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Greed is .... disclosable.  Crunch time at hand for executive pay?
New proxy disclosure rules from the Securities and Exchange Commission will curb excessive executive compensation.
Martin R. Rosenbaum
Minneapolis Star Tribune
Tuesday, August 7, 2006

In the climactic scene of the film "Wall Street," takeover artist Gordon Gekko recites the memorable line, "Greed is good."

Gekko's point is that the basic capitalist desire for personal profit -- massive personal profit -- drives our economy.  Maybe so, but in the final reel, it turns out that Gekko's version of greed is based on cheating -- in that case, insider trading.

Unfortunately, in the real world, there's nothing fictional about corporate scandals.  Over the past several months, many companies have been criticized for mind-boggling grants of stock options and other huge compensation awards to executives.  Lately, a bigger scandal has been brewing -- a growing number of public companies are being investigated for backdating stock options, which basically is cheating the system to increase the value of their compensation.

Enter the U.S. Securities and Exchange Commission (SEC).  Trying to play the hero, the SEC has just approved an overhaul of its regulations governing the disclosure of executive pay. The new rules will be effective starting in early 2007.

To combat backdating, the new rules will require extensive disclosures about a company's option-granting practices.  This won't have a big effect, because the backdating problem was largely solved several years ago.  The lion's share of the reported abuses occurred before 2002, when other SEC reporting rules were stiffened to require that option grants be reported publicly within two business days.  The 2002 change did not eliminate backdating, but it did make it much more difficult.

However, in regulating other compensation practices, the new disclosure rules will have a bigger impact than many observers think, especially in the case of the most extreme abuses.

Investors continue to express outrage over reports of huge executive paychecks.  Consider recent reports about compensation practices at UnitedHealth Group, including the $1.6 billion worth of stock options granted in recent years to CEO William McGuire.  UnitedHealth spokespersons justify high executive compensation levels with a "rising tide lifts all boats" argument.  That is, option-related wealth is performance based, and the huge increase in the value of company stock has increased wealth for all stockholders, not just executives.  And, yes, management of that company did create tremendous value for stockholders.

However, the real issue is the propriety of the compensation decisions over the years by the board's compensation committee.  The UnitedHealth executives already had large stock options giving them built-in incentives to increase the company's value, but the committee continued to grant millions of shares of stock options to them every year.  Only recently, after a public outcry, did the company announce that it was stopping the practice for its most senior executives.

Certainly this is not an isolated example;  there are many cases of uncontrolled compensation practices at public companies.  Investors have been especially outraged about exorbitant perks and payments to executives who retire or who leave after their companies are sold.  For years, institutional investors have tried to hold directors accountable.  These voices are starting to be heard.

New SEC rules

The SEC's new disclosure rules will require:

  Expanded compensation tables in proxy statements, including a "total compensation" figure for each top executive;  more information about existing holdings of stock options and other equity interests, and more disclosure of retirement and other post-employment benefits, including payments due after a change in control.

  More detailed disclosure of the nature of executive "perks," with the disclosure threshold lowered from $50,000 to $10,000.

  A new section in the proxy statement, to be written in plain English, giving a detailed justification of the reasons for the types and amounts of compensation granted to executives.

The new rules don't limit compensation, so will they stop the increase in executive compensation?  After all, more disclosure of executive pay levels could heighten the "Lake Wobegon Effect" -- all executives are considered "above average."

But for the most serious cases of excessive compensation, the new disclosure rules will have a greater impact than many commentators think.  Board members will have to justify troublesome compensation decisions in greater detail than ever before.  This comes at a time when several other factors have increased directors' sensitivity about how these decisions are perceived.

First, directors who approve excessive compensation have been increasingly faced with the prospect of "vote no" campaigns at shareholders meetings by institutional investors and advisory groups.  Institutional investors have pressured many public companies (so far including 145 of the Fortune 500) to implement so-called "majority voting" standards, which make it easier to vote a director out of office.

Second, there has been an increasing trend of shareholder lawsuits against directors about executive pay, such as the lawsuit over the huge severance package Walt Disney Co. gave to Michael Ovitz.

Faced with such pressures, corporate directors will be more careful about granting the most problematic types of compensation such as rich retirement programs and executive perks -- especially in cases where the company's performance is less than stellar.

So pop up some popcorn and keep watching -- it's going to get interesting.

About the Author:
Martin R. Rosenbaum is a partner in the Minneapolis law firm of Maslon Edelman Borman & Brand who specializes in advising companies on executive compensation, corporate governance issues and securities law.  His e-mail is