U.S. House Financial Services Committee Passes Executive Compensation Reform

The United States House Financial Services Committee issued the following press release today, July 29, 2009:

Bill would rein in compensation practices that led to excessive risk-taking; House consideration is expected on Friday

Washington, DC – Today, the Financial Services Committee approved legislation to put an end to the perverse compensation practices that encourage executives to take excessive risk at the expense of their companies, shareholders, employees, and ultimately the American taxpayer.  H.R. 3269, the Corporate and Financial Institution Compensation Fairness Act, would prevent a return to a “heads I win, tails I break even” compensation system that contributed to recent financial collapse. The measure, which passed by a vote of 40-28, is the first piece of a larger regulatory reform package now being crafted by the Committee to address the causes of this crisis.

“This bill is the first step towards comprehensive financial regulatory reform,” said Financial Services Committee Chairman Barney Frank (D-MA).  “I look forward to having this bill on the House floor soon, and I also look forward to changing the status quo.”

Specifically, H.R. 3269 would give shareholders a “say on pay” for top executives and ensure that they have a nonbinding, advisory vote on their company’s pay practices. In addition, the bill would require federal regulators to proscribe inappropriate or imprudently risky compensation practices as part of solvency regulation of all financial institutions. Financial firms would also be required to disclose any compensation structures that include incentive-based elements.

Recognizing the need to take the size of financial institutions into account, the Committee also adopted Rep. Jeb Hensarling’s (R-TX) amendment today that would exempt financial institutions with assets of less than $1 billion from the bill’s incentive-based compensation disclosure requirements and related compensation structure oversight.  As a result of the amendment, Rep. Joe Baca (D-CA) said:

“The bill that passed out of Committee today reins in excessive compensation and ends the perverse incentives that caused too many executives to engage in overly risky behavior.  I offered my amendment to exempt credit unions because I was concerned the legislation would force an unfair burden on innocent parties that had nothing to do with our current financial crisis.  I withdrew my amendment after working with the Chairman and Rep. Hensarling to reach a responsible compromise that would exempt smaller credit unions and financial institutions.”

Today’s legislation comes in response to a broad consensus of leading finance experts, including Paul Volcker and the Group of 30 and Lord Turner of the United Kingdom’s Financial Services Authority, who believe that compensation structures were a factor in the financial crisis.  Both the United Kingdom and the European Union are contemplating similar rules.

The Committee today also amended H.R. 3269 in the following ways:

Manager’s Amendment (Frank D-MA) – The manager’s amendment contains mostly technical changes to clarify intent, conform to existing provisions of securities law, and promote internal consistency within the bill, but also makes the following substantive changes:

• Adds a provision that would allow the SEC to exempt certain categories of issuers from the say-on-pay requirements where appropriate, taking into account, among other considerations, the potential impact on smaller reporting issuers;

• Clarifies that the compensation committee independence standards apply only to public companies, not to companies that have only an issue of publically registered debt;
• Requires that the independence standards for compensation consultants to be promulgated by the SEC are “competitively neutral among categories of consultants and preserve the ability of compensation committees to retain the services of members of any such category”;
• Deletes a provision that requires an issuer’s annual disclosure of whether it used an independent compensation consultant to include an explanation of why it chose not to use a consultant;
• Specifically provides that financial companies that do not have incentive-based payment arrangements are not required to make disclosures regarding incentive-based payment arrangements; and
• Narrows the scope of the regulators’ authority to prohibit compensation structures by rule to allow such prohibitions only of incentive-based payment arrangements (as opposed to any compensation structures or incentive-based payment arrangements) of covered financial institutions.

Mrs. Kilroy (D-OH) – Requires at least annual reporting of annual say-on-pay and golden parachutes votes by all institutional investors, unless such votes are otherwise required to be reported publicly by SEC rule.

Mr. Hensarling (R-TX) – Exempts financial institutions with less than $1B in assets from the incentive-based pay provisions in section 4.

Mr. Hensarling (R-TX) – Requires the GAO to study the correlation between compensation structure and excessive risk-taking and report to Congress within one year of enactment.  Factors to be considered include compensation structures used by companies from 2000-2008, and a comparison of companies that failed, or nearly failed but for government assistance, and companies that remained viable through the market turmoil of 2007-2008.  

Mr. Price (R-GA) – Provides that compensation approved by a majority say-on-pay vote is not subject to clawback, except as provided by contract or due to fraud to the extent provided by federal law.

Mr. Hensarling (R-TX) – Adds Fannie and Freddie to the list of financial institutions subject to the incentive-based pay provisions of section 4 and adds FHFA as a financial regulator with rulemaking authority for such provisions.