A Most Nescient Comment?

Monday was the close of the comment period on the Securities and Exchange Commission’s proposed rules with respect to listing standards requiring recovery of erroneously paid incentive compensation.

In addition to myself, several commenters pointed out that the proposed rules make no allowance for state law. I noted a potential conflict with California Labor Code Section 221. Mark Borgesat Compensia, Inc. and Cydney Posner at Cooley LLP noted a similar potential problem under the New York Labor Code (“No employer shall make any charge against wages, or require an employee to make any payment by separate transaction unless such charge or payment is permitted as a deduction from wages under the provisions of subdivision one of this section.”). I haven’t surveyed the other 48 states, but wouldn’t be surprised to learn that others have similar statutes.

I also argued that the SEC’s proposed rules overly cabined an issuer’s discretion on whether to pursue recovery. Davis Polk & Wardwell LLP also made a case for discretion:

There are certain circumstances under which recovery may not serve the best interests of the issuer, for instance, when the recovery of incentive-based compensation could be considered an admission against interest by the company and could result in litigation exposure of the company. A board may also determine that recovery of incentive compensation would cause reputational harm or would make recruiting and retaining key executive officers more difficult or more costly. In some cases, recovering incentive-based compensation from a particular executive who was not involved or culpable in the restatement might be particularly inequitable, and the board may find non-recovery appropriate. For example, the board may find such non-recovery appropriate in the event of an unexpected or severe personal financial hardship of an executive, a death or serious illness of an executive or an executive’s close family member or if more incentive compensation is subject to recovery than was actually received by an executive.

See also the comment letters of Mark Borges,J. Roderick Clark, Chairman of the Compensation Committee of Ensco plc, and David N. Swinford of Pearl Meyer. It is enlightening to contrast these commentswith the following comment submitted by the California Public Employees’ Retirement System:

51. Is the proposed issuer discretion not to pursue recovery of incentive-based compensation consistent with the purpose of Section 10D? Is the scope of this discretion appropriate? Why or why not?

If a company routinely recovers amounts under $100 from employees, there is no reason to allow executives to maintain thousands or even millions of dollars and argue that there is difficulty recovering the money. It is quite easy to recover when there is the will to recover.

Why be grateful?

Finally, I note that manywriters expressed gratitude for the opportunity to comment on the proposed rules. While I recognize that this may be a polite way to begin or end a commentletter, opening up the rule for comment is not an act of noblesse largesse. The SEC is doing so because it is required to do so under the Administrative Procedure Act:

After notice required by this section, the agency shall give interested persons an opportunity to participate in the rule making through submission of written data, views, or arguments with or without opportunity for oral presentation.

5 U.S.C. § 553(c). More importantly, the APA requires agencies to pay attention to the comments. The statute continues:

After consideration of the relevant matter presented, the agency shall incorporate in the rules adopted a concise general statement of their basis and purpose.

An agency’s failure to respond becomes cause for concern when a comment is “significant enough to step over a threshold requirement of materiality”. Portland Cement Association v. Ruckelshaus, 486 F. 2d 375, 394 (1973).

Note to readers:The former students in my Administrative Law class will remember (I hope) thatdifferent provisions of the APA applywhen “rules are required by statute to be made on the record after opportunity for an agency hearing”.