Sidney Carton And Charles Darnay On The SEC Guillotine

September 18, 2013

There are four Securities And Exchange Commission commissioners and one Chair. Clearly, two of the commissioners are not happy campers when it comes to the SEC proposed rules involving "Pay Ratio Disclosure,"  which was presented to the SEC in tandem with a proposal about "Municipal Advisors Disclosure." Commissioners  Michael S. Piwowar and Daniel Gallagher have published their barbed commentaries on what they each see as misguided regulation.

As with many industry pundits, I see merits and demerits in both proposals -- and I agree with and disagree with some of the commentary of Commissioners Piwowar and Gallagher. As such, knock yourself out, reach whatever conclusion you will.

What I do find a tad amusing are the literary flights of both dissenting commissioners.  I mean, you know, there is reasoned dissent and then there is hyperbole.  There is impassioned defense and then there is melodrama.  There is fostering a collegial atmosphere and there is the principle of standing up for your beliefs. Whether such lines are crossed by Piwowar or Gallagher, I again leave to your sensibilities.  Certainly, the days of using Mary Schapiro as a pinata are gone.  Hopefully, Mary Jo White has a thick hide.

"Pip" Piwowar?

In his September 18, 2013, Statement at Open Meeting Regarding Municipal Advisors and Pay Ratio Disclosure, Commissioner Piwowar, who was only recently sworn in on August 15, 2013, regales us with the famed opening from Dickens' "Tale of Two Cities":

It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of Light, it was the season of Darkness, it was the spring of hope, it was the winter of despair, we had everything before us, we had nothing before us, we were all going direct to Heaven, we were all going direct the other way.

Apparently, Commissioner Piwowar views the municipal advisor proposal as the best of times but the pay ratio proposal as the worst.  Pointedly, Piwowar applauds the consideration by the Staff of comments and criticisms pertaining to the muni proposal:

These changes illustrate what is best about the Commission's rulemaking process.  We engaged the public to identify areas for improvement in the proposal, and then crafted a final rule that incorporates what has been learned. 

Alas, Commissioner Piwowar feels that there is room for improvement, and he sets forth his grievance by noting:

I have been a Commissioner for only 34 days and already have been forced to vote on a 500-page credit risk retention rule reproposal, as well as make important decisions on dozens of other complex issues.  As a result, I repeatedly requested that the Chair allow one or two additional weeks of review for this important rulemaking.  This extra time would have significantly improved my ability to live up to the oath that all Commissioners take to "well and faithfully discharge the duties of the office," and would have helped ensure that the municipal advisor registration release reflected the full input of all Commissioners.  However, my repeated requests to defer today's vote, even for a handful of days, were denied.

The inflexibility in the date of this meeting is particularly frustrating given that it has been 1,155 days since the enactment of the Dodd-Frank Act and 1,113 days since the Commission adopted the interim final temporary municipal advisor rule.  In this context, a 7- or 14-day delay would have had a de minimis effect on the rule's overall timeline and would have been an insignificant change to the Commission's overall rulemaking agenda. 

Chair White, I hope that we can work together in the future to find ways to satisfy your personal desire to "get stuff done" and our shared obligation to "get stuff done right."

Even with my reservations that the adopting release was not given the time and attention that it deserved to ensure that it is the best product it could be, I support the staff's recommendation. . .

Okay, not exactly Kumbaya and a tad more like getting a couple of shots in on some defenseless player under a football pile but, hey, it's the ends that justify the means at the SEC, or so it seems. You'd sort of think that the new guy might wanna walk around on eggshells for a few weeks, at least, before chastizing the new SEC Chair -- but maybe that's old school and I'm dating myself. What happened to the days when such internecine disputes were handled quietly and behind closed doors? We need only cast a glance at the Supreme Court or Congress to realize that its a new age of grab 'em by the throat and choke the life out of 'em. 

Bottom line, Commissioner Piowar took his shots, staked out his position, roared for the commonweal, but still came down in support of the munie recommendations.  A bit of a long "NO BUT YES;" however, thankfully, once we got around the detours and side trips we arrived at his destination. 

One must wonder, however, whether Chair White will cite to her colleague Dickens' equally famous line, said by Sidney Carton when he stepped up to the guillotine in Charles Darnay's place (and perhaps White may make a veiled reference that this gallantry could suit Piowar?):

It is a far, far better thing that I do, than I have ever done; it is a far, far better rest that I go to than I have ever know.

Saying adieu to the French Revolution and without so much as pulling his literary punch, Piowar then sets another scene by warning that:

The second item on our agenda, the pay ratio disclosure proposal, represents what is worst about our current rulemaking agenda.

I am not only unable to support the pay ratio disclosure proposal, I object to the Commission even considering it.  The Commission should not be spending any of its limited resources on any rulemaking that unambiguously harms investors, negatively affects competition, promotes inefficiencies, and restricts capital formation. . .

Resorting to all the dramatic foreshadowing at his disposal, Piowar goes on to warn us that:

[T]he shame from this rule should not be put upon CEOs.  It should be put upon the five of us who will be voting on this proposal today.  Shame on us for putting special interests ahead of investors.  Shame on us for letting special interests distract us from our core mission.  Shame on us for surrendering our rulemaking agenda to special interests…

Sadly, the Commissioner fears that the SEC is being "forced to choose between incompatible statutory mandates that essentially lead us to favor one of two groups - organized special interests or ordinary retail investors.  That is a simple choice for me.  I will choose investor protection over special interests every time."

Gallagher's Mission Impossible

Moving from one commissioner's Great Expectation or French Revolution or whatever, we find Commissioner Gallagher exhorting against the pay ratio proposal.  Rather than edit or extract his comments full-text and full blown. As to the two other non-dissenting commissioners and Chair White, it looks like it's gonna be a bumpy ride at the SEC for some time. Y'all might wanna buckle yer seatbelts and see if you can get a government discount rate at Barnes & Noble or iBooks.  

Commissioner Daniel M. Gallagher
SEC Open Meeting, Washington, D.C.
Sept. 18, 2013

Today, the Commission will vote on proposed rules to implement yet another Dodd-Frank mandate having nothing to do with the SEC's mission and everything to do with the politics of not letting a serious crisis go to waste. 

The pay ratio computation that the proposed rules would require is sure to cost a lot and teach very little.  Its only conceivable purpose is to name and, presumably in the view of its proponents, shame U.S. issuers and their executives.  This political wish-list mandate represents another page of the Dodd-Frank playbook for special interest groups who seem intent on turning the notion of materiality-based disclosure on its head.

There are no - count them, zero - benefits that our staff have been able to discern.  As the proposal explains, "[T]he lack of a specific market failure identified as motivating the enactment of this provision poses significant challenges in quantifying potential economic benefits, if any, from the pay ratio disclosure[.]"[1]

So much for the benefits.  If you don't have a good imagination - or a robust political agenda - you simply won't find any.

*  *  *
It could have been worse, and I commend, as always, our expert staff in the Division of Corporation Finance, under the Chair's direction, for taking a somewhat more flexible approach to the proposal than many which have been considered.  But the fact that the Commission could have imposed even greater costs does not create some otherwise absent benefit to mitigate the wasteful costs of the proposal.  It merely confirms that there are even more costly ways to accomplish nothing.

So why do this at all?  Simple.  Dodd-Frank says we must.[2]  Crossing one more required rule proposal off our long to-do list of unfinished Dodd-Frank mandates might be the closest thing to a benefit that an objective analysis can squeeze out of today's proposal. 

It's important not to forget, however, that the pay ratio mandate, unlike so many in Dodd-Frank, carries no congressionally imposed deadline.  We need not act on it now or soon.  It has, nevertheless, jumped to the front of the queue.

We must, therefore, acknowledge as another cost of the rule the decision not to do something else, something more pressing, something that would have yielded discernible benefits - a JOBS Act rulemaking to address the ongoing employment crisis in this country, perhaps, or something - anything - to do with the financial crisis - maybe, for example, the Dodd-Frank section 939A rulemaking that is years overdue.

Given the tremendous strain placed on our resources by Dodd-Frank's seemingly endless stream of mandates as well as our "day job" of doing the blocking-and-tackling work that actually protects investors, maintains fair, orderly, and efficient markets, and facilitates capital formation, today's rulemaking represents a significant and distressing misallocation of time and resources.

*  *  *
Section 953(b) of Dodd-Frank mandates the application of the pay ratio requirement to "each issuer."  A flexible approach, designed to reduce costs to issuers, would have defined the word "issuer" simply to mean the registrant itself, thus requiring issuers to include only their own employees in the median employee compensation calculation.  Such an interpretation would also have the benefit of being consistent with the plain language of the statute.  It would have been consistent with the definition of the term "issuer" in both the Securities Act and the Exchange Act, which define the term to mean any person who issues or proposes to issue any security.[3]

This morning's proposal, however, interprets the term "issuer" by reference to Item 402 of Regulation S-K, which has enterprise-wide applicability and so concludes that in section 953(b) the term "issuer" should likewise have enterprise-wide scope.[4]  This inflexible interpretation has the effect of bringing exponentially more entities - and all of their employees' compensation - into the pay ratio provision's costly ambit.

Even more problematically, the proposal would extend the scope of the proposed rules further by requiring the calculation of the median salary and, therefore, the resulting ratio, to be global - that is, applicable not only to the full-time U.S. employees of the issuer and its subsidiaries, but to all of its employees everywhere in the world - including the worldwide employees of its subsidiaries.  And the median calculation must include seasonal, temporary, and part-time employees - assuming they are on the rolls at fiscal year's end - without, however, requiring annualization of their compensation.[5]

Even from the perspective of the 953(b) supporters, these interpretations of the statute are unnecessary overkill.  Requiring issuers to calculate the median salary based solely on their own full-time employees located in the United States would still have yielded pay ratio figures more than impressive enough to serve the law's scapegoating and shaming goals. Such a calculation would still have been complex, although much less costly and more in line with our responsibility as regulators to strike an appropriate balance between costs and benefits.

In addition, a more reasonable, literal interpretation of the statutory mandate would have avoided the distortions the chosen method inevitably introduces.  Why, after all, should we require a global calculation, thereby introducing a non-scientific and uninstructive comparison that ignores the variances in the costs of labor and the costs of living in widely disparate economies worldwide?[6]  Of what conceivable use could comparing the pay of workers in developing nations to that of U.S. CEOs be to the investors the SEC is tasked with protecting?  Why include part-time and temporary and seasonal employees?  Why incorporate currency exchange assumptions or pay variations due to governmental social benefits schemes that vary from country to country?  These and other extraneous variables introduce a degree of complexity and obfuscation that renders meaningless what was meant to be a simple ratio. 

The only logical conclusion is that the real point of this exercise is to ensure the most eye-poppingly huge ratios possible.  Gimmicks like these don't belong in corporate filings.  The agency would sanction issuers who acted so "creatively" in other areas of their 10K or proxy disclosure.

*  *  *
Finally, I remind the Commission, once again, that the Exchange Act mandates that we consider the effect of what we do on competition,[7] which even the proposal itself acknowledges by noting, "the competitive impact of compliance with the disclosure requirements prescribed by Section 953(b) could disproportionately fall on U.S. companies with large workforces and global operations…."[8]  Notwithstanding this clear mandate, today's proposal continues a trend of politically motivated new disclosure requirements that impose unnecessary compliance costs on U.S. issuers, reducing their international competitiveness while providing no benefits to investors and political benefits to special interest groups.[9]

*  *  *
Putting the most positive face possible on today's proposal, then, its benefits are not so much elusive, as illusory.  Indeed, the "benefits" portion of our economists' evaluation of the proposed rules is really just a discussion of relative costs.  It amounts to this:  Congress told us to do it, and since we could have done it in a more costly way than we did, the result is an implicit net benefit. I believe this is the best that DERA could do with such a rotten mandate, but none of us should be happy about it.

I cannot see any way to support today's proposal.  I lament the time wasted on it, and I urge investors, public companies and others directly affected by the proposal to submit detailed, data-heavy comments.

[1]   Release at p. 91 ("Economic Analysis").
[2]   Note, however, that on June 19, 2013, a bipartisan majority of the House Financial Services Committee reported favorably H.R. 1135, which would repeal Section 953(b).
[3]   Securities Act, sec. 2(a)(4); Exchange Act, sec. 3(a)(8).
[4]   "By directing the Commission to amend Item 402, we believe that Section 953(b) is intended to cover employees on an enterprise-wide basis, including both the registrant and its subsidiaries, which is the same approach as that taken for other Item 402 information" (Release at p. 110), and "we believe it is appropriate to apply the same definition of subsidiary that is used for other disclosure under Item 402" (id. at 111).
[5]   The Release permits annualization for permanent employees, which would include those employed at fiscal year's end but not for the whole fiscal year, as well as permanent part-time employees.  It does not permit annualization for seasonal or temporary employees employed at year's end.  Release at 33-34 and 114-15.
[6]   The Release acknowledges that any comparison of registrants' pay ratios would be uninstructive:  "[W]e do not believe that precise comparability or conformity of disclosure from registrant to registrant is necessarily achievable due to the variety of factors that could cause the ratio to differ…" (Release at 35).
[7]   Exchange Act, sec. 23(a)(2).
[8]   Release at p. 104 ("Economic Analysis").
[9]   See, e.g., Release No. 34-67716 ("Conflict Minerals"), Aug. 22, 2012, and Rel. No. 34-67717 ("Disclosure of Payments by Resource Extraction Issuers"), Aug. 22, 2012 (subsequently vacated and remanded).