On February 4, 2009, the Treasury Department announced it was issuing a new set of “guidelines” on executive pay for financial institutions receiving governmental assistance.  The Treasury states that its new guidelines are intended to strike a balance between the need for monitoring and accountability with the need for financial institutions to fully function and attract needed talent.

The new guidelines provide only minimal additional obligations for companies that have participated (or will participate) under the TARP Capital Purchase Program.  The majority of new restrictions are limited to new “exceptional assistance” or future programs that are “generally available capital access programs.”  However, the guidelines also provide a road map for future reforms that would affect all financial institutions, whether they receive governmental assistance or not.

New Requirements for All Companies Receiving Assistance

All companies that have received governmental assistance, or that will receive any assistance, must provide an annual certification signed by it chief executive officer that the company has “strictly complied” with all statutory, Treasury and contractual executive compensation restrictions.  In addition, the compensation committee of such companies must “provide an explanation” of how their senior executive compensation arrangements do not encourage excessive and unnecessary risk-taking.

Road Map for Future Requirements for All Financial Institutions

The Treasury is beginning to look at developing model compensation policies for the future, and has identified the following steps as part of that process.  These steps are inherently forward-looking, and many may be significantly revised, or abandoned, before they become reality.  Similarly, this road map may also indicate where the SEC is headed for all public companies.

  • Requiring compensation committees of all public financial institutions (whether or not they have received governmental assistance) to review and disclose compensation arrangements and explain how they are consistent with promoting sound risk management and long-term value creation.
  • Compensation practices should encourage a long-term perspective; perhaps requiring top executives to hold stock for several years before it can be cashed-out.
  • Shareholders of financial institutions should have a non-binding resolution on both levels of executive compensation and structure of compensation incentives.  This is commonly referred to as a “Say on Pay” provision.
  • Treasury Department will host a conference to explore best practices and guidelines on executive compensation arrangements for financial institutions.

New Requirements for Future Generally Available Capital Access Programs

If the Treasury adopts a subsequent capital program, like the TARP Capital Purchase Program, that is broadly available on the same terms for all financial institutions, then the following requirements will apply.  The announcement explicitly provides that these new requirements will not apply to existing programs, such as the TARP Capital Purchase Program.

  • Senior executives will be limited to $500,000 in total annual compensation plus any restricted stock, unless waived by the shareholders have full public disclosure.
  • Compensation arrangements of all employees, and not just senior executives, will need to reviewed to confirm that they don’t encourage excessive and unnecessary risk taking.
  • The limitation on parachute payments will be reduced to an amount equal to one year’s compensation, as opposed to three years under the TARP Capital Purchase Program.
  • In addition to the clawbacks for the top five executives in the event of false financial statements or performance metrics, the next 20 executives would also be subject to cutbacks if they are found to have knowingly engaged in providing inaccurate information relating to financial statement or performance metrics used to calculate their own pay.
  • The board of directors must adopt a “Luxury Expenditures” policy for any expenditures, company-wide, related to aviation services, office and facility renovations, entertainment and holiday parties and conferences and events.  This new policy will need to be placed on the company’s website.

New Requirements for Future “Exceptional Assistance”

Companies receiving “exceptional assistance” beyond a generally available capital access program, will be subject to the following restrictions.  The Treasury is expressly not making these requirements applicable to the institutions that have previously received “exceptional assistance:” AIG, Citi and Bank of America.

  • Senior executives will be limited to $500,000 in total annual compensation plus any restricted stock.
  • Any pay beyond the $500,000 must be made in restricted stock, or other similar long-term incentive arrangements, that can only be converted to cash after the government has been repaid (or other specified periods based on performance).
  • The senior executive compensation, and the rationale behind it, but be fully disclosed and submitted to a non-binding shareholder resolution.
  • Top 10 senior executives are prohibited from receiving “any” golden parachute payment upon severance.  The next 25 executives will be prohibited from receiving any golden parachute payment greater than one year’s compensation upon severance.
  • Comparable clawback and Luxury Expenditure provisions as for future generally available capital access programs.