Bank of America/Merrill Lynch Bonus Scandal Shines Spotlight on Compensation Disclosures

In the fallout from unprecedented financial scandals, Wall Street meltdown and downturned economy, corporate executives scrambling to survive may be taking shortcuts or making questionable decisions that could have significant negative impact on shareholders and place their company’s good name and future at grave risk.

One such example took place earlier this year, when Bank of America acquired Merrill Lynch. BofA made the mistake of not properly disclosing Merrill Lynch's plans to pay bonuses in proxy documents sent to shareholders ahead of the vote on the takeover.  The investing public was outraged when it came to light that Merrill Lynch had 2008 losses of $27.6 billion, yet paid $3.6 billion in bonuses to the very executives who were responsible for such enormous losses. 

The Securities and Exchange Commission launched an investigation and ultimately proposed a settlement offer.  The proposal was intended to resolve claims related to BofA’s failure to make such critical disclosures.

However, in September 2009, a federal judge rejected a $33 million BofA settlement because it would be counter to what the court believes should be achieved - greater transparency.  The court said the settlement with a fine would unfairly punish the current shareholders, and the real corporate culprits – directors and officers – would escape responsibility.  The case will go to trial on Feb. 1, 2010, and will focus on whether BofA knowingly hid details about the acquisition from shareholders ahead of a vote to approve the deal.

Given these developments, it is not surprising that the SEC has proposed new compensation rules for the 2010 proxy season.  As discussed by Malin Bergquist’s Michael Pede in the firm’s October 2009 newsletter, the proposal, Proxy Disclosure and Solicitation Enhancements, Release No. 33-9052, would apply to proxy statements, annual reports and registration statements under the Securities Exchange Act of 1934 as well as the Investment Company Act of 1940.  Public company CFOs will feel the impact because the rules would increase their responsibility and accountability to the investing community

If adopted, the proposed rule would expand the Compensation Discussion and Analysis disclosure to include a discussion of the company's overall compensation practices, including compensation for non-executives, if the risks arising from such practices may have a material effect on the company.  This would give investors information on how the company compensates and provides incentives to its employees.  With the federal government’s focus on funding large troubled corporations, also widely known as the "bailout", enhanced compensation disclosures would support investors' voting and investment decisions and create more transparency in the market. 

The issue of disclosure regarding compensation is not only a domestic concern.  In 2008, at the G-20 Summit in London, finance ministers and central bank governors from 20-plus industrial and emerging-market countries – representing 85 percent of the world’s economy – agreed to pursue the compensation principles established by the Financial Stability Board. The FSB is an international organization established to address vulnerabilities and to develop and implement strong regulatory, supervisory, and other policies in the interest of financial stability. 

Those principles called for more effective oversight of a financial institution's compensation practices, a better alignment of compensation with risk, and clear disclosure of compensation practices to stakeholders.  This topic was further discussed in September 2009, at the Pittsburgh G-20 Summit, with a focus on executive compensation in the banking industry. At that summit, G-20 officials agreed to serve as the premier forum for international economic cooperation, and to have the FSB include major emerging economies and continue to coordinate and monitor progress in strengthening global financial regulation.

[Note -- Malin Bergquist was a sponsor of the Pittsburgh G-20 Partnership.]

The SEC believes the proposed disclosures will enable investors to assess the risks and rewards of executive compensation and pay incentives for overall company success.  If enacted, these rules will give investors better and more timely information intended to create increased consumer confidence and stronger, more educated investment decisions. 

Additionally, Shelley Parratt, deputy director of the SEC’s Division of Corporation Finance recently remarked on the reduced leniency by the SEC, saying: “Any company that waits until it receives staff comments to comply with the disclosure requirements should be prepared to amend its filings if it does not materially comply with the rules.” She made her statements during a two-day conference recently held by TheCorporateCounsel.net and CompensationStandards.com.