Tuesday, November 11, 2008

Proposed Changes to Dutch Corporate Governance (Tabaksblat) Code Focus on Executive Compensation

Changes have been proposed to the Dutch Corporate Governance Code, popularly known as the Tabaksblat Code, that will produce significant changes in management remuneration, including the introduction of a claw back clause. The changes also deal with the sometimes controversial relationship between board compensation committees and outside compensation consultants; an issue the SEC wrestled with when it adopted a new executive compensation disclosure regime.

The changes were proposed by the eminent Corporate Governance Code Monitoring Committee, which was created by the Dutch government in 2004. The committee expects to adopt the changes to the Code in December, 2008.

The Code embodies the principle of apply or explain, under which its provisions should be applied unconditionally or an explanation should be given for any departure from them. The management board and supervisory board of a company account to the shareholders for the corporate governance structure that has been adopted; and for compliance with the Code.

Broadly, the Monitoring Committee believes that self-regulation is in principle a better instrument than legislation for influencing the level and structure of management remuneration. This is also consistent with the purpose of the Code. However, the committee cautioned that self-regulation can be a serious alternative to legislation only if everyone makes an effort to comply with the Code. In other words, self-regulation requires self-discipline.

The supervisory board, working through a remuneration committee, is responsible for formulating the remuneration policy and determining the individual remuneration of management board members. To assist the board in this difficult job, the committee proposes guidance. The guidance is based on the independence of the committee and how it uses external compensation consultants.

The remuneration committee, and not the remuneration consultant, should adopt the principles for the remuneration policy, including the use and composition of the peer group, the ratio of fixed to variable and short-term to long-term remuneration, and the ratio of the remuneration of the chair to that of other members of the management board. Similarly, the committee, and not the consultant, should take the initiative in determining the performance criteria. Also, the remuneration consultant should not have any contact with the management board members.

If the remuneration committee uses the services of a consultant who provides a benchmark for determining the level of management board remuneration, the consultant should be independent of the management board. It follows that the consultant may accept other assignments from the company only in very exceptional circumstances and with the prior consent of the supervisory board or the committee. When the occasion arises, this does not prevent another consultant working for the same organization from accepting an assignment from the company, provided that there is sufficient assurance that the two consultants operate independently of each other.

The committee proposes a claw back provision for the Code under which, if the variable pay is granted on the basis of incorrect financial or other data, the supervisory board should have the possibility of adjusting it, and the company should be entitled to reclaim from the management board member the variable pay granted on the basis of the incorrect data. This claw back clause should be disclosed. In a letter to the committee, the International Corporate Governance Network welcomed the claw back provision as a way of ensuring that performance-based rewards paid to executives have actually been earned in light of subsequent developments.

In the case of new awards of variable pay to management board members based on quantified performance criteria, the monitoring group says that the supervisory board should be able to alter this in relation to the level of previous years if this would produce unreasonable results, taking account of the remuneration policy adopted by the shareholders. The supervisory board should also have the power to alter existing conditional awards of variable pay based on quantified performance criteria if unaltered application would produce an unreasonable and unintended result. The committee cautioned that the supervisory board should exercise these powers only as a last resort.

In order to prevent unlimited and unintended rises in variable pay, the supervisory board should ensure that when short-term and/or long-term variable remuneration is granted, each variable component does not exceed a given maximum percentage of the fixed gross salary. The policy pursued by the supervisory board with regard to the maximum ratio between fixed and variable remuneration should be disclosed by the company.

The Monitoring Committee proposes that severance pay be added to the list of elements that must be disclosed immediately, unless this would be contrary to an overriding interest of the company. In addition, a best practice provision regulating the maximum remuneration in the event of dismissal should be extended to include all reasons for termination of employment. The main elements of the agreement reached with the management board member should be disclosed immediately.

The Monitoring Committee also proposes that the conditions for change-of-control clauses in contracts with management board members and for other prospective payments to management board members (whether in the form of securities or otherwise) should be immediately disclosed. Such information should also be provided in the event of a resolution of the management board in respect of a takeover or other important change in the nature of the company which is presented to the general meeting of shareholders and may result in the applicability of the compensation clause.

One-off payments should be explained in the remuneration report. The Monitoring Committee recommends that if the company makes one-off (short-term) payments to management board members (other than the annual bonus), this should be based on a scheme included to this effect in the remuneration policy adopted.

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