SEC proposes rules to compare pay of CEO, median employee

A rule proposed Wednesday by the SEC would require U.S. public companies to disclose the ratio between what companies pay their CEOs and their median employee.

SEC commissioners voted 3–2 to propose the rule, which was mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act, P.L. 111-203.

If the rule is approved, companies would be required to disclose:

• The median of the total annual compensation of all their employees except the CEO.
• The annual total compensation of the CEO.
• The ratio of the two amounts.

The proposal was drafted to provide companies with flexibility in complying with the requirement while fulfilling the Dodd-Frank requirement, SEC Chairman Mary Jo White said. The rule would allow companies to determine the median and calculate the annual total compensation in a way that best suits its own circumstances, she said.

Companies would be allowed to use “reasonable estimates” in calculating the total compensation for employees, the proposal says. Statistical sampling could be used to help a company identify the median in a cost-efficient manner, according to the proposal.

The provision already has generated significant controversy. The commission has received more than 20,000 public comment letters on the topic. Some commenters said this information was important for investors, but others said investors do not need this information and that the median pay would be difficult and costly to calculate, according to White.

SEC Commissioner Daniel Gallagher, in his dissent, said the pay-ratio computation will be costly while providing little useful information. “Its only conceivable purpose is to name and, presumably in the view of its proponents, shame U.S. issuers and their executives,” he said.

Gallagher also disapproved of the approach of the proposal because it requires all seasonal, temporary, and part-time employees throughout the world employed by the company or its subsidiaries to be included in the median salary calculation. A less complicated and costly approach would have been to consider only the full-time U.S. employees of the issuer and its subsidiaries, according to Gallagher.

But Commissioner Luis Aguilar said the pay-ratio disclosures would help investors make informed investment decisions and exercise their rights as shareholders and owners. He said executive pay transparency would foster accountability, and said the pay-ratio disclosure can provide perspective for executive compensation decisions.

Aguilar said companies often benchmark their executive compensation to the 50th, 75th, or even 90th percentile of their peer group with the stated objective of attracting talented executives. But he said this naturally creates an upward bias in CEO pay because not all CEOs are above average and it is mathematically impossible for all CEOs to be paid above the 50th percentile of their peer group.

“If comparing CEO compensation solely to the compensation of other CEOs can lead to an inefficient upward spiral, then comparing CEO compensation to the compensation of an average worker may help offset that trend,” Aguilar said.

The SEC is seeking comments within 60 days after publication in the Federal Register.

—Ken Tysiac (ktysiac@aicpa.org) is a JofA senior editor.