Seyfarth Synopsis: After the Senate failed to secure the needed votes for a comprehensive coronavirus rescue package over the prior weekend, on Friday, Congress finally passed a $2 trillion package (the “CARES Act”) amidst classic drama between Republicans and Democrats in both houses. The President signed the legislation into law shortly thereafter. This blog post highlights the executive compensation provisions contained in the law. Click here to review the health and welfare plan provisions contained in the law; click here to review the defined benefit plan provisions; and click here to review the defined contribution retirement plan provisions.
One provision that delayed a quicker resolution concerned oversight, transparency and accountability on a fund designed to provide loans and loan guarantees to corporations. Democrats affectionately referred to it as a “slush fund,” as the Treasury Secretary held the solitary power to decide which companies received loans and for how much. Democrats also took issue with what they saw as relatively weak restrictions on executive compensation for companies receiving loans.
The final provisions of the CARES Act reflect a blend of both Senate Bill 3548 and House Bill 6379 with additional provisions that address Democrats’ concerns. This blog focuses on the nitty-gritty with respect to the executive compensation related items that apply to businesses who receive federal loans under the CARES Act.
Federal Loans – The rescue package includes $500 billion in aid for “eligible businesses,” states and municipalities. Relief is not available if any covered individual (including certain political officials and family members) hold at least a 20% interest in or value of an eligible business (alone or with another covered individual). The Federal loan program is broadly available to businesses impacted by the crises but with specific allocations to commercial airlines, cargo carriers and businesses critical to maintaining national security. The Treasury Secretary will have broad authority to administer the program with oversight by a new Treasury Department Special Inspector General for Pandemic Recovery and Pandemic Response Accountability Committee. For information beyond the executive compensation requirements addressed below, please see our general alert.
Executive Compensation Limits – In responding to the crisis and addressing the bleeding on businesses, many CEOs have stopped taking their salary and have reduced their executives’ pay. For companies that receive Federal loans under the CARES Act, their executive compensation practices will be reshaped for quite some time. The following limits are in effect for the period the loan remains outstanding (up to a maximum of 5 years) and for one year after the loan is paid off (“Compensation Limit Period”).
For any officer or employee of an eligible business whose “total compensation” exceeded one of the following thresholds in calendar year 2019, total compensation during any 12 consecutive months of the Compensation Limit Period is capped at the following amounts:
- If compensation exceeded $425,000, total compensation is capped at the amount received in calendar year 2019
- If compensation exceeded $3,000,000, total compensation is capped at $3,000,000 plus 50% of the excess over $3,000,000 of compensation received in calendar year 2019
Severance Pay Limits
Severance pay and other benefits cannot exceed two times the maximum total compensation received by the individual in calendar year 2019. The provision is somewhat ambiguous as to whether it applies to terminations during this period or severance pay received during the period, but suggests it is pay received.
In determining the thresholds, companies need to include salary, bonuses, awards of stock and other financial benefits. For public companies, this appears to equate to the total compensation disclosed in the Summary Compensation Table in their annual proxy. It does not include any stock gains from exercised options or sales from other vested equity. If a company is not public, until further guidance, it may consider using the rules for public companies to determine total compensation. In general, total compensation includes among other items, stock awards valued at grant date, employer contributions under 401(k) and nonqualified deferred compensation plans, perquisites, and pension values.
If a company receives a loan and maintains a severance plan covering these individuals, amendments will need to be made to meet these limits. Additionally, if a company has individual employment and/or severance agreements promising salary and severance commitments, it will need to amend these agreements. Given that these agreements are bilateral contracts to an executive who could sue to enforce, care should be given to obtaining any necessary consent before obtaining a loan.
Stock Buyback and Dividend Prohibition
For any eligible business who receives a Federal loan and is public, for the same Compensation Limit Period, the business cannot use any of its cash to buyback stock on the market, which has the effect of increasing stock value by decreasing the number of shares outstanding. This prohibition does not apply if there is a contractual obligation to repurchase shares in effect on the CARES Act’s enactment date. These companies cannot issue dividends either.
The Treasury Secretary has authority to waive this prohibition if necessary to protect the Federal government’s interests and if so, must be available to testify before Congress as to the reasons for the waiver.
In 2018, S&P 500 companies did a combined $806 billion in buybacks followed by another $370 billion in buybacks in the first six months of 2019, according to a January 7, 2020 Harvard Business Review article, “Why Stock Buybacks Are Dangerous for the Economy.” The authors concluded: “When companies do these buybacks, they deprive themselves of the liquidity that might help them cope when sales and profits decline in an economic downturn.”
When the time comes for post-mortem reflection, companies will be looking at ways to shore up their resiliency for the long-term. Given the recent economic fallout and the prohibition on stock buybacks for Federal loans, buybacks will likely also fall out of favor as a short-term boost in value even for companies that do not receive a Federal loan under the CARES Act.