The NASPP Blog

The PCAOB has proposed standards requiring auditors to assess whether compensatory arrangements held by executive officers create risks of material misstatements. According to Steve Seelig in Towers Watson’s Executive Pay Matters blog (“Does New PCAOB Proposal Really Eliminate the Risk of Auditor Involvement in Executive Compensation Design?,” May 30, 2013), the focus is on “the potential for incentive compensation program structures to create incentives for executive officers to exaggerate gains or minimize losses.”

This a re-proposal of a proposal from 2012. According to the PCAOB, the redraft is designed to make it clear that the auditor isn’t required to assess the reasonableness of the compensation.  Steve, however, doesn’t see much difference between the two proposals and based on the comparison he includes in his blog, I don’t see much difference either. To be honest, they both seem fairly inscrutable to me. 

Are You Going to Get to Know Your Auditor Even Better?

While there’s the potential for any type of compensation to incent executives to make the company’s financial condition look better than it is, this is particularly a concern with stock compensation, where the value delivered to the exec is driven by the stock price, which, in turn, is driven by the company’s financial performance.  Thus, this is potentially something new that auditors will be focusing on when they review your stock compensation programs. The PCAOB proposal calls for auditors to read the related compensation contracts (this would be the grant agreements and any other related documentation for stock awards) and also to read the disclosures in the company’s proxy statement and other public filings. 

My first thought is “aren’t the auditors already reading those things?”  Probably they are (aren’t they?), but maybe not with a focus on whether the arrangements create risk that execs will be incented to misstate the company’s financials. 

But given what many stock plan administrators have told me about their auditors–i.e., their auditors are often fresh from the CPA exam with little to no understanding of stock compensation–I also have to wonder whether the auditors are really capable of making this assessment.  It seems unlikely that someone who doesn’t understand what the exercise price of an option is will understand the nuances in financial risk inherent in, say, an option vs. restricted stock, and how clawback provisions and holding requirements might be used to mitigate that risk. Steve is concerned that auditors “may develop bright-line rules on what compensation programs are risky or not,” which seems like a reasonable concern to me. 

Light Reading

If you are looking for some light summer beach reading, well, this PCAOB proposal sure isn’t it (however, I do recommend “Let’s Pretend This Never Happened” by Jenny Lawson–perfect summer reading and nothing to do with stock compensation).  The whole thing (the PCAOB proposal, not the Jenny Lawson book) clocks in at 203 pages and includes sentences like “In the fourth bullet, delete the period (.) and add a semicolon (;) at the end of the bullet.”  Seriously? 

On the other hand, if you can wade through the proposal, (1) you are a better person than me, and (2) you have until July 8 to submit your comments to the PCAOB.

– Barbara