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Issuers should be aware that, beginning October 31, 2011, publicly traded companies will be required to provide enhanced disclosure related to executive compensation, as well as any risks associated with the company’s compensation practices. The amended Form 51-102F6 Statement of Executive Compensation (“Form 51-102F6”) is meant to provide investors with greater insight into the company’s methods for tying managerial incentives to the company’s performance and to highlight any risks that might arise from the compensation plans adopted by the board.
The new requirements are in part a result of the Canadian Securities Administrators’ (“CSA”) findings from their 2009 compliance review of a sample of public companies’ executive compensation disclosure. The CSA found that, while the great majority of sampled companies generally met the then-existing disclosure requirements, most issuers still had to improve their disclosure for future filings. The CSA also considered a number of recent international developments, including the new compensation and corporate governance disclosure requirements contained in the Dodd-Frank Wall Street Reform and Consumer Protection Act adopted by the United States Securities and Exchange Commission.
A particularly important amendment to Form 51-102F6 is the addition of Sub-Section 2.1(5), which creates an obligation to disclose whether the board adequately considered the implications of the risks related to its compensation policies and practices. This disclosure must include a discussion of: (a) the extent and nature of the board’s role in risk oversight; (b) the methods used to identify and mitigate practices that might encourage “inappropriate or excessive risks”; and (c) any identified risks that might reasonably have a material adverse effect on the company. Currently, companies are required to disclose the nature of their compensation plans and what those plans are intended to reward, but the required new disclosure will also consider how those compensation plans might expose the company to potential hazards by encouraging management to take excessive risks that may not be in the company’s best interests.
For example, in addition to describing performance goals, perquisites, events that trigger awards, etc., companies will now be required to disclose, among other things, unlimited incentive plans, performance goals that are weighted heavily toward short-term objectives, and practices which award incentives upon accomplishment of a task while the risk to the company associated with that task extends over a significantly longer period of time. Heightened transparency in these matters is meant to provide investors with greater comfort that performance benchmarks are aligned with the company’s long-term interests.
The amendments also require that companies disclose: (a) where they are exempted from the normal requirements to disclose performance goals on the basis that disclosure would be prejudicial (as well as why the exemption applies); (b) whether any members of management are permitted to purchase financial instruments designed to hedge against or offset a decrease in the market value of securities held by management; and (c) information about any compensation advisor retained by the company, including the advisor’s mandate, other work the advisor has done for the company, and a breakdown of fees paid for each service provided.
Familiarity with the above-described amendments and the risks associated with operating in a given industry will be crucial in ensuring ongoing disclosure compliance. Legal counsel can play an important role in developing explicit policies that address the risks related to compensation plans, as well as assisting with drafting the required executive compensation disclosure and analysis. Because these amendments took effect on October 31, 2011, it is very important to direct the necessary attention to articulating appropriate policies and practices, as well as preparing to properly inform investors of the steps a company has taken to align managerial incentives with shareholder interests.