The tax status of so-called “carried interests,” held by private equity fund sponsors (and benefitting, in particular, the individual managers of those sponsors) is the subject of this post. A decision by the U.S. Court of Appeals for the First Circuit holding that a private equity fund was engaged in a trade or business for purposes of the withdrawal liability provisions of ERISA (Employee Retirement Income Security Act) has caused considerable comment on the issue of whether a private equity fund might also be held to be in a trade or business (and not just a passive investor) for purposes of capital gains tax treatment on the sale of its portfolio companies. Proposed federal income tax legislation, beginning in 2007 and continuing into 2013, also has raised concern as to the status of capital gains tax treatment for holders of carried interests. The following post addresses both of these developments.
Posts Tagged ‘Joseph Bachelder’
Today’s post considers what might be done in the design of executive pay to encourage commitment by executives to the longer-term interests of their employers.
A very interesting examination into design features in an incentive program that puts emphasis on long-term considerations of executive pay is contained in the proxy statement for Goldman Sachs. (Elements of this program discussed below have been developed by Goldman Sachs over a period of years—the CD&A section of the 2013 proxy statement provides a description of the program.) Following are two interesting aspects of that program.
Today’s column focuses on new rules of the New York Stock Exchange (NYSE) and the NASDAQ Stock Market (NASDAQ) concerning independence requirements for directors who are members of compensation committees. The new rules must be complied with by listed companies by the earlier of the first annual meeting of shareholders after Jan. 15, 2014, or Oct. 31, 2014. 
NYSE Listed Company Manual Section 303A.02(a)(ii) contains the following requirements regarding compensation committee member independence (references to an NYSE Listed Company Manual Section hereinafter will be referred to as NYSE Section):
[I]n affirmatively determining the independence of any director who will serve on the compensation committee of the listed company’s board of directors, the board of directors must consider all factors specifically relevant to determining whether a director has a relationship to the listed company which is material to that director’s ability to be independent from management in connection with the duties of a compensation committee member, including, but not limited to:
“Then you should say what you mean,” the March Hare went on.
“I do,” Alice hastily replied; “at least—at least I mean what I say—that’s the same thing, you know.”
“Not the same thing a bit!” said the Hatter. “You might just as well say that ‘I see what I eat’ is the same thing as ‘I eat what I see’!”
Alice in Wonderland, Lewis Carroll (1865)
The Preamble to SEC Disclosure Regulations (2006)  states: “We believe that plain English principles should apply to the disclosure requirements that we are adopting, so disclosure provided in response to those requirements is easier to read and understand. Clearer, more concise presentation of executive and director compensation…can facilitate more informed investing and voting decisions in the face of complex information about these important areas.”
To which the Mad Hatter might have responded: “You can assume plain English conveys clear thinking, but what happens if plain English is not fed by clear thinking?”
Today’s post addresses the increasing influence of institutional shareholders on executive pay. Prior posts have examined the role of proxy advisors in giving advice on how shareholders, especially institutional shareholders, should vote on say-on-pay under Dodd-Frank Section 951.  Today’s discussion focuses on the institutional shareholders themselves.
While institutional shareholders own a major portion of the share value of U.S. public corporations, the “ultimate owners” are, to a large extent, millions of individuals for whose benefit the equity in these corporations is being held by the institutional shareholders. (These individuals will be referred to in the post as “ultimate owners.”)
The original setting-aside of the assets that are the source of these investments is made by the individuals themselves or by others on their behalf (such as by their employers). These assets of the ultimate owners are being held for purposes such as educating children, providing for retirement, protecting against casualty and providing health and life insurance.
This column looks at four circumstances having special impact on the governance of executive pay today and then focuses on one of them, proxy advisers (with particular attention to the largest one, Institutional Shareholder Services (ISS)). It concludes with suggestions as to steps that might be taken to better regulate proxy advisers.
Four Influential Factors
Increasing Complexity of the Executive Pay Discussion. Discussions of executive pay in proxy statements are often extremely complex and lengthy (frequently 30 to 40 pages of narrative and tables). Many companies are putting into the Compensation Discussion and Analysis (CD&A) their own tables (most especially their own competing version of the Summary Compensation Table) in order to express their own views on the correct way to explain and justify executive pay at the issuer. It has become a challenge to understand any one company’s executive pay arrangements and an even greater challenge to understand how that company’s executive pay arrangements relate to those at competitor companies.
Institutional Shareholders. Institutional shareholders represent an overwhelming proportion of the vote at publicly traded companies. (They own approximately 75 percent of the market value of exchange- traded companies.) These institutional shareholders owe a fiduciary duty to the persons who own their shares or are beneficiaries of the trust funds managed by them. This duty includes understanding how the companies in which they have invested are managed, including management of executive pay. The explosion of data noted in the preceding paragraph has meant a challenge to these institutional shareholders in trying to understand the executive pay practices at thousands of companies that they (collectively) are investing in.
Thus far during the 2011 proxy season approximately 2500 of the Russell 3000 index companies have reported a Say-on-Pay vote. Say-on-Pay is a nonbinding vote by a company’s shareholders on its executive pay program.  A majority of the votes cast at approximately 98½ percent of these companies was favorable to the executive compensation program at the company. In fact, at the companies with favorable say-on-pay votes an average of 90 percent of the votes cast were in favor of the compensation program under review.
Those favorable votes occurred at the same time that large institutional shareholder advisors such as Institutional Shareholder Services Inc. (ISS) and Glass, Lewis & Co., LLC (GL) were recommending that shareholders vote against executive pay at hundreds of these public companies. ISS recommended negative votes at 340 companies (as of Sept. 1) and GL recommended negative votes at 474 companies (as of June 30).
Approximately 40 public companies have had a majority of votes cast at their shareholder meetings held during 2011 that were negative on executive pay programs. Shareholders at approximately 10 of these companies have brought lawsuits based on these negative votes.
Say-on-pay has completed most of its first proxy season under the Dodd-Frank Wall Street Reform and Consumer Protection Act.  For this purpose, say-on-pay means a non-binding vote by shareholders of a publicly traded company pursuant to Dodd-Frank Section 951 to approve or disapprove the executive compensation program at that company. 
During the 2011 proxy season so far approximately 40 companies in the Russell 3000 have reported that a majority of their shareholder votes disapproved of the executive pay program at the company. This represents about 2 percent of the approximately 2,300 companies in the Russell 3000 that have had say-on-pay votes so far during the 2011 proxy season.  At another approximately 130 companies, between 30 percent and 50 percent of votes cast were negative votes or abstained. (Abstentions were very few.) Thus, during the 2011 proxy season so far, approximately 170 companies in the Russell 3000 had less than 70 percent of votes cast in favor of the company’s pay programs. 
As used in this post, “clawback” means a repayment of previously received compensation required to be made by an executive to his or her employer. Three federal statutes that provide for clawbacks are discussed in this post. They are:
- 1. Sarbanes-Oxley Act of 2002 (SOA) §304; 15 U.S.C. §7243(a);
- 2. Emergency Economic Stabilization Act of 2008 (EESA) §111(b)(3)(B), as added by Section 7001 of the American Recovery and Reinvestment Act of 2009 (ARRA); 12 U.S.C. §5221(b)(3)(B) (applicable only to recipients of assistance under the Troubled Asset Relief Program (TARP) that have not repaid the Treasury); and
- 3. Dodd-Frank Wall Street Reform and Consumer Protection Act (DFA) §954, 15 U.S.C. §78j-4(b).
A summary comparison of the three statutory clawback rules is provided in the chart below.
On Feb. 7, 2011, the Federal Deposit Insurance Corporation (FDIC) approved a proposed rule regarding incentive-based compensation at covered financial institutions pursuant to Section 956 of the Dodd-Frank Wall Street and Consumer Protection Act, 12 U.S.C. §5641 (2010). Subsequently, the National Credit Union Administration (NCUA) (Feb. 17) and the Securities and Exchange Commission (SEC) (March 2) approved their own versions of the proposed rule (each version being very much the same as the FDIC’s). Four other agencies are expected to approve their own similar versions of the proposed rule shortly.