Bankers are routinely inundated with “alerts” and “updates” from advisors setting forth current developments in the law as it applies to banks and their business. As authors and recipients of such updates, we understand your pain, but also believe the information conveyed is critical to making informed decisions. However, every so often (now for instance), it’s important to reevaluate established practices and procedures to make sure we’re not forgetting something important.
As we approach year-end, it’s time to focus on compensation-related matters (yes, it’s that time of year already). In just a few weeks, many of us will be gathering in Chicago for Bank Director’s annual Bank Executive & Board Compensation Conference. No doubt, there will be much discussion surrounding the ever-increasing depth and breadth of laws, rules and regulations applicable to the banking industry generally and, in particular, compensation arrangements for directors and executives. But after a few years of focusing on the concept of risk, in all its glory, it’s likely there will be a fair amount of focus on independence this year. Over the summer, the Securities and Exchange Commission (SEC) announced its rules under the Dodd-Frank Act relating to compensation committee independence and, within the last few weeks, the New York Stock Exchange and NASDAQ OMX issued their own rules on independence as required by the SEC.
Independence and Dodd-Frank
The concept of independence for compensation committees—which underlies Dodd-Frank Act §952—is not a new one. The specific Dodd-Frank Act rules might be new, and will require study and may result in changes to your existing practices and procedures, but the concept of independence is familiar and worth revisiting. The rules will require that compensation committee members be independent and have access to independent advisors. What is left unsaid is that the information garnered from those independent advisors should be the basis for—not the end of—independent thought by independent directors. Independent advisors are not a substitute for independent judgment.
Sarbanes-Oxley Act of 2002 (SOX)
This year marks the 10-year anniversary of the SOX. It was enacted in response to the corporate and accounting scandals that came to light around 2002 (Enron, Tyco and WorldCom, just to note a few). SOX focused on corporate responsibility and oversight of the accounting industry. At its root, however, were a few familiar ideas, that a public company have an audit committee, all members should be independent, should have access to independent advisors (auditors should be independent) and should exercise independent judgment.
Global Financial Crisis of 2008 & Risk Assessment
Six years after SOX, the world experienced the global financial crisis. One of the congressional reactions to this crisis was the enactment of the Dodd-Frank Act. The Dodd-Frank Act put the focus squarely on risk assessment of compensation plans. Bank regulators and the SEC reminded us that risk assessment in connection with compensation plans was not a new concept. Banks (and other entities) were directed to mitigate unreasonable risk in compensation programs wherever it was found. There was a focus on risk itself, risk mitigation, risk policies, claw-back of incentive compensation (incentive compensation that may have led to excessive risk-taking) and so on.
Lack of independence on the compensation committee was rightly perceived as a potential risk. To mandate the mitigation of this risk, the Dodd-Frank Act directed the SEC to enact rules, through the exchanges, that would require public companies to ensure their compensation committees are independent with uninhibited access to independent advisors to assist them in the discharge of their duties. Again, the rules may be new, but they are focused on a familiar concept—independence.
This brings us back to the alerts, updates, conferences, seminars and the seemingly infinite sources of industry information. All of the information you obtain, regardless of the source, is of no use unless it’s put to work in an independent decision-making process. Advisors will help to educate you, but it’s up to your board members to exercise independent judgment.