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From Securities Regulation Daily, May 23, 2013

House Panel Conducts Hearings on Pay Ratios, Private Equity Fund Registration, Audit Firm Rotation, and a DOL-SEC Fiduciary Duty Standard

By Jim Hamilton, J.D., LL.M.

The House Capital Markets Subcommittee examined a number of bills intended to amend the Dodd-Frank Act and eliminate unintended consequences of that Act. Rep. Scott Garrett (R-NJ), Chairman of the Subcommittee, said that he believes that the bills can be reported out of the subcommittee and also the full Financial Services Committee with bi-partisan support. Rep. David Scott (D-Ga) said that he will support the right kind of adjustments to Dodd-Frank, but that Congress must proceed cautiously in this area. For example, on the bill prohibiting the PCAOB from mandating audit firm rotation, Rep. Scott wants to hear from accounting firms. Similarly, he wants to hear from the SEC on the bill repealing the pay ratio provisions of Dodd-Frank. Rep. Robert Hurt (R-Va) said that Congress wants to make Dodd-Frank more useful and less harmful.

Burdensome Data Collection Relief Act. Introduced by Rep. Bill Huizenga (R-Mich), H.R. 1135, the Burdensome Data Collection Relief Act, would repeal Section 953(b) of the Dodd-Frank Act, which requires publicly traded companies to calculate and disclose in each filing with the SEC the median annual total compensation of all of its employees excluding its chief executive officer, disclose its chief executive officer’s annual total compensation, and calculate and disclose a ratio comparing those two numbers.

Small Business Capital Access and Job Preservation Act. Introduced by Rep. Robert Hurt, H.R. 1105, the Small Business Capital Access and Job Preservation Act, would exempt advisers to certain private equity funds from the new registration requirements imposed by Title IV of the Dodd-Frank Act. Specifically, H.R. 1105 would exempt from SEC registration advisers to private equity funds that have not borrowed and that do not have outstanding a principal amount in excess of twice their funded capital commitments.

Audit Integrity and Job Protection Act. Also introduced by Rep. Robert Hurt, H.R. 1564, the Audit Integrity and Job Protection Act, would prohibit the PCAOB from requiring that the audits of a particular issuer be conducted by specific auditors or that such audits be conducted by different auditors on a rotating basis.

SEC fiduciary duty rule. Rep. Ann Wagner (R-Mo) has circulated a discussion draft of legislation to amend Section 913 of the Dodd-Frank Act. Section 913(g)(1) of the Dodd-Frank Act authorizes, but does not require, the SEC to promulgate rules to extend the fiduciary standard of conduct applicable to investment advisors to broker-dealers. Rep. Wagner’s discussion draft prohibits the SEC from promulgating such a rule before: (1) the SEC determines whether retail customers are being harmed because broker-dealers are held to a standard different from that which applies to investment advisors; (2) the SEC’s chief economist assesses the costs and benefits of the rule; and (3) the SEC determines that the benefits of the rule justify its costs, identifies and assesses available alternatives, ensures that the rule is accessible, consistent, written in plain language, and easy to understand and that the rule measures and seeks to improve the actual results of regulatory requirements.

The Wagner bill would also require the SEC to coordinate with the Department of Labor when promulgating a fiduciary standard. The DOL is working on amending the ERISA fiduciary standard. Rep. Wagner noted that the DOL and SEC are heading for different standards on fiduciary duty. The legislation recognizes that we should not have a one-size-fits-all regulatory regime, but at the same time commands the SEC to take all necessary and appropriate steps to coordinate retail customer standards of conduct with other federal agencies, in this case the DOL, to minimize conflicts among regulations promulgated by other federal agencies.

On H.R. 1105, Rep. Hurt noted that this bill, which has bi-partisan support, puts private equity funds on the same footing as venture capital funds. They are not highly interconnected with other market players, he noted, and are highly unlikely to cause financial crisis.

Society of Corporate Secretaries. Robert Smith, testifying for the Society of Corporate Secretaries and Governance Professionals, said that the Society supports H.R. 1564 because mandatory audit rotation is not necessary to ensure professional skepticism. In fact, the PCAOB’s existing powers are adequate, including the authority to regulate audit firms, publicize a firm’s audit failures, and assess penalties (both financial and professional) on auditors judged to be lacking in professional skepticism.

The Society believes that these tools provide an effective arsenal to address issues with the firms through monetary and professional penalties and by publicity of failures that would adversely impact their customer base and, ultimately, an audit firm’s ability to retain clients. In this regard, the PCAOB is in a unique position to speak out on the need for auditor skepticism and thereby heighten sensitivity to the topic.

On the other hand, said the Society, mandatory rotation of external auditors would be an ineffective means of addressing the risk of inadequate professional skepticism, primarily because it fails to consider that auditors can be more skeptical when they have a full understanding of the facts and circumstances related to a client company’s business. Mandatory rotation of external auditors will not cure this purported problem.

Regarding H.R. 1135, the Society believes that it will be virtually impossible for large global companies to comply with Section 953(b) as now written and that implementation will impose a substantial burden even on smaller, non-global issuers.

The Society does not believe the pay ratio provides useful data for investors, who under existing SEC requirements have access to extensive disclosure on senior executive compensation. The pay ratio under Section 953(b) will not provide useful information to investors because it is not comparable in any way: across industries, companies, geographies, or employees.

Chamber of Commerce. Tom Quaadman, testifying for the Chamber of Commerce, said that the Chamber supports H.R. 1135 because the pay ratio demanded by Section 953(b) of Dodd-Frank will contribute to the clutter that has made public company disclosures increasingly irrelevant as a means of providing useful information to investors to make decisions on how to deploy capital with a reasonable expectation of return. For instance, a business that has a large hourly work force, such as a retail or fast food chain, will have a high differential in its ratio, while a Wall Street firm, where it is not uncommon for employees to make an amount comparable to the CEO, will have a much lower differential. This ratio does not convey information on the performance of a company, the health of a company, or what the long-term prospects of a company are.

According to the Chamber, Section 953(b) also imposes costly burdensome data collection requirements upon businesses. For businesses that operate in many nations, this would require companies to reconcile differing definitions and practices of compensation and benefits, adjust this compensation to currency fluctuations, and settle potential differences in definitions and practices as to who employees may actually be.

The Chamber also supports the Small Business Capital Access and Job Preservation Act, which builds upon the JOBS Act and is itself an important innovation that will help to ensure that small businesses continue to have access to diverse forms of capital formation.

MainStory: TopStory DoddFrankAct

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