CEO Pay Ratio: It’s Not Too Late to Calculate!
It is now all but certain that for the 2018 proxy season, most U.S. public companies will be required to provide an additional disclosure regarding their CEO pay ratio. The new rule, which is contained in Item 402(u) of Securities and Exchange Commission (“SEC”) Regulation S-K, requires public companies to disclose the ratio between (i) the median of the annual total compensation of all employees (except the CEO) and (ii) the annual total compensation of the CEO (the “CEO Pay Ratio”). In addition, companies will be required to briefly describe the methodology and assumptions utilized to calculate their CEO Pay Ratio.
Contrary to many people’s expectations, recent survey data from the consulting firm Mercer suggests that CEO Pay Ratios (as calculated pursuant to the proscribed rules) are lowest among banking and financial firms and highest among retailers and wholesalers of consumer goods, which tend to employ more part-time workers with low wages. The survey data suggests that banking and financial firms have estimated their CEO Pay Ratio at mostly 200:1 or less, while retailers and wholesalers of consumer goods have estimated their CEO Pay Ratio at mostly 400:1 or more.
What Employers Should Do Now
As financial companies prepare to comply with this new CEO Pay Ratio disclosure rule, we offer the following practical guidance:
- Identify the team. Ensure that your company has an appropriate team assembled to calculate the CEO Pay Ratio and related disclosure, as well as to establish the appropriate messaging to your company’s workforce, the media, investors, and other stakeholders. It is generally recommended that individuals from the company’s human resources, accounting, payroll, legal, investor relations, and corporate communications functions be involved in the process. It may also be appropriate, depending on the complexity of the company and any company-specific factors, to involve outside legal counsel and/or external compensation consultants.
- Prepare preliminary calculations. Recent guidance from the SEC confirmed that companies have a wide range of flexibility in calculating their CEO Pay Ratio. Be aware of the various alternatives available to your company and how these alternatives may impact the calculation of its CEO Pay Ratio. We recommend that your company prepare preliminary calculations of its CEO Pay Ratio to gain an expectation of what it ultimately will be. By doing so, your company will be better informed of how its CEO Pay Ratio may compare to its peers, how it may be impacted by using alternative methods of calculation, and what types of communication and messaging will be required.
- Compare to peers. After preparing preliminary calculations, we recommend that your company gain an understanding of how its CEO Pay Ratio may compare to its peers and others within the financial services industry. Since a company will generally have limited insight into what the median pay might be at its peers until it is disclosed in their filings, it may be difficult to obtain an exact understanding. However, survey data and custom research is generally accessible through outside third parties. Your company may also be able to obtain a rough sense of how its CEO Pay Ratio may compare to its peers by comparing your company’s internally calculated median pay against the latest publicly available CEO pay of its peers (e.g., as disclosed in their latest Summary Compensation Table).
- Start thinking about the disclosure and messaging. While CEO Pay Ratio disclosures are not expected to inform proxy advisory firm voting recommendations or institutional investor voting decisions this year, it is expected that these disclosures will be a point of focus for labor groups and the media. As such, consider whether to provide additional ratios, supporting data, or narrative discussion within the context of your company’s CEO Pay Ratio disclosure. Also consider developing an overall communication plan to employees to limit potential issues associated with the fact that one-half of your company’s employee population will learn that they are compensated less than the median disclosed employee.
- Keep in mind the corporate governance process. Given this is a new disclosure requirement, it is important to keep management and the compensation committee informed about the process, methodology, disclosures, anticipated communications, and potential risks associated with the CEO Pay Ratio disclosure requirement.
While the new rule goes into effect right around the corner, it is not too late to take the necessary steps to ensure that your company is prepared for the possible implications of the CEO Pay Ratio disclosure requirement.