The NYSE and Nasdaq Finalize New Rules for Compensation Committees

The New York Stock Exchange and Nasdaq have finalized changes to their listing standards relating to compensation committees. The changes, which were mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act, pertain to the independence of compensation committee members and their responsibilities when retaining advisers. Issuers must comply with the new compensation committee independence rules by the earlier of their first annual meeting after January 15, 2014 and October 31, 2014. The deadline for complying with the compensation committee adviser rules is July 1, 2013.

Both exchanges are granting exemptions from the new requirements for controlled companies, foreign private issuers (including MJDS issuers) and other issuers that are generally exempt from the U.S. stock exchanges’ corporate governance standards. Issuers taking advantage of this must comply with existing disclosure requirements – that is, NYSE-listed issuers must disclose any significant differences between their own practices and the NYSE’s rules, and Nasdaq-listed issuers must disclose each Nasdaq practice that they do not follow.

New NYSE Requirements

Independence of Compensation Committee Members

The NYSE already requires listed issuers to have fully independent compensation committees. The new rules require that when boards of directors make independence determinations, they must apply the existing independence tests as well as consider the following additional factors:

• the sources of a director’s compensation, including any consulting, advisory or other compensatory fee from the issuer or from any other source that would impair the director’s ability to make independent judgments about executive compensation;
   
• whether the director is affiliated with the issuer, a subsidiary or an affiliate of a subsidiary, and whether this places the director under the control of the issuer or its senior management or otherwise creates a relationship that would impair the director’s ability to make independent judgments about executive compensation; and
   
• any other factor that materially affects the director’s ability to be independent in carrying out the duties of a compensation committee member.
   

Although a director’s stock ownership will be relevant in the above analysis, the NYSE has stated that even a significant ownership stake will not necessarily preclude a finding of independence.

Advisers to Compensation Committees

Compensation committees must have the authority to retain, supervise and fund compensation consultants, legal counsel and other advisers, and these matters must be set out in the compensation committee’s charter. Advisers need not be independent, but before obtaining advice from an adviser, compensation committees will have to consider any factors bearing upon the adviser’s independence, including the following: (i) other services that the adviser provides to the issuer; (ii) the fees paid to the adviser in relation to the adviser’s total revenue; (iii) the adviser’s policies and procedures in respect of conflicts of interest; (iv) the adviser’s business or personal relationships with the issuer’s executive officers and compensation committee members; and (v) the adviser’s stock ownership in the issuer.

As exceptions, no independence assessment is required in respect of in‑house legal counsel or any adviser whose role is limited to (i) consulting on a broad‑based plan that does not favor executive officers or directors in scope, terms or operation and that is available generally to all salaried employees; or (ii) providing information that either is not customized for a particular company or is customized according to parameters that are not developed by the compensation consultant and about which the compensation consultant does not provide advice.

New Nasdaq Requirements

Independence of Compensation Committee Members

Nasdaq‑listed issuers will be required to have fully independent compensation committees comprising at least two members and governed by a formal written charter; the option of having a majority of the board’s independent directors fulfill this function will no longer be available. In addition to satisfying Nasdaq’s existing tests for independence, compensation committee members will, like audit committee members, be prohibited from accepting, directly or indirectly, any consulting, advisory or other compensatory fee from the issuer or a subsidiary (other than board and committee fees and certain retirement compensation). This prohibition makes Nasdaq’s rules stricter than the NYSE’s and Canadian requirements. Significant stock ownership will not prevent a compensation committee member from being considered independent. However, boards of directors will have to consider, before determining that an affiliated director is independent, whether such affiliation would impair the person’s judgment as a member of the compensation committee.

Advisers to Compensation Committees

As under the NYSE rules, compensation committees must have the authority to retain, supervise and fund compensation consultants, legal counsel and other advisers. The committee will also have to consider an adviser’s independence before obtaining advice. The independence factors and related exemptions are the same as listed above for NYSE-listed issuers.

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