CD&A Template Will Help Issuers Improve Compensation Disclosure

The following post comes to us from Kurt Schacht, managing director of the Standards and Financial Market Integrity division of the CFA Institute, and relates to a template prepared by Mr. Schacht, Matthew Orsagh, and James Allen of the CFA Institute, which is available here.

The compensation discussion and analysis (CD&A) portion of the corporate proxy statement has been a point of frustration for both issuers and investors since its adoption by the U.S. Securities and Exchange Commission (SEC) in 2006. The compensation disclosure regime was intended to help both shareowners and boards of directors make more informed decisions concerning appropriate executive compensation practices. However, the CD&A report, in its current format, has often resulted in frustration due to its length and complexity and because such reports often focus on regulatory compliance to the detriment of conveying the company’s compensation story in a concise and understandable manner.

CFA Institute, in partnership with the CD&A working group (the “working group”) offers a new CD&A template as a first step toward making compensation communications clearer and more relevant to investors. To achieve these goals, the working group members agreed that the template should help issuers produce a CD&A that, like any good communications document, tells a story. In this case, the story concerns a company’s compensation policies, practices, and decisions. Members of the working group also agreed that the template should guide issuers in creating a document that can be read and understood by average retail investors. Indeed, after reading the CD&A, investors should be able to understand, retain, and effectively apply such information when making investment decisions or casting “say-on-pay” proxy votes.

Investors and other stakeholders are looking for much needed improvements, and understandably so. A couple of recent CFA Institute surveys reveal that, although investors want and use this information, they are quite frustrated with the current state of disclosures. For example, 74 percent of CFA Institute members who responded to a survey said they regularly use information about compensation practices and/or pay levels in their investment decision-making process. Importantly, such information is used to assess management’s alignment with shareowner interests. When our investor members were asked about their satisfaction with the current CD&A process, they voiced dissatisfaction with the existing CD&A output. In a separate survey of more than 2,300 CFA Institute members in October 2009, just 20 percent of respondents said that U.S. company CD&A disclosures are both transparent and understandable.

This template, in contrast, offers issuers a concise format for constructing a useful review of compensation policies and decisions that investors can easily understand. The template is intended to comply with SEC requirements concerning CD&A disclosures. Although the template was designed with U.S. proxy in mind, the principles covered represent best practice around the world, and can be used to communicate executive compensation practices in any jurisdiction.

The sections of the Model CD&A are arranged in order of importance from an investor’s perspective, starting with an overview of the company’s corporate performance for the previous year and an explanation of the link between that performance and executive pay. The remaining sections go into more detail about elements of compensation and compensation decisions as well as the compensation process, policies, and other areas of interest to investors. Recognizing that this is not a “one-size-fits-all” approach to compensation disclosure, the working group nevertheless believes that issuers should include, in their own style, all topics raised in the Model CD&A and address them in an order similar to the one proposed in this document.

The working group also encourages companies to include hyper-linked section headers in their CD&A to facilitate navigation by investors and at some point XBRL tagging of the data. Through the use of this Model CD&A template, we hope that issuers and investors alike will benefit from a more concise, cost effective, and useful compensation disclosure. As many stakeholders and markets around the world continue to scrutinize executive pay practices, we hope that this project will improve understanding, serve as a global model for improved investor communications on this important issue, and elevate compensation disclosure beyond an exercise in legal compliance.

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