Pay-versus-performance rule and a summary of the November guidance 

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  • Amy Knieriem
    Senior Principal, Senior Legal Consultant
  • Carol Silverman
    Partner, Senior Legal Consultant
December 12, 2023

On November 21, the SEC issued eight new and two revised Compliance & Disclosure Interpretations (CDIs) to help companies comply with year two of the pay-versus-performance (PVP) disclosures. The CDIs cover the following topics:

  • “Compensation actually paid” (CAP) calculations for equity awards with retirement vesting provisions and equity awards that pay dividends or equivalents
  • Peer company selection and total shareholder return (TSR) calculations
  • Transition relief for companies that lose smaller reporting company (SRC) or emerging growth company (EGC) status
  • Average pay calculations where companies have multiple principal financial officers (PFOs) in a covered fiscal year (CFY)

This article provides a brief background on the rule and a summary of the November guidance. For a detailed summary of the rule, see “A deep dive into the long awaited pay-for-performance disclosures.” For a discussion of CDIs issued in February 2023, see “New SEC Pay Versus Performance guidance addresses some questions raised by the complex rule.” For a discussion of CDIs issued in September 2023, see “SEC Staff issues guidance on pay-versus-performance rule.” An Appendix includes the full text of all of the PVP CDIs, with the new and revised CDIs italicized.

Background

PVP disclosures can be divided into three buckets:
  • A nine-column table showing the following for each of the five most recently completed fiscal years (subject to a phase-in period so that the first year showed three years and the second will show four years):
     
    • Summary Compensation Table (SCT) total compensation and “compensation actually paid” (CAP) for the Principal Executive Officer (PEO) 
    • Average total SCT compensation and CAP to other named executive officers (NEOs)
    • Company cumulative TSR
    • Cumulative TSR of a company-selected industry/line of business index or peer group (weighted according to market capitalization at the beginning of each period for which TSR is reported)
    • Company net income
    • The most important financial measure used by the company to link pay and performance (the company-selected measure or CSM)
  • Descriptions (using graphs or narrative, or both) that compare: 

    • PEO CAP and other NEOs’ average CAP to company cumulative TSR
    • Company cumulative TSR to peer group cumulative TSR
    • PEO CAP and other NEOs’ average CAP to net income
    • PEO CAP and other NEOs’ CAP to CSM (and any supplemental measures, if applicable)
  • List of three to seven performance measures (including the CSM) most important for linking CAP to performance

The new guidance

Two CDIs cover CAP calculations for equity awards, five cover peer company selection and TSR calculations, two cover companies that lose SRC or EGC status, and one covers average pay calculations if there are multiple PFOs in a CFY.

Calculating equity award values

CAP is SCT total compensation with adjustments to equity and pension values. Equity values are adjusted by subtracting the grant date fair value of stock awards and options, and adding or subtracting the following:

Award Calculation
Awards granted in covered fiscal year (CFY) that are outstanding and unvested as of end of CFY Add year-end fair value
Prior year awards outstanding and unvested as of end of CFY Add positive (or subtract negative) change in fair value as of end of CFY (from end of prior year)
Awards that are granted and vest in the same CFY Add fair value as of vesting date
Prior year awards that vest in CFY Add positive (or subtract negative) change in fair value as of vesting date (from end of prior year)
Prior year awards that are forfeited during CFY Subtract fair value at end of prior year
Dividends or other earnings paid on all awards in CFY prior to vesting date Add dollar value, unless otherwise reflected in fair value of award or included in SCT total for the CFY
Repriced vested options or stock appreciation rights (SARs) Add incremental fair value
A revised CDI and a new CDI clarify the following:
  • Equity awards with preferential retirement vesting provisions. Awards that remain unvested at the end of the applicable CFY are valued as of last day of the CFY while awards that vest during the year are valued as of the vesting date. According to both the original and revised CDIs, if retirement-eligibility is the only vesting condition, an award is treated as vested in the year that the executive becomes retirement eligible for purposes of calculating CAP. But, if awards are subject to “additional substantive conditions,” those other conditions must also be considered in determining when an award has vested. Under the original CDI, the only example of an additional substantive condition was achievement of a market condition (i.e., a relative TSR or stock price performance goal). The revised CDI adds “a condition that results in vesting upon the earlier of the holder’s actual retirement or the satisfaction of the requisite service period” (revised CDI 128D.18). 

    A likely interpretation is:
    • Awards that vest and are paid on retirement eligibility (without requiring an executive to retire) are valued on the date an executive becomes retirement eligible.  
    • Awards that continue to be subject to performance goals (e.g., through the date the executive retires or through the end of the performance period) are valued when the goals are achieved.
    • Awards that require an executive to both be eligible to retire and to retire for payment to accelerate are valued on the original vesting date(s) or, if earlier, on actual retirement.

        This would be consistent with informal SEC guidance to ignore         preferential retirement provisions for purposes of the Outstanding Equity         Awards and Option Exercises and Stock Vested Tables. And it would be a         welcome clarification for companies that ignored such provisions when         preparing the 2023 PVP table. But it’s not free from doubt.

  • Dividends and dividend equivalents. A new CDI confirms that dividends or other earnings paid on awards in a CFY before the vesting date are included in CAP unless the value is otherwise reflected in the fair value of the award or included in another component of total compensation (e.g., the SCT All Other Compensation column). However, it’s still not clear if dividends or equivalents that aren’t paid unless and until the underlying award vests are included in CAP when they are accrued or when they vest. In both cases, the ultimate value will be the same but, if they are included as accrued, they would be part of the change in value calculation for each CFY and deducted from CAP if the underlying award is forfeited (CDI 128D.23).

Peer group selection and TSR calculations

Companies must compare their cumulative TSR and that of their peers over a five-year “measurement period” (three years for the first and four years for the second year of disclosures). Companies can use either the peer group or industry/line of business index used in the performance graph already included in the annual report (under Item 201(e) of Regulation S-K), or the peer group discussed in their CD&A. If the peer group isn’t a published industry or line-of-business index, the identity of the companies in the group must be disclosed in a footnote, with the returns of each peer weighted by market cap at the beginning of each period. The measurement period starts as of the market close on the last trading day before the earliest fiscal year covered by the table and runs through the end of the last CFY. If the peer group or index changes, the company must restate all of the years in the table using the TSR of the new peer group or index, explain (in a footnote) the reason for the change, and compare the company’s cumulative TSR (for the year of the change) to that of both the old and new group or index.

One updated CDI and four new CDIs clarify the following:

  • Peer group changes. A February 2023 CDI stated companies couldn’t use the peer group disclosed in the 2023 CD&A for all years in the table. Instead, they had to calculate peer group TSR for each year in the 2023 table (2020 – 2022) using the peer group disclosed in the CD&A for the applicable year. According to the update, in the 2024 proxy statement, if a company uses the same peer group for 2023 that it used for 2022, the company should present its peer group TSR for each CFY using the 2023 peer group. If the company subsequently changes the peer group, it must present its peer group TSR for each CFY using the new peer group. But in this case, the company must also disclose the change in a footnote, including the reasons for the change and, unless the change is eligible for one of the exemptions in CDI 128D.27 (described below), compare the company’s cumulative TSR with that of both the newly selected peer group and the peer group used in the immediately preceding fiscal year (revised CDI 128D.07).

  • Changes to individual companies in peer group. If a company that uses a peer group other than a published industry or line-of-business index adds or removes any of the companies in the peer group, it’s not required to compare its cumulative TSR with that of both the updated peer group and the peer group used in the immediately preceding fiscal year in the following circumstances: (1) an entity is omitted solely because it’s no longer in the line of business or industry, or (2) the changes in the composition of the peer group are based on pre-established objective criteria. But the company must provide a specific description of, and the bases for, the change, including the names of the companies deleted from the new peer group (CDI 128D.27).

    This guidance may encourage companies that use a peer group (vs a published index) to adopt and disclose pre-established objective criteria for adding and removing peers if they don’t do so already.

  • More than one index in performance graph. If a company uses more than one published industry or line-of-business index in its annual report performance graph, it may select any one of them that isn’t a broad-based index as its peer group. The company must include a footnote disclosing the index chosen. If the company chooses a different index than the one it chose for the immediately preceding fiscal year, it must explain (in a footnote) the reasons for the change and compare, for the year of the change, the company's cumulative TSR with that of both indices (CDI 128D.24).
  • Broad-based equity index. A company can’t use a broad-based equity index as its peer group even if it discloses in its CD&A that it determines the vesting of performance-based equity awards based on relative TSR compared to that index (CDI 128D.25). This may come as a surprise to companies that interpreted the following language in CDI 128D.05 (issued in February) to permit this: “The registrant may use a peer group that is disclosed in its CD&A as a peer group actually used by the registrant to help determine executive pay.”
  • Weighting peer company returns by market cap. The requirement to weight the returns of each peer in a peer group according to its market cap applies only if a company’s peer group isn’t a published industry or line-of-business index (CDI 128D.26).

SRCs and EGCs

SRCs are eligible for scaled executive pay disclosures (e.g., fewer NEOs, fewer years of SCT disclosure, no pension values in SCT). For PVP disclosures, they need to provide information for only three years (two years for the first year of disclosure) and don’t have to include peer company TSR. EGCs are exempt from the rule. The CDIs provide the following guidance for companies that lose SRC or EGC status:

  • Loss of SRC status. A company that loses SRC status as of the first day of a fiscal year may continue to include scaled disclosure in its first post-SRC proxy statement, with the PVP disclosure covering the prior three years. All future proxies must include non-scaled PVP disclosure for the year in which the status is lost. The company generally doesn’t have to add disclosure for a year prior to the years included in its first filing which included PVP disclosure or revise the disclosure for prior years to conform to non-SRC status. However, because peer group TSR is calculated on a cumulative basis, the company should include peer group TSR for each CFY, measured from the market close on the last trading day before the company’s earliest fiscal year in the table. In addition, the company should include its numerically quantifiable performance under the CSM for each CFY (CDI 128D.28).

    Example:     A calendar-year company that loses SRC status as of January 1, 2024 may include scaled PVP disclosure in its 2024 proxy. The disclosure must cover fiscal years 2021, 2022, and 2023. The 2025 proxy must include non-scaled disclosure for fiscal year 2024 and so on. The company doesn’t have to add a row for 2020 or revise the disclosure for 2021 – 2023 to conform to non-SRC status except as described above for the peer group TSR and CSM columns.
  • Loss of EGC status. A company that loses EGC status as of the last day of the fiscal year must include the PVP disclosure in its upcoming proxy statement. But the requirement to show five years of data is phased in: For the first filing, only the most recent three years of information is required, with another year added in each of the next two filings (CDI 128D.29).

Multiple PEOs and PFOs

Anyone who served during the CFY as PEO or PFO is automatically considered an NEO, regardless of compensation. Under the rule, pay for each PEO must be reported separately in additional columns while pay for each PFO is part of the single column for average NEO pay. A CDI confirms that, if there are multiple PFOs during a CFY, each PFO’s pay must be included individually. While companies can’t treat the PFOs as the equivalent of one NEO, they can include narrative or footnotes describing the impact of multiple PFOs on the calculation for clarity (CDI 128D.30).

Appendix

  • Question: 
    Instruction 5 to Item 402(b) provides that "[d]isclosure of target levels that are non-GAAP financial measures will not be subject to Regulation G and Item 10(e); however, disclosure must be provided as to how the number is calculated from the registrant's audited financial statements." Does this instruction extend to non-GAAP financial information that does not relate to the disclosure of target levels, but is nevertheless included in Compensation Discussion & Analysis ("CD&A") or other parts of the proxy statement - for example, to explain how pay is structured and implemented to reflect the registrant's or a named executive officer’s performance?
  • Answer: 

    No. Instruction 5 to Item 402(b) is limited to CD&A disclosure of target levels that are non-GAAP financial measures. If non-GAAP financial measures are presented in CD&A or in any other part of the proxy statement for any other purpose, such as to explain how pay is structured or implemented to reflect the registrant's or a named executive officer’s performance or to justify certain levels or amounts of pay, then those non-GAAP financial measures are subject to the requirements of Regulation G and Item 10(e) of Regulation S-K (except with regards to the Company-Selected Measure or additional financial performance measures disclosed pursuant to Item 402(v)(2)(vi) of Regulation S-K).

    In these pay-related circumstances only, the staff will not object if a registrant includes the required GAAP reconciliation and other information in an annex to the proxy statement, provided the registrant includes a prominent cross-reference to such annex. Or, if the non-GAAP financial measures are the same as those included in the Form 10-K that is incorporating by reference the proxy statement's Item 402 disclosure as part of its Part III information, the staff will not object if the registrant complies with Regulation G and Item 10(e) by providing a prominent cross-reference to the pages in the Form 10-K containing the required GAAP reconciliation and other information. [September 27, 2023]

  • Question: 
    Is the information required pursuant to Item 402(v) of Regulation S-K required to be included in Form 10-K, given that Item 11 of Form 10-K indicates that the registrant is required to furnish the information required under Item 402 of Regulation S-K?
  • Answer: 
    No. Item 402(v) of Regulation S-K provides that the information required thereunder must be provided in connection with any proxy or information statement for which the rules of the Commission require executive compensation disclosure pursuant to Item 402 of Regulation S-K, and Instruction 3 to Item 402(v) specifies that the information provided under Item 402(v) of Regulation S-K will not be deemed to be incorporated by reference into any filing under the Securities Act or the Exchange Act, except to the extent that the registrant specifically incorporates it by reference. [February 10, 2023]

  • Question: 
    In calculating the equity award adjustments required by Item 402(v)(2)(iii)(C)(1), are equity awards granted to a first-time named executive officer (“NEO”) in a year prior to (and not otherwise related to) their appointment as a NEO required to be included? For example, if a non-NEO employee is granted a stock option in year 1, and subsequently appointed as a NEO in year 2, must that NEOs “compensation actually paid” in year 2 reflect the adjustments required by subparagraphs (ii), (iv) or (v) (relating to prior fiscal year awards) of Item 402(v)(2)(iii)(C)(1) with respect to the stock option granted in year 1?
  • Answer: 
    Yes. Although such awards may not be reported in the Summary Compensation Table required by Item 402(c) (see Question 119.01), the change in value of such awards during the executive’s tenure as a NEO should be included in the calculation of compensation actually paid. [February 10, 2023]

  • Question: 
    Item 402(v)(3) of Regulation S-K requires, for each amount disclosed in columns (c) and (e) of the Pay Versus Performance table, footnote disclosure of each of the amounts deducted and added pursuant to Item 402(v)(2)(iii). Is footnote disclosure required for each of the fiscal years presented in the table?
  • Answer: 
    Item 402(v) footnote disclosure for years other than the most recent fiscal year included in the Pay Versus Performance table would be required only if it is material to an investor’s understanding of the information reported in the Pay Versus Performance table for the most recent fiscal year, or of the relationship disclosure provided under Item 402(v)(5). However, in the registrant’s first Pay Versus Performance table under the new rules, the registrant should provide footnote disclosure for each of the periods presented in the table. [February 10, 2023]

  • Question: 
    Item 402(v)(3) of Regulation S-K requires, for each amount disclosed in columns (c) and (e) of the Pay Versus Performance table, footnote disclosure of each of the amounts deducted and added pursuant to Item 402(v)(2)(iii). May a registrant satisfy this requirement by providing the aggregate amount calculated for pension value adjustments under Item 402(v)(2)(iii)(B)(1) and equity award adjustments under Item 402(v)(2)(iii)(C)(1)?
  • Answer: 
    No. The registrant should provide footnote disclosure of each of the amounts deducted and added pursuant to Items 402(v)(2)(iii)(B)(1)(i) – (ii) and Items 402(v)(2)(iii)(C)(1)(i) – (vi). [February 10, 2023]

  • Question: 
    For purposes of calculating peer group total shareholder return under Item 402(v)(2)(iv) of Regulation S-K, may a registrant use any compensation peer group that’s disclosed in its Compensation Discussion & Analysis (“CD&A”), or is the registrant limited only to a peer group used in the CD&A for purposes of disclosing the registrant’s compensation benchmarking practices under Item 402(b)(2)(xiv) of Regulation S-K?
  • Answer: 
    The registrant may use a peer group that is disclosed in its CD&A as a peer group actually used by the registrant to help determine executive pay, even if such peer group is not used for “benchmarking” under Item 402(v)(2)(xiv) of Regulation S-K, as that term is explained in C&DI 118.05. [February 10, 2023]

  • Question: 
    What time period is a registrant required to present under Item 402(v) of Regulation S-K for its cumulative total shareholder return (“TSR”) and peer group TSR when the registrant went public during the earliest year included in the “Pay Versus Performance” table?
  • Answer: 
    Consistent with the calculation of TSR under Item 201(e) of Regulation S-K, if the class of securities was registered under Section 12 of the Exchange Act during the earliest year included in the “Pay Versus Performance” table, the “measurement point” for purposes of calculating TSR and peer group TSR should begin on such registration date. [February 10, 2023]

  • Question: 
    In each of 2020 and 2021, a registrant provided the same list of companies as a peer group in its Compensation Discussion & Analysis (“CD&A”) under Item 402(b) but provided a different list of companies in its CD&A for 2022. With respect to a registrant providing initial Pay versus Performance disclosure in its 2023 proxy statement for three years (as permitted by Instruction 1 to Item 402(v) of Regulation S-K), may the registrant present the peer group total shareholder return for each of the three years using the 2022 peer group?
  • Answer: 
    No. In this situation, the registrant should present the peer group total shareholder return for each year in the table using the peer group disclosed in its CD&A for such year. In the 2024 proxy statement, if the registrant uses the same peer group for 2023 as it used for 2022, the registrant should present its peer group total shareholder return for each of the years in the table using the 2023 peer group. If it changes the peer group in subsequent years, it must provide disclosure of the change in accordance with Regulation S-K Item 402(v)(2)(iv). [Revised November 21, 2023]

  • Question: 
    Item 402(v)(2)(v) requires “net income” to be included in column (h) of the Pay Versus Performance table required by Item 402(v)(1). May a registrant use other net income amounts presented in the audited financial statements? For example, may a registrant that consolidates subsidiaries that are not wholly-owned use net income attributable to the controlling interest or registrant to satisfy this requirement? May a registrant with material discontinued operations during the fiscal year use income or loss from continuing operations to satisfy this requirement?
  • Answer: 
    No. The registrant is required to provide in column (h) its net income or loss as required by Regulation S-X to be disclosed in the registrant’s audited GAAP financial statements. [February 10, 2023]

  • Question: 
    Under Item 402(v)(2)(vi), a registrant’s Company-Selected Measure must be a financial performance measure that is not otherwise required to be disclosed in the Pay Versus Performance table required by Item 402(v)(1). The required financial performance measures include net income and the cumulative total shareholder return of the registrant. May a registrant provide a Company-Selected Measure that’s derived from, a component of, or similar to these required measures, such as earnings per share, gross profit, income or loss from continuing operations, or relative total shareholder return?
  • Answer: 
    Yes, the Company-Selected Measure can be any financial performance measure that differs from the financial performance measures otherwise required to be disclosed in the table that meets the definition of Company-Selected Measure in Item 402(v)(2)(vi) including a measure that is derived from, a component of, or similar to those required measures. Any such measures could also be included as financial performance measures in the Tabular List required by Item 402(v)(6) of Regulation S-K. [February 10, 2023]

  • Question: 
    Would it be appropriate for a registrant to disclose its stock price as its Company-Selected Measure under Item 402(v)(2)(vi) if the registrant does not use any financial measures to otherwise link pay and financial performance, but the “compensation actually paid” reported in the Pay Versus Performance table required by Item 402(v)(1) includes the fair value of time-vested share-based awards, which value is largely tied to stock price?
  • Answer: 
    No. While stock price is considered a “financial performance measure” for purposes of Item 402(v)(2)(vi), it should not be disclosed as the registrant’s Company-Selected Measure if the registrant does not use it to link compensation actually paid to its named executive officers to company performance, even if it has a significant impact on the amounts reported in the Pay Versus Performance table. That is, if the only impact of stock price on a named executive officer’s compensation is through changes in the value of share-based awards (which would be evident from the registrant’s Summary Compensation Table disclosure), the registrant could not include its stock price as the Company-Selected measure. However, if, for example, the registrant’s stock price is a market condition applicable to an incentive plan award, or is used to determine the size of a bonus pool, it may be included as a registrant’s Company-Selected Measure. [February 10, 2023]

  • Question: 
    Can the Company-Selected Measure included in the Pay Versus Performance table required by Item 402(v)(1) be measured over a multi-year period that includes the applicable fiscal year as the final year, similar to the use of multi-year measurement periods for calculating total shareholder return under Item 402(v)(2)(iv), as long as such performance period is used consistently for all years in the table?
  • Answer: 
    No. Under Item 402(v)(2)(vi), the Company-Selected Measure is the measure which in the registrant's assessment represents the most important financial performance measure (that is not otherwise required to be disclosed in the table) used by the registrant to link compensation actually paid to the registrant's named executive officers, for the most recently completed fiscal year, to company performance. [February 10, 2023]

  • Question: 
    A registrant uses a “pool plan” to determine its annual bonus awards. Under the plan, a bonus pool is available for payout only upon achievement of a financial performance measure or the size of the pool is determined based upon the extent such measure is achieved. Once that financial performance measure is achieved, the compensation committee may allocate bonus payouts to participants in its discretion, based on criteria independent of the achievement of any financial performance measure(s). If the registrant’s executive compensation does not use any other financial performance measures, may the registrant omit the Tabular List required under Item 402(v)(6) of Regulation S-K and the Company-Selected Measure required under Item 402(v)(2)(vi) of Regulation S-K and the related relationship disclosure required under Item 402(v)(5)(iii) of Regulation S-K from its disclosure under Item 402(v)?
  • Answer: 
    No. Because the size of the bonuses paid from the “bonus pool” is determined based wholly or in part on satisfying the financial performance measure, the registrant is using the financial performance measure to link the executive compensation actually paid to company performance within the meaning of Item 402(v)(2)(vi) and Item 402(v)(6). [February 10, 2023]

  • Question: 
    If a registrant has multiple principal executive officers (“PEOs”) in a fiscal year, Item 402(v) requires the registrant to provide separate columns for each PEO in the Pay Versus Performance table required by Item 402(v)(1). May the registrant aggregate (i.e., use the total sum of) the compensation of such PEOs in a given year for purposes of the narrative, graphical, or combined comparison between compensation actually paid and total shareholder return (“TSR”), net income, and the Company-Selected Measure provided under Item 402(v)(5)?
  • Answer: 
    To the extent the presentation will not be misleading to investors, the staff will not object if a registrant aggregates the PEOs’ compensation for purposes of the narrative, graphical, or combined comparison between compensation actually paid and TSR, net income, and the Company-Selected Measure. [February 10, 2023]

  • Question: 
    Should awards granted in fiscal years prior to an equity restructuring, such as a spin-off, that are retained by the holder be included in the calculation of executive compensation actually paid?
  • Answer: 
    Yes. All stock awards and option awards that are outstanding and unvested at the beginning of the covered fiscal year or are granted to the principal executive officer and the remaining named executive officers during the covered fiscal year, including those awards modified in connection with an equity restructuring or retained following such a transaction, and for which compensation cost will be recognized under FASB ASC Topic 718 should be included in the table required by Item 402(v)(1) of Regulation S-K. [September 27, 2023]

  • Question: 
    In periods prior to pursuing an initial public offering, a private company may grant stock awards or option awards. Once that company is required to provide Item 402(v) disclosures, should the change in fair value of awards granted prior to the date of a registrant’s initial public offering be based on the fair value of those awards as of the end of the prior fiscal year for purposes of determining executive compensation actually paid?
  • Answer: 
    Yes. For outstanding stock awards and option awards, the calculations required by Item 402(v)(2)(iii)(C)(1) of Regulation S-K should be determined based on the change in fair value from the end of the prior fiscal year. The fair value of these awards should not be determined based on other dates, such as the date of the registrant’s initial public offering. [September 27, 2023]

  • Question: 
    Market conditions under U.S. GAAP are certain conditions related to the price of the issuer’s shares that affect the exercise price, exercisability, or other pertinent factors used in determining the fair value of the award. Market conditions are not considered vesting conditions under U.S. GAAP even though the executive is not entitled to the compensation until the market condition is satisfied. How should awards with a market condition consider that condition in determining whether the applicable vesting conditions have been met in performing the calculation required by Item 402(v)(2)(iii)(C)(1) of Regulation S-K?
  • Answer: 
    In accordance with FASB ASC Topic 718, the effect of a market condition should be reflected in the fair value of share-based awards with such a condition. In addition, for purposes of the table required by Item 402(v)(1) of Regulation S-K, market conditions should also be considered in determining whether the vesting conditions of share-based awards have been met. That is, until the market condition is satisfied, registrants must include in executive compensation actually paid any change in fair value of any awards subject to market conditions. Similarly, registrants must deduct the amount of the fair value at the end of the prior fiscal year for awards that fail to meet the market condition during the covered fiscal year if it results in forfeiture of the award. [September 27, 2023]

  • Question: 
    An award did not meet vesting conditions during the year because the performance or market conditions were not met. However, there is still potential for the award to vest in the future. Should the award fair value be subtracted under Item 402(v)(2)(iii)(C)(1)(v) of Regulation S-K because it failed to vest in the current year?
  • Answer: 
    No. Item 402(v)(2)(iii)(C)(1)(v) is referring to awards that were forfeited and the cumulative reported value of that award is $0. Awards that remain outstanding and have not yet vested, because, for example, performance or market conditions were not met in an eligible year, are not considered to have failed to meet the applicable vesting conditions for the purpose of Item 402(v). [September 27, 2023]

  • Question: 
    Some stock and option awards allow for accelerated vesting if the holder of such awards becomes retirement eligible. If retirement eligibility was the sole vesting condition, would this condition be considered satisfied for purposes of the Item 402(v) of Regulation S-K disclosures and calculation of executive compensation actually paid in the year that the holder becomes retirement eligible?
  • Answer: 
    Yes. However, if retirement eligibility is not the sole vesting condition, other substantive conditions must also be considered in determining when an award has vested. Such conditions would include, but not be limited to, a market condition as described in Question 128D.16 or a condition that results in vesting upon the earlier of the holder’s actual retirement or the satisfaction of the requisite service period.  [Revised November 21, 2023]

  • Question: 
    Some stock and option awards with a performance condition require certification by others, such as the compensation committee, that the level of performance was attained. If the performance condition was met by fiscal year-end, however, the certification occurs after year-end, would the award be considered vested for purposes of the Item 402(v) of Regulation S-K disclosures at the end of the fiscal year-end?
  • Answer: 
    If certification is an additional substantive vesting condition, then the award would not be considered vested. A performance-based vesting condition is considered satisfied when the applicable condition is achieved. However, a provision which requires the compensation committee to certify the level of performance attained should be analyzed to determine if it creates an additional substantive vesting condition, such as an employee does not vest in the award unless and until they remain employed through the date such certification occurs. [September 27, 2023]

  • Question: 
    Item 402(v)(2)(iii)(C)(3) of Regulation S-K requires the fair value of all stock awards, and all option awards, with or without tandem stock appreciation rights (“SARs”) to be computed in a manner consistent with the methodology used to account for share-based payments under GAAP. May a registrant satisfy this requirement by using a valuation technique that differs from the one used to determine the grant date fair value of option or other equity-based awards that are classified as equity in the financial statements?
  • Answer: 
    Yes, as long as the valuation technique would be permitted under FASB ASC Topic 718, including that it meets the criteria for a valuation technique and the fair value measurement objective. For example, if another valuation technique provides a better estimate of fair value subsequent to the grant date, which would meet the measurement objective in U.S. GAAP, then a registrant may use it to calculate executive compensation actually paid under Item 402(v) instead of the technique used to determine the grant-date fair value of share-based payments in the registrant's GAAP financial statements. Item 402(v)(4) of Regulation S-K requires disclosure about the assumptions made in the valuation that differ materially from those disclosed as of the grant date of such equity awards. A change in valuation technique from the technique used at the grant date of such equity awards in the registrant’s financial statements would require disclosure of the change if such technique differs materially. We would expect a registrant to disclose under Item 402(v)(4) both the change in valuation technique from the grant date and the reason for the change. [September 27, 2023]

  • Question: 
    To comply with Item 402(v)(2)(iii)(C)(3) of Regulation S-K, the methodology used to compute the fair value amounts of all stock awards, and all option awards, with or without tandem SARs, must be consistent with the methodology used to account for share-based payments in the financial statements under GAAP. Is it ever acceptable to value these awards as of the end of a covered fiscal year based on methods not prescribed by GAAP?
  • Answer: 
    No. The fair value of stock awards and option awards must be computed using a methodology and assumptions consistent with FASB ASC Topic 718. For example, the expected term assumption to value options should not be determined using a method that is not acceptable under GAAP, such as a “shortcut approach” that simply subtracts the elapsed actual life from the expected term assumption at the grant date. This approach would not be acceptable because it does not consider whether there were changes in the factors that a registrant considers in determining the expected term assumption at grant date, such as volatility and/or exercise behavior. U.S. GAAP fair value measurement objectives require that assumptions and measurement techniques be consistent with those that marketplace participants would likely use in determining an exchange price for the share options. Similarly, the expected term for options referred to as "plain vanilla" in Staff Accounting Bulletin 14.D.2 should not be determined using the “simplified” method described in that Staff Accounting Bulletin if those options do not meet the “plain vanilla” criteria at the re-measurement date, such as when the option is now out-of-the-money. [September 27, 2023]

  • Question: 
    Instruction 4 to Item 402(b) of Regulation S-K provides that “registrants are not required to disclose target levels with respect to specific quantitative or qualitative performance-related factors considered by the compensation committee or the board of directors, or any other factors or criteria involving confidential trade secrets or confidential commercial or financial information, the disclosure of which would result in competitive harm for the registrant.” Item 402(v)(2)(iii)(C)(3) of Regulation S-K provides that “for any awards that are subject to performance conditions, calculate the change in fair value as of the end of the covered fiscal year based upon the probable outcome of such conditions as of the last day of the fiscal year.” In addition, Item 402(v)(4) of Regulation S-K provides that “for the value of equity awards added pursuant to paragraph (v)(2)(iii)(C) of this section, disclose in a footnote to the table required by paragraph (v)(1) of this section any assumption made in the valuation that differs materially from those disclosed as of the grant date of such equity awards.” If the disclosure required by Item 402(v)(4) would involve confidential trade secrets or confidential commercial or financial information, the disclosure of which would result in competitive harm for the registrant, may the registrant omit such information?
  • Answer: 
    Yes. A registrant is not required to disclose detailed quantitative or qualitative performance condition for its awards under Item 402(v)(4) to the extent such information would be subject to the confidentiality protections of Instruction 4 to Item 402(b) of Regulation S-K. However, the registrant must provide as much information responsive to the Item 402(v)(4) requirement as possible without disclosing the confidential information, such as a range of outcomes or a discussion of how a performance condition impacted the fair value. In addition, consistent with Instruction 4 to Item 402(b), the registrant should also discuss how the material difference in the assumption affects how difficult it will be for the executive or how likely it will be for the registrant to achieve undisclosed target levels or other factors. [September 27, 2023]

  • Question: 
    Some stock awards entitle the holder to receive dividends or dividend equivalents paid on the underlying shares prior to the vesting date. If the dollar value of dividends or dividend equivalents paid are not reflected in the fair value of such awards, should they be included in the calculation of executive compensation actually paid?
  • Answer: 
    Yes. Item 402(v)(2)(iii)(C)(1)(vi) of Regulation S-K requires the calculation of executive compensation actually paid to include dividends or dividend equivalents paid that are not already reflected in the fair value of stock awards or included in another component of total compensation. [November 21, 2023]

  • Question: 
    When identifying a total shareholder return peer group under Regulation S-K Item 402(v)(2)(iv), the registrant must use either the same index or issuers used by it to comply with Item 201(e)(1)(ii) or the companies it uses as a peer group under Regulation S-K Item 402(b). If a registrant uses more than one “published industry or line-of-business” index for purposes of Item 201(e)(1)(ii), may a registrant choose which index it uses for purposes of its pay versus performance disclosure?
  • Answer: 
    Yes. In order to provide clarity to investors, the registrant should include a footnote disclosing the index chosen. If the registrant chooses to use a different published industry or line-of-business index from that used by it for the immediately preceding fiscal year, it is required under Item 402(v)(2)(iv) to explain, in a footnote, the reason(s) for this change and compare the registrant's cumulative total return with that of both the newly selected peer group and the peer group used in the immediately preceding fiscal year. [November 21, 2023]

  • Question: 
    For purposes of determining the total shareholder return of a registrant’s peer group under Regulation S-K Item 402(v)(2)(iv), the registrant must use the same index or issuers used by it for purposes of Item 201(e)(1)(ii) or the companies it uses as a peer group for purposes of its disclosures under Item 402(b). If registrant discloses in its Compensation Discussion & Analysis that it determines the vesting of performance-based equity awards based on relative TSR compared to a broad-based equity index, can the registrant use that broad-based index as its peer group for purposes of Item 402(v)(2)(iv)?
  • Answer: 
    No. Item 402(v)(2)(iv) does not contemplate the use of a broad-based equity index as a peer group for purposes of the pay versus performance disclosure. [November 21, 2023]

  • Question: 
    Pursuant to Regulation S-K Item 402(v)(2)(iv), if the registrant’s peer group is not a published industry or line-of-business index, the identity of the issuers composing the group must be disclosed in a footnote. The returns of each component issuer of the group must be weighted according to the respective issuers' stock market capitalization at the beginning of each period for which a return is indicated. In what circumstances is such market capitalization-based weighting required?
  • Answer: 
    For purposes of Item 402(v)(2)(iv), the weighting requirement is applicable only if the registrant is not using a published industry or line-of-business index pursuant to Item 201(e)(1)(ii). [November 21, 2023]

  • Question: 
    If a registrant that uses a peer group other than a published industry or line-of-business index as its peer group under Regulation S-K Item 402(v)(2)(iv) adds or removes any of the companies in the peer group, is it required to footnote the change(s) and compare its cumulative total shareholder return with that of both the updated peer group and the peer group used in the immediately preceding fiscal year?
  • Answer: 
    Yes. However, consistent with Regulation S-K Compliance and Disclosure Interpretations Question 206.05, comparison of the registrant's cumulative total return with that of both the newly selected peer group and the peer group used in the immediately preceding fiscal year is not required if (1) an entity is omitted solely because it is no longer in the line of business or industry, or (2) the changes in the composition of the index/peer group are the result of the application of pre-established objective criteria. In these two cases, a specific description of, and the bases for, the change must be disclosed, including the names of the companies deleted from the new index/peer group. [November 21, 2023]

  • Question: 
    A smaller reporting company (SRC) with a December 31 fiscal year end provided scaled pay versus performance disclosure covering fiscal years 2021 and 2022 in its proxy statement filed in April 2023. It subsequently loses its SRC status based on its public float as of June 30, 2023. The registrant proposes to rely on General Instruction G(3) of Form 10-K to incorporate by reference executive compensation and other disclosure required by Part III of Form 10-K into its 2023 Form 10-K from its definitive proxy or information statement to be filed not later than 120 days after its 2023 fiscal year end. What pay versus performance information is the registrant required to include in such proxy or information statement?
  • Answer: 

    The staff will not object if a registrant that loses SRC status as of January 1, 2024, continues to include scaled disclosure under Regulation S-K Item 402(v)(8) in its definitive proxy or information statement filed not later than 120 days after its 2023 fiscal year end from which the registrant’s Form 10-K will forward incorporate the disclosure required by Part III of Form 10-K. The pay versus performance disclosure in such filing must cover fiscal years 2021, 2022, and 2023.

    Unless the registrant regains SRC status in subsequent years, any other proxy or information statement in which Item 402(v) disclosure is required and that is filed after January 1, 2024, must include non-scaled pay versus performance disclosure. For example, in the registrant’s annual meeting proxy statement filed in 2025, it must include non-scaled pay versus performance disclosure for fiscal year 2024. A non-SRC is required to provide Item 402(v) disclosure covering five years; however, the staff will not object if the registrant does not add disclosure for a year prior to the years included in the first filing in which it provided Item 402(v) disclosure. The registrant generally is not required to revise the disclosure for prior years (in this example, 2021, 2022, and 2023) to conform to non-SRC status in such filings. However, because peer group TSR is calculated on a cumulative basis, the registrant should include peer group TSR for each year included in the pay versus performance table, measured from the market close on the last trading day before the registrant’s earliest fiscal year in the table. In addition, the registrant should include its numerically quantifiable performance under the Company-Selected Measure for each fiscal year in the table. The entirety of the Item 402(v) disclosure provided for all fiscal years must be XBRL tagged in accordance with Item 402(v)(7). [November 21, 2023]

  • Question: 
    A registrant that previously qualified as an emerging growth company loses that status as of December 31, 2024. Is it required to provide pay versus performance disclosure in its proxy statement filed in 2025? How many years are required in the table?
  • Answer: 
    The registrant is required to provide pay versus performance disclosure in any proxy or information statement filed after it loses its EGC status. It may apply the transitional relief in Instruction 1 to Item 402(v). [November 21, 2023]

  • Question: 
    Two (or more) individuals served as a registrant’s principal financial officer (PFO) during a single covered fiscal year included the pay versus performance table and related disclosure under Regulation S-K Item 402(v). Each such individual is included in the Summary Compensation table as a named executive officer (NEO) pursuant to Item 402(a)(3)(ii). For purposes of the calculation of average compensation amounts for the NEOs other than the principal executive officer reported pursuant to Items 402(v)(2)(ii) and (iii), may the registrant treat the PFOs as the equivalent of one NEO?
  • Answer: 
    No. Each NEO must be included individually in the calculation of average compensation amounts. In such cases, the registrant should consider including additional disclosure on the impact of the inclusion of such individuals on the calculation in order to provide clarity to investors. [November 21, 2023]

  • Question: 
    If a company changes its fiscal year during the time period covered by the Item 402(v) Pay Versus Performance table, provide the disclosure required by Item 402(v) for the "stub period," and do not annualize or restate compensation. For example, in late 2022, a company that is not a Smaller Reporting Company changed its fiscal year end from June 30 to December 31. In the registrant’s first Pay Versus Performance table, provide disclosure for each of the following four periods: July 1, 2022 to December 31, 2022; July 1, 2021 to June 30, 2022; July 1, 2020 to June 30, 2021; and July 1, 2019 to June 30, 2020. Continue providing such disclosure including the stub period until there is disclosure for five full fiscal years after the stub period. This is consistent with the approach applicable to Summary Compensation Table disclosure for changes in fiscal year end. See Question 217.05. [February 10, 2023]

  • Question: 
    A registrant emerged from bankruptcy, and a new class of stock that was issued under the bankruptcy plan started trading in September 2020. Registrant is preparing its first Pay Versus Performance disclosure for inclusion in its 2023 proxy statement. Consistent with Question 206.14, registrant will be presenting less than five full years of data in its stock performance graph under Item 201(e) using a measurement period for the graph from September 2020 through December 2022. For purposes of the requirement in Item 402(v)(2)(iv), the registrant may provide its cumulative total shareholder return and peer group cumulative total shareholder return in the same manner. The registrant should provide footnote disclosure to explain the approach and its effect on the Pay Versus Performance table. [February 10, 2023]
About the authors
Amy Knieriem

is a Senior Principal in Mercer's Law & Regulatory Group (L&R), which is a team of lawyers who track and analyze legislative, regulatory, judicial and other technical issues related to executive compensation and corporate governance. L&R provides expert analyses on a variety of US and Canadian compliance and policy matters, and develops leading-edge intellectual capital for Mercer consultants and clients.  Amy provides advice to consultants and clients on securities and corporate governance issues affecting executive pay in North America. Amy advises clients on legal compliance and risk mitigation issues related to executive compensation and corporate governance. She serves clients in industries such as financial services, natural resources and energy, consumer goods and retailing, food and beverage, manufacturing, and utilities. She is a leading Mercer expert in securities law compliance and corporate governance.

Carol Silverman
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