The new Jumpstart Our Business Startups Act (JOBS Act), signed into law on April 5, significantly scales back and relaxes restrictions for so-called emerging growth companies under the Sarbanes-Oxley Act (SOX), the Dodd-Frank Act, and other securities laws. The EGCs generally include all companies conducting an initial public offering that have less than $1 billion in gross revenues in their most recent full fiscal year. The act’s purpose is to provide an “on-ramp” for private companies seeking capital by, in part, making the IPO process less burdensome and the transition to public ownership easier.
Significant media attention has been directed at exemptions that permit the EGCs to avoid internal-controls attestation from their auditors otherwise mandated by SOX, and to commence the SEC registration process by making confidential filings. But other less-noticed changes in the JOBS Act allow the EGCs a generous transition period before becoming subject to all SEC executive-compensation disclosure requirements and Dodd-Frank corporate-governance rules that otherwise apply to most public companies.
A time-consuming and difficult task for many companies when getting ready for an IPO has been preparing the “Compensation Discussion & Analysis,” or CD&A. The CD&A requires a company to disclose the objectives of its executive-compensation program, what the program is designed to reward, each element of compensation, why the company chooses to pay each element of compensation, how award amounts are determined, and how each compensation element and the company’s decisions regarding that element fit into overall compensation objectives. Many pre-IPO companies do not use compensation committees, and determining how to address such questions after the fact can be quite challenging. That’s particularly so when compensation is based on performance goals tied to operational objectives, as opposed to a financial measure (such as earnings or diluted EPS).
The JOBS Act allows the EGCs to meet Securities and Exchange Commission executive-compensation disclosure requirements (under Item 402 of Regulation S-K) by providing the abbreviated form of disclosure otherwise permitted for companies with a market value of outstanding common equity held by nonaffiliates of less than $75 million. A company that qualifies as an EGC will not be required to provide a CD&A. The JOBS Act also narrows whose compensation must be disclosed and what must be disclosed in an EGC registration statement (SEC Form S-1) and proxy-statement filings as follows:
- Smaller group of named executive officers, or NEOs. The EGCs will be required to disclose the compensation of only the chief executive officer and the two other most highly compensated executive officers in the Summary Compensation Table as opposed to the chief executive officer, chief financial officer, and the three other most highly compensated officers.
- Shorter look-back period for the summary compensation table. Compensation for the smaller group of NEOs once the EGC becomes a public company will be required for only the two most recently completed fiscal years, as opposed to the typical three-year look-back period.
- Fewer disclosure tables. The EGCs need not disclose detailed tabular disclosure of nonqualified deferred-compensation plans, pension arrangements, grants of plan-based awards, and options exercises/vesting of stock awards in the last fiscal year (although there will still be required disclosure of outstanding equity awards held at year-end).
- No required compensation risk disclosure. The EGCs will not be required as part of the SEC disclosure rules to assess whether the structure of their executive-compensation program is reasonably likely to have a material adverse effect on the company.
The relief related to executive compensation under the JOBS Act also extends to key changes under the Dodd-Frank Act. Public companies under Dodd-Frank must generally afford shareholders the opportunity to make an advisory vote on whether to approve the compensation of the named executive officers — the so-called say-on-pay vote — and how frequent the say-on-pay vote should be conducted (i.e., every one, two, or three years).
A separate advisory vote also applies to many change-in-control transactions so that shareholders can express their view on whether payments scheduled to be made to NEOs as part of these transactions are appropriate. The JOBS Act exempts a company from holding these types of advisory votes until one year after it ceases to be an EGC, but in no event earlier than three years after an IPO. The EGCs will also be exempt from “pay for performance” and “internal pay equity” disclosure requirements that may later become effected through SEC rulemaking.
The EGC status and the ability to take advantage of these favorable rules do not last forever. A company’s status as an EGC ends upon the earlier of (1) the last day of the fiscal year following the fifth anniversary of the IPO, (2) the last day of the fiscal year in which it has gross revenues over $1 billion (as adjusted for inflation), (3) the date on which it has more than $1 billion (not inflation-adjusted) in nonconvertible debt securities over the prior three years, or (4) becoming a so-called large accelerated filer (i.e., having $700 million or more of worldwide value).
The JOBS Act does not relax the standards otherwise applicable to companies that first sold stock to the public through a registered offering under the Securities Act of 1933 (such as an IPO on Form S-1 or a selling shareholder’s secondary offering on a resale registration statement) on or before December 8, 2011. However, companies currently in the registration process or that became a public company after December 8, 2011, can still qualify for this relief under the JOBS Act.
Additional guidance regarding the EGC provisions of the JOBS Act released on April 16, 2012, by the SEC in the form of Q&As is available here.
Andrew Liazos heads the executive-compensation practice at law firm McDermott Will & Emery LLP. The author wishes to thank Polly Plimpton for her assistance in preparing this article.