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November 1, 2002

Mr. Jonathan G. Katz,
             Securities and Exchange Commission,
                  450 Fifth Street, N.W.,
                         Washington, D.C. 20549-0609.

  Re:   Proposed Rule Change by the New York Stock Exchange, Inc.
Relating to Shareholder Approval of Equity Compensation Plans
and the Voting of Proxies -- File No. SR-NYSE-2002-46

Dear Mr. Katz:

             We are responding to Release No. 34-46620 (the “Release”), in which the Securities and Exchange Commission (the “Commission”) solicited comments on the proposal by the New York Stock Exchange, Inc. (the “NYSE”) to amend its rules relating to shareholder approval of equity-compensation plans and the voting of proxies by member organizations.

             We have set forth below specific aspects of the proposal that we believe, based on our review and on discussion with our clients, can be improved or clarified.

I. The Shareholder Approval Requirement Should Apply Only to Companies Listing Common Stock

             The NYSE proposal from which the Release was excerpted1 clarifies that the shareholder approval requirements apply to “companies listing common stock on the [NYSE], and to business organizations in non-corporate form such as limited partnerships, business trusts and REITs,” but not to passive business organizations in the form of trusts, derivative and special purpose securities or closed-end management companies. The Release does not include this clarification and therefore lacks guidance as to the applicability of the proposed shareholder approval requirement. Moreover, it would not appear that the shareholder approval requirement should apply to entities that do not issue common stock, such as limited partnerships and business trusts. Because the stated purpose of the proposal is to protect “shareholders” from dilution, it seems evident that the shareholder approval requirement is intended to apply only to companies listing common stock on the NYSE. The final rule should make this clear.

II. Scope of “Equity-Compensation Plan” Definition

  1. Plans That Do Not Involve the Delivery of an Equity Security Should Not Be Equity-Compensation Plans

             The proposed rule does not define “equity-compensation plans.” However, the stated purpose of the proposed approval requirement is to “provide checks and balances on the process of earmarking shares to be used for equity-based awards, and to provide shareholders a voice regarding the resulting dilution.” Requiring shareholder approval of plans or arrangements that do not provide for the delivery of equity securities is not consistent with this stated purpose. Therefore, we suggest that the rule make clear that cash-only plans – even plans where the cash received is linked directly to the stock price, such as stock appreciation rights that may be settled only in cash – and other plans where equity securities are not deliverable are excluded from the definition of “equity-compensation plans.”

  2. Non-Compensatory and Deferred Stock Purchase Plans Should Not Be Equity-Compensation Plans

             The Release provides that an “equity-compensation plan” would not include a plan that “merely provides a convenient way (for example, through payroll deductions) for employees, directors or other service providers to buy shares on the open market or from the issuer, even if the brokerage and other costs of the plan are subsidized,” so long as the purchasers pay fair market value for the shares. Statement of Financial Accounting Standards No. 123, issued by the Financial Accounting Standards Board, treats certain employee stock purchase plans as non-compensatory if, among other requirements, shares are sold to employees at a minimal discount, e.g., five percent or less, from market price at the time of purchase. We suggest that plans that satisfy the criteria set forth in paragraph 23 of SFAS No. 123 for non-compensatory stock purchase plans should not be considered “equity-compensation plans” for the purposes of the shareholder approval requirement.2

             It is also common for issuers to permit their employees to acquire stock at market prices on a pre-tax basis by means of payroll and/or bonus reductions, with the delivery of the stock and the withholding of taxes deferred until a later date. The employee receives the benefit, and is subject to the risk, of changes in the market price of the stock from the time of the pay reduction until delivery of the stock. It is unclear whether the current carve-out from the definition of “equity-compensation plans” covers these plans, because the tax-deferral aspect may mean that the plan is not “merely” for convenience. Because the tax-deferral aspect does not seem to run counter to the purposes of this exception, we believe that the carve-out should be clarified to cover such deferred stock purchase plans (e.g., by adding the following words after “subsidized”: “and even if the plan results in a deferral of the payment of taxes and/or the delivery of the stock.”)

III. Material Revisions

  1. “Material” Revisions Should Be Defined

             The Release requires shareholder approval of all “material revisions” to equity-compensation plans. “Material” is not defined in the proposed rule, although numerous examples are given of specific events that would be deemed “material revisions”. The absence of a general definition, or even factors to be considered in making the materiality determination, will make it difficult for companies to determine when shareholder approval is necessary outside of the specific situations covered by the provided examples. We suggest that the final rule specify that “materiality” be defined by reference to former Rule 16b-3 under the Securities Exchange Act of 1934 (the “Exchange Act”) and the interpretations thereunder. Under this approach, a revision would be material if the revision:

  • materially increased the benefits accruing to participants;

  • materially increased the number of securities that may be issued under the plan; or

  • materially modified the eligibility requirements of the plan.

             This would work toward harmonizing the NYSE proposal with the similar proposal by the Nasdaq Stock Market.3 In addition, this approach would permit the incorporation of the existing SEC interpretations of the above criteria, reduce the number of interpretational issues that would be presented to the NYSE under the new rule and focus the requirement on the types of revisions that would be of concern to shareholders.

  2. Option Repricings Should Be Deemed Permitted in the Absence of an Express Prohibition

             Many equity-compensation plans are silent on the ability of the listed company to engage in repricing of options. As a matter of contract interpretation, the absence of a prohibition on repricings will generally be construed to permit the company to engage in repricings.4 The proposed rule runs contrary to this general understanding by indicating just the opposite – repricings are prohibited unless expressly permitted. We believe that it is inappropriate for the NYSE to change the current contractual expectations of listed companies and, in effect, to import substantive contractual provisions into existing equity-compensation plans. We recommend that the issue of the permissibility of repricings be left to the relevant state contract law.

  3. Companies Should Be Permitted to Add a 10-Year Term to Evergreen Plans Without Shareholder Approval

             Footnote 8 of the Release provides that an automatic increase in the shares available under a plan pursuant to an “evergreen” formula will not be considered a “revision” if the term of the plan is limited to a specified period of time not in excess of ten years. Companies that have existing shareholder-approved evergreen plans with terms of more than 10 years (including unlimited terms) may wish to amend their plans to conform to the requirements of the rule. We suggest that the final rule clarify that such an amendment would not itself be a “material revision” requiring shareholder approval. The rule provides that a material extension of the term of a plan would be deemed a material revision, which implies that a reduction in the term of a plan would not be a material revision, but we believe it would be helpful for the rule to state this expressly.

             In addition, the proposed rules do not address whether the 10-year maximum term must run from the date of effectiveness of the rule, the date of addition of the 10-year term or the date of original adoption or shareholder approval of the plan. We suggest that the rule clarify that the 10-year term requirement is satisfied if the specified term ends no more than 10 years from the date that the term provision is added to the rule.

IV. The “Parallel Nonqualified Plan” Definition Should Be Conformed to the Rule 16b-3 Definition of “Excess Benefit Plan”

             The definition of “parallel nonqualified plan” in the proposed rule is similar to, but not identical to, the definition of “Excess Benefit Plan” in Rule 16b-3 under the Exchange Act. Rule 16b-3 defines an Excess Benefit Plan as “an employee benefit plan that is operated in conjunction with a Qualified Plan [e.g., a 401(k) plan], and provides only the benefits or contributions that would be provided under a Qualified Plan but for any benefit or contribution limitations set forth in the Internal Revenue Code of 1986, or any successor provisions thereof.” The primary difference between the two definitions is that the “parallel nonqualified plan” definition contains the requirement that the plan cover “all or substantially all employees of an employer who are participants in the related qualified plan” whose annual compensation is in excess of the relevant Internal Revenue Code provisions.

             We believe that whatever additional shareholder protection is obtained by adding this requirement to the exception does not outweigh the inefficiencies inherent in having two different standards for plans operated in conjunction with tax-qualified plans. The requirements in the Excess Benefit Plan definition that the plan be “operated in conjunction with” a 401(k) plan and provide only the benefits or contributions that would be provided under a 401(k) plan absent the Internal Revenue Code limitations would, in our view, provide sufficient protection against abuse of the parallel plan exception. Using the Rule 16b-3 definition would also permit the NYSE to obtain the benefit of the Commission’s guidance as to the definition of Excess Benefit Plan.

             Finally, using the Excess Benefit Plan definition would permit the exception to the shareholder approval requirement to be available to “top hat” plans. Most nonqualified plans operated in parallel with qualified plans are “top hat” plans, which are plans that are exempted from some requirements of the Employee Retirement Income Security Act of 1974 (“ERISA”) because they apply only to “a select group of management or highly compensated employees.”5 These plans generally qualify as Excess Benefit Plans and also would qualify as “parallel nonqualified plans” but for the fact that the “select group” subject to the plan may exclude some employees who are participants in the underlying tax-qualified plans and whose compensation exceeds the applicable compensation limitations. Consequently, to avail itself of the “parallel nonqualified plan” exception, a listed company may be required to expand coverage under its plans in a manner that jeopardizes their qualification as “top hat” plans under ERISA. Failing the top hat plan exemption would make it impossible to deliver the tax-deferred benefits that these plans are designed and intended to provide, and defeat their purpose of operating “in conjunction with” the underlying tax-qualified plan as contemplated and recognized under Rule 16b-3. We see no policy reason to force NYSE-listed companies to forgo the benefits of the ERISA exemptions in order to qualify for the shareholder approval exception.

V. Transition Issues

  1. A Transition Period Should Apply for the Approval of Existing “Evergreen” Plans

             The proposed rule provides that any plan including an “evergreen” formula that was not previously approved by shareholders would need to be approved “before the next increase in shares pursuant to the evergreen formula that occurs on or after the effective date of this rule.” Many evergreen provisions are triggered based on year-end data (for example, the number of outstanding shares). If the proposed rule becomes effective before December 31, 2002, companies with such plans would, as a practical matter, be unable to schedule a special meeting of shareholders to approve the formulaic increase. This would require these issuers to forego the increase at the risk of disrupting their system for compensating employees,6 or to condition grants on shareholder approval (which could have adverse financial accounting and employee relations consequences). This problem also arises for plans that have no express share limitation, but instead contain a blanket authorization for the issuance of shares in accordance with the terms of the plan; if such plans are deemed to contain an inherent evergreen provision, then a company runs the risk of being in violation of the rule upon the first issuance of shares under the plan following the effective date of the rule, because this would arguably be an increase in the shares available under the plan.

             We suggest that the rule be modified so that an evergreen plan adopted before the effective date would not be required to be submitted to shareholders for approval until the next annual meeting of shareholders.

  2. Existing Plans of Newly-Listed Companies Should Be Grandfathered

             The proposed rule provides that it will apply to a plan adopted before the effective date of the rule “only upon any subsequent material revision of the plan.” The proposed rule does not address the treatment of plans adopted after the effective date of the rule but before the company’s stock is listed on the NYSE. We believe that the grandfathering provisions of the proposed rule should apply equally to such plans. The purpose of the proposed rule is to give shareholders a voice in preventing potential dilution of their interest through the establishment of new equity-compensation plans and the material amendment of existing plans. There is no reason consistent with this purpose to require purchasers of shares of a newly-listed company to be given the ability to ratify or eliminate the equity-compensation plans underlying the company’s existing compensation structure. In fact, requiring newly-listed companies to subject all of their existing equity-compensation plans to a shareholder vote would, at a minimum, create a new financial and administrative burden to the listing process and could even result in the disruption of the company’s existing compensation system.

VI. Neither Compensation Committee Nor Board Approval Should Be Required for All Plans and Amendments Not Voted on by Shareholders

             The proposed rule provides that, “[i]n circumstances in which equity compensation plans and amendments thereto are not subject to shareholder approval, the plans and amendments still must be subject to the approval of the company’s compensation committee or a majority of the company’s independent directors.” The use of the phrase “subject to the approval” suggests that the approval of the compensation committee or independent directors must occur prior to the adoption or amendment at issue.

             In certain cases, a prior approval requirement would be impracticable. For example, as the proposed rule recognizes, employment inducement awards often need to be granted on an urgent basis, and compensation committee or director pre-approval would necessarily delay this process and place NYSE-listed companies at a disadvantage in the hiring process. In any event, we agree with the statement in the proposed rule that inducement awards and mergers and acquisitions “are not likely to be abused” and accordingly believe that compensation committee pre-approval is unnecessary. In addition, in our experience, technical amendments are often made to equity-compensation plans – particularly tax-qualified plans – due to changes in laws or regulations or to ease or expedite administrative matters. These amendments are often adopted without the prior approval of the compensation committee or independent directors, and we believe that it is not necessary to involve the compensation committee or the independent directors in this type of corporate housekeeping.

             We believe that the responsibility of the compensation committee with respect to equity-compensation plans should be that set forth in the NYSE’s August 16, 2002 proposal relating to compensation committee functions: to “make recommendations to the board with respect to incentive-compensation plans and equity-based plans.” This oversight function, together with the shareholder approval requirement and the Commission’s disclosure rules,7 will adequately protect and inform shareholders. To the extent that the Commission and the NYSE believe it appropriate to heighten committee oversight in this area, the compensation committee could be charged with the responsibility of reviewing periodically non-shareholder-approved plans and amendments adopted by the company. Alternatively, if it is determined that the compensation committee or independent directors should be responsible for pre-approving non-shareholder-approved plans and amendments, we recommend that the final rule specify that the compensation committee or independent directors are permitted to delegate this responsibility to others within the company, at least with respect to tax-qualified plans, which are strictly regulated under the tax laws.

VII. Technical Revisions Should Be Made to the Existing NYSE Voting Requirements

             Existing Section 312.07 of the NYSE Listed Company Manual provides for minimum voting requirements where shareholder approval is a “prerequisite to the listing of any additional or new securities of a listed company.” These requirements apply to existing Section 312.03(a), which the proposed rule will replace, and presumably are intended to continue to apply to the proposed rule. However, because the proposed rule is not technically a “prerequisite to listing”, Section 312.07 will need to be modified to make clear that it also applies to the new shareholder approval requirement.

*     *     *

             We appreciate the opportunity to comment to the Commission on the proposed NYSE rules, and would be happy to discuss any questions the Commission may have with respect to this letter. Any questions about this letter may be directed to Robert W. Reeder (212-558-3755), Max Schwartz (212-558-3936) or Marc R. Trevino (212-558-4239).

  Very truly yours,



1   The original proposal was filed with the Commission on August 16, 2002.

2   See SFAS No. 123, Accounting for Stock-Based Compensation, paragraph 23 (October 1995), which provides as follows: “If an employee stock purchase plan satisfies all of the following criteria, the plan is not compensatory. . . .
  • The plan incorporates no option features other than the following, which may be incorporated:
  • Employees are permitted a short period of time—not exceeding 31 days—after the purchase price has been fixed to enroll in the plan.

  • The purchase price is based solely on the stock’s market price at date of purchase, and employees are permitted to cancel participation before the purchase date and obtain a refund of amounts previously paid (such as those paid by payroll withholdings).
  • The discount from the market price does not exceed the greater of (1) a per-share discount that would be reasonable in a recurring offer of stock to stockholders or others or (2) the per-share amount of stock issuance costs avoided by not having to raise a significant amount of capital by a public offering. A discount of 5 percent or less from the market price shall be considered to comply with this criterion without further justification.

  • Substantially all full-time employees that meet limited employment qualifications may participate on an equitable basis.”
3   See Notice of Filing of Proposed Rule Change and Amendment No. 1 Thereto by National Association of Securities Dealers, Inc. Relating to Shareholder Approval of Stock Option Plans or Other Arrangements, Release No. 34-46649, Rule No. SR-NASD-2002-140 (October 11, 2002) (“Nasdaq will continue to provide guidance as to what constitutes a material amendment to a plan. Nasdaq currently determines the existence of a material amendment to a plan consistent with the Commission’s position under former Rule 16b-3 of the Act. In particular, Nasdaq looks to whether there is a material change to: (1) the benefits available to potential recipients under the plan; (2) the number of shares available under the plan; or (3) the class of eligible participants under the plan. Nasdaq is considering whether these factors can be refined, and may provide further guidance following this consideration.”)

4   We believe that this is generally the result a court would reach under New York and California law.

5   See ERISA §§201(2), 301(a)(3) and 401(a)(1).

6   In fact, it is unclear from the current materiality discussion in the proposed rules whether a decision by the company to forgo a scheduled increase under an evergreen plan would itself be a material amendment to the plan requiring shareholder approval.

7   See Final Rule: Disclosure of Equity Compensation Plan Information, Release No. 34-45189 (December 21, 2001).