Scores of intelligent people have written to the SEC asking them to provide an easy means for companies to comply with this section of the law. Many of the same people have asked Congress to repeal it. So, what's all the hubbub?
For those who have not been following the issue, Dodd-Frank had as it primary goal cleaning up Wall Street. Largely, it was a reaction to TARP, "too big to fail", and the Wall Street "fat cats" getting fatter. Section 953(b) was pushed for and trumpeted upon passage by large labor. What does that mean? It means that the large labor unions like it.
Section 953(b) will require issuers of voting proxies who are SEC registrants (generally, companies with US public shares or public debt) to disclose the ratio of compensation of the median employee of a company to that of the CEO. I know, that doesn't sound so bad on the surface. But, here is what is really bad about it:
- The ratio is backwards. If it has any value at all, then CEO compensation should be in the numerator and median employee compensation in the denominator so that the disclosed ratio is (or looks a lot like, just in case the SEC would require more significant digits) an integer. A ratio of 0.0083 is not going to be a number that shareholders can latch on to. A ratio of 120 (its reciprocal), on the other hand would have some meaning.
- The definition of compensation is not what Joe Six-Pack thinks it is. It's not just cash compensation. It includes values of equity awards and grants, and changes in the value of certain nonqualified deferred compensation arrangements, among other things. That latter element is particularly troubling because CEOs of certain companies will be deemed to have earned more money simply because interest rates have fallen.
- The law doesn't just apply to US employees. Suppose, for example, a company is in the rubber business. Well, there just aren't a whole lot of rubber plantations in the world's thriving economies. So, rubber plantation workers don't earn a whole lot of money; it's the nature of their local economies. Yet, this could make the pay ratio look really bad for that company.
- Again, the law doesn't just apply to US employees. Foreign employees usually get paid in their local currency. So, this not very useful pay ratio may fluctuate do to foreign currency exchange rates. And, how will that happen? Well, we don't know. Suppose I worked in a country that uses the Euro (I'm not going to make this overly complicated and use an obscure currency). Further, assume that I get paid twice per month. Does my employer need to take each of my 24 paychecks and convert its value to dollars using the then current exchange rate, or do they get to use one exchange rate for the year? Either way, this process is unnecessarily cumbersome.
- Determining the median employee is not easy. For the mathematically challenged, finding the median of a population entails ranking the entire population and picking the person in the middle. In this case, that means that the company will have to determine the compensation of every single employee worldwide. And, one other thing that we don't know is which employees this includes. Does it include temporary workers, seasonal workers, part-time workers, workers who were hired during the year, workers who terminated employment during the year? Would it be easier if it included those people or not? Would the answer be more useful if it included those people or not?
Finally, we will get a number for each company. And then what? Richard Trumka, President of the AFL-CIO thinks that a reasonable ratio (when the fraction is flipped) is 4. I don't know of a large company in the United States that would have a ratio of 4, unless there was a CEO who voluntarily chose to not be paid in that year. That's just not the nature of CEO compensation. And, with regard to CEOs that I am familiar with, frankly a ratio of 4 would be highly discriminatory against the CEO when compared with unions. In my experience, it's not unusual for a CEO to work 80 hours in a week. If that CEO were in a union, he would get time-and-a-half for overtime, plus shift differentials, double time (or more) on some weekends and holidays, and other bumps. If part-time workers, temporary workers, and workers who were employed for less than the full year were included, the CEO might have a lower effective hourly rate than the median employee.
So, here is where things stand now. On the negative side, the SEC says that the law is clear and that the SEC does not have the power or the flexibility to interpret the law in a way that would appease the commentators. Unless it gets repealed, SEC registrants will have to deal with it.
On the positive side, registrants will not be required to comply with this section until the SEC has regulated it. Looking at the SEC's regulatory calendar, this writer thinks that may not be in time for the 2012 proxy season. Maybe saner heads will prevail by then.