On November 26, 2013, the NASDAQ Stock Market (“Nasdaq”) filed an amendment to its listing standards that eliminates the prohibition on the receipt of compensatory fees by compensation committee members. Nasdaq listing standards relating to compensation committee independence will therefore be in line with current New York Stock Exchange (“NYSE”) listing standards that require boards of directors to consider all relevant factors, including the sources of compensation of a director, when making director independence determinations for compensation committee members. The Nasdaq amendments also make changes in the Nasdaq interpretive statements concerning the compensation and affiliation requirements for compensation committee members.
Earlier this year, as required by the Dodd-Frank Act and Section 10C-1 of the Securities Exchange Act of 1934, both Nasdaq and the NYSE amended their listing standards concerning the independence of compensation committee members and the engagement and independence of compensation advisers, as summarized in Goodwin Procter’s Alert here. Listed companies are required to comply with the Nasdaq and NYSE rules concerning the independence of compensation committee members by the earlier of (i) their first annual meeting held after January 15, 2014 or (ii) October 31, 2014.
Compensation Committee Independence
As amended, the Nasdaq listing standards require boards of directors of Nasdaq-listed companies, when making independence determinations for compensation committee members, to consider “all factors specifically relevant to determining whether a director has a relationship to the company which is material to the director’s ability to be independent from management in connection with the duties of a compensation committee member,” including, but not limited to:
- the source of compensation of the director, including any consulting, advisory or other compensatory fee paid by the company to the director; and
- whether the director is affiliated with the company, a subsidiary of the company or an affiliate of a subsidiary of the company.
When considering the sources of a director’s compensation for this purpose, Nasdaq has amended its interpretative guidance to state that the board of directors should consider whether the director receives compensation from any person or entity that would impair the director’s ability to make independent judgments about the company’s executive compensation.
With respect to a director’s affiliation with the company, Nasdaq has amended its interpretive guidance to state that the board should also consider whether an affiliate relationship places a compensation committee member under the direct or indirect control of the company or its senior management, or creates a direct relationship between the director and members of senior management, in each case of a nature that would impair his or her ability to make independent judgments about the company’s executive compensation.
The amendments do not change the existing Nasdaq requirement that compensation committee members must meet Nasdaq independence standards for independent directors as defined under Nasdaq Listing Rule 5605(a)(2). That definition excludes any director who: (1) accepted any compensation from the company in excess of $120,000 during any period of twelve consecutive months within the prior three years (excluding compensation for board and committee service and other specified items) or (2) is a partner in, or a controlling shareholder or an executive officer of, any organization to which the company made, or from which the company received, payments for property or services in the current or any of the past three fiscal years that exceed the greater of 5% of the recipient’s consolidated gross revenues for that year, or $200,000.
Finally, the Nasdaq amendments include interpretive guidance that clarifies that any reference to the “company” includes any parent or subsidiary of a listed company. The term “parent or subsidiary” is intended to cover entities that a company controls and consolidates with the company’s financial statements as filed with the Securities and Exchange Commission, unless the company reflects an entity solely as an investment in its financial statements.
The amendments to the Nasdaq listing standards relating to compensation committee independence do not impact the ability of listed companies (i) to cure noncompliance with the compensation committee composition requirements in certain circumstances, or (ii) to have a non-independent director serve on the compensation committee under exceptional and limited circumstances.
There are no changes to the current exemptions for (i) controlled companies, (ii) foreign private issuers and (iii) certain other listed companies from the Nasdaq listing standards relating to compensation committee independence.
Smaller reporting companies continue to be generally exempt from the new compensation committee independence requirements, though, as noted in prior Goodwin Procter Alerts, Nasdaq listing standards require smaller reporting companies to have a formal compensation committee of at least two members who satisfy Nasdaq director independence requirements.
Action Companies Should Be Taking Now
- Review Compensation Committee Charter. Nasdaq has previously informally advised that compensation committee charters will satisfy Nasdaq listing standards if the charter refers to the independence standards required by Nasdaq rules, rather than including the full text of the applicable Nasdaq rules. If a company’s compensation committee charter restates the text of the Nasdaq rules, the company should amend the charter either to refer to the Nasdaq rules, as currently in effect and as amended from time to time in the future, or to reflect the amended text of the Nasdaq rules.
- Revise Director Independence Questionnaires. The company should confirm that questionnaires for directors who will serve on the compensation committee reflect the amended Nasdaq listing standards.
- Prepare for Independence Determinations by the Board of Directors. Nasdaq rules require boards of directors to consider information that goes beyond responses to questions typically included in questionnaires provided to non-employee directors. The information provided to the Board of Directors in connection with independence determinations for directors selected to serve as compensation committee members should include all reasonably available information that is required to support independence determinations under Nasdaq rules. For example, questionnaires may not solicit information about compensation paid to a director by the company – because that information is readily available to the company in its records – but the company should ensure that this information will be provided to the board of directors for its consideration.
- Make Independence Determination on a Timely Basis. The amendments do not change the existing Nasdaq compliance deadline for the compensation committee independence requirements referred to above: Nasdaq companies must comply with these rules by the earlier of their first annual meeting after January 15, 2014 or October 31, 2014. Companies should plan for Board review of the relevant information with sufficient time in advance of the deadline to make any necessary changes to the composition of the committee.
- File Nasdaq Compliance Certification When Due. Nasdaq will provide a certification form that must be submitted within 30 days after the applicable compliance deadline described above. Nasdaq will make this certification form available on the Nasdaq OMX Listing Center no later than January 15, 2014. Companies should ensure that this form is submitted to Nasdaq before the expiration of the 30-day filing period.
The Nasdaq amendments became effective immediately pursuant to SEC rules, although the amendments are subject to a 21-day comment period from December 16, 2013, the date of publication in the Federal Register. Nasdaq companies must comply with the amended rules by the earlier of their first annual meeting after January 15, 2014 or October 31, 2014.