excessive disclosure, beyond GAAP and SEC disclosure requirements and which is not detailed and of little value to stockholders. We urge deleting the word “all” because then compensation disclosures would be lengthier than every other subject in our annual report and based on length would appear far more material than reporting on credit risk, interest rate risk, and important operational and economic matters. In summary, proposed 620.6(c)(5)(ii), if implemented as written will result in a disclosure that is excessively detailed, not material, and goes beyond GAAP and SEC requirements. CONCLUSION
As FCA is aware, FCW is committed to full and adequate disclosure to stockholders and investors. At a national level, the System Audit Committee and System Banks have voluntarily adopted a disclosure program that is designed to mirror, where applicable, SEC reporting requirements, as well as meet FCA regulatory standards. We do not believe that System compensation practices have created undue risk, or that System compensation is excessive in any respect. We strongly oppose ”say-on-pay”” because it is contrary to good governance practices for farmer cooperatives, and contrary to the standards advanced by the NCUA for member credit unions. We encourage FCA to adopt the philosophy of the other federal banking agencies in regard to the operations of compensation committees, by providing guidance and then examining for appropriate safety and soundness. Finally, we urge the FCA to adopt rules regarding disclosure of “Significant and Material Events” that are in fact, “material” as determined in accord with GAAP and other applicable industry standards, and that will be beneficial to stockholders.
Once again, we appreciate this opportunity to comment on the Proposed Rule and trust that our comments and those of other System institutions will assist the Agency. If you have any questions, please do not hesitate to contact me.
Robert E. Amarel Jr.
Director Farm Credit West
Compensation committee member