On August 25, 2022, the Securities and Exchange Commission (the “SEC”) adopted final rules on pay versus performance disclosure which require a new approach to disclosing executive compensation. The rules require all reporting companies, except foreign private issuers, registered investment companies and emerging growth companies, to provide disclosure of pay versus performance in tabular form with supporting narrative. Such disclosure must be included in a registrant’s proxy or information statement in which executive compensation disclosure is required beginning with fiscal years ending on or after December 16, 2022. For calendar-year companies, disclosure is required in the 2023 proxy or information statement. Smaller reporting companies (“SRCs”) benefit from a pared-down disclosure framework. Given the complexities of the rules, we recommend companies start preparing their action plan now and begin modeling the disclosure for their 2023 proxy or information statements.
The following template and accompanying footnotes are intended to assist companies as they prepare the required pay versus performance disclosures. Footnotes below the table correspond to the table column with the same letter reference.
Pay Versus Performance Table
| Value of Initial Fixed $100 Investment Based On: | ||||||||
| Year (a) | Summary Compensation Table Total for PEO (b) | Compensation Actually Paid to PEO (c) | Average Summary Compensation Table Total for non-PEO NEOs (d) | Average Compensation Actually Paid to non-PEO NEOs (e) | Total Shareholder Return (f) | Peer Group Total Shareholder Return (g) | Net Income (h) | Company- Selected Measure (i) |
(a) Companies, other than SRCs, must provide information with respect to its principal executive officer (“PEO”) and its other named executive officers (“non-PEO NEOs”) for the last three completed fiscal years in their first proxy or information statement in which such disclosures are required, adding another year of disclosure in each of the two subsequent annual proxy filings (such that for calendar-year companies, starting in 2025, the table will include five fiscal years of information).
SRCs must provide information with respect to its PEO and non-PEO NEOs for the last two completed fiscal years in their first proxy or information statement in which such disclosures are required, adding another year of disclosure in the subsequent annual proxy filing (such that, for calendar-year SRCs, starting in 2024, the table will include three fiscal years of information).
(b) Total compensation as reported on the Summary Compensation Table (the “SCT”) in the proxy or information statement for the corresponding period must be included for each PEO who served during the covered fiscal year. If the company had multiple PEOs during a reportable fiscal year, separate columns must be included for each PEO to report the necessary information and footnotes added indicating the name of the PEO and the relevant period during which the PEO served.
(c) Compensation Actually Paid to the PEO requires a series of adjustments to the amount reported on the SCT as total compensation for the PEO for the applicable fiscal year. Adjustments include consideration of the value of benefits under defined benefit plans adjusted for certain costs, certain stock and option awards, changes in value of awards that are subject to performance conditions, all in accordance with generally accepted accounting principles (“GAAP”). In addition, footnotes should be added that describe amounts that are deducted from, and added to, the SCT amount. For equity awards, footnotes must be included to reflect any assumption made in the valuation that differs materially from those disclosed as of the grant date of such equity awards.
We expect that significant footnotes will be necessary to describe the calculations used to determine Compensation Actually Paid. We also recommend that a disclaimer be included for context since Compensation Actually Paid is a new concept and an abstract number that may not actually represent actual amounts paid to the PEO.
(d) The average summary compensation of the non-PEO NEOs must be disclosed using amounts reported in the SCT.
(e) Average Compensation Actually Paid to non-PEO NEOs should be determined similar to that for the PEO and requires a series of adjustments to the amounts reported on the SCT. Footnotes should be included with respect to the average amounts that are deducted from, and added to, the amounts reported in the SCT, the name of the non-PEO NEOs included, and the fiscal years for which such persons are included.
(f) The Value of Initial Fixed $100 Investment Based on Total Shareholder Return (“TSR”) is calculated based on the same rules as that for the performance table required to be included in a non-SRC company’s annual report under Item 201(e) of Regulation S-K.
SRCs that are not required to disclose a performance graph pursuant to Item 201(e) of Regulation S-K will now need to perform the TSR calculations for the periods disclosed in the table. TSR for these purposes is based on a hypothetical $100 investment beginning at the market close on the last trading day before the earliest fiscal year included in the table. The TSR is reported on a cumulative basis over the fiscal years presented on the table (for example, TSR for the first year in the table will represent TSR over that year, TSR for the next year will represent the cumulative TSR over the first and the second years, and so on).
(g) The Value of Initial Fixed $100 Investment Based on Peer Group Total Shareholder Return is calculated based on the same weighted peer group the non-SRC company uses for the performance table under Item 201(e) of Regulation S-K. SRCs are not required to provide column (g) information with respect to peer group TSR information.
(h) Net income should be calculated as the company’s total revenues minus total expenses for the fiscal year, in accordance with GAAP.
(i) For the Company Selected Measure, the company must disclose the financial performance measure chosen by the company considered to be the most important financial measure used to link compensation actually paid to the PEO and non-PEO NEOs, to the company’s performance for the most recently completed fiscal year. The measure is not required to be reported in the company’s financial statements; however, like disclosure of non-GAAP target levels in the Compensation Discussion and Analysis in the proxy or information statement, if the company-selected measure is a non-GAAP financial measure, the company must disclose how the number is calculated from its audited financial statements. If the financial performance measure that the company believes is most important has already been disclosed in the table, the company must provide the next most important performance measure. While companies are only required to disclose one financial performance measure, they may include additional performance measures they believe are important measures that warrant quantified disclosure. Each additional measure must also be accompanied by a clear description of the relationship between compensation actually paid to the PEO, and on average paid to the non-PEO NEOs, and the included measure. SRCs are not required to provide column (i) information.
Tabular List
In addition to the requirements described above, non-SRC companies must provide a tabular list disclosing at least three, but no more than seven, performance measures that the company believes are the most important performance measures during the most recent completed fiscal year that link compensation actually paid to the PEO and non-PEO NEOs to the performance of the company. These measures are not required to be ranked or listed in order of importance and do not require the description of how they are calculated, as otherwise required for the company performance measures included in the pay versus performance table.
Companies are permitted to include non-financial measures in the tabular list if they consider such measures to be among the three to seven most important measures and they have disclosed at least three (or fewer, if the registrant uses fewer) most important financial performance measures. For clarity, if a company only uses two financial performance measures, they must disclose both before being permitted to include up to an additional five most important non-financial performance measures. However, if a company has four financial performance measures, they need only include three before being permitted to include up to an additional four most important non-financial performance measures.
The tabular list may be disclosed either by listing all performance measures for the PEO and non-PEO NEOs, presenting separate lists for the PEO and for all the non-PEO NEOs, or presenting an individual list for the PEO and each non-PEO NEO.
iXBRL Requirements
Beginning in 2023, non-SRC companies are required to separately Inline XBRL tag each value disclosed in the pay versus performance table, block-text tag the footnotes and relationship disclosure and tag specific data points within the footnotes to the table. For SRCs, the Inline XBRL requirements do not take effect until the SRC’s third filing of a proxy or information statement that contains the pay versus performance table.
Next Steps
Pay versus performance disclosures are complicated and will take time to prepare. We encourage you to begin the analysis and modeling of the table now. Additional information on the new pay versus performance disclosure rules can be found in our Legalcurrents published on August 31, 2022.
If you have any questions about the final rules on pay versus performance disclosure, please contact a member of Harter Secrest & Emery’s Employee Benefits and Executive Compensation or Securities and Capital Markets teams.