Independence Requirements for NYSE- and Nasdaq-Listed Company Board Members
We tackle today independence requirements for board members of companies listed on the NYSE and Nasdaq. (You can reassure prospective board members that experience fighting hostile extraterrestrials bent on interplanetary mayhem is thankfully not one of the required attributes.)
First, a bit of background. Section 301 of the Sarbanes Oxley Act of 2002 and the related Section 10A(m) of the Exchange Act and Rule 10A-3 impose various requirements on listed company audit committees, including requirements relating to independence. Both the NYSE and Nasdaq have implemented SOX 301/Rule 10A-3 for audit committees. But they have also gone further, and have instituted independence requirements for a majority of the board, and independence (and various additional substantive requirements) for members of the corporate governance/nominating and compensation committees.
Here’s how the independence landscape looks:
Listed companies must have a majority of independent directors
The NYSE and Nasdaq generally require that a listed company’s full board is composed of a majority of independent directors (see NYSE Rules 303A.01 and 303A.02 and Nasdaq Rules 5605(a)(2) and 5605(b)(1)). There are exceptions for a number of entities you might typically encounter, including foreign private issuers, “controlled companies,” companies in bankruptcy and limited partnerships.
What does “independence” mean in this context? The answer differs for the NYSE and Nasdaq:
|NYSE Independence Standards||Nasdaq Independence Standards|
|The Board must affirmatively determine that the director has no material direct or indirect relationship with the company||The director is not an executive officer or employee of the listed company and in the opinion of the board (an affirmative determination), has no relationship, which would interfere with the exercise of independent judgment in carrying out the responsibilities of a director|
For a printable version of this chart, click here.
|Specific Disqualifications from Independence||NYSE||Nasdaq|
|Relationship with the Listed Company||Director is or within last three years was, an employee of the company or a family member is or within the last three years was, an executive officer of the company||Director is or has been within the last three years an employee of the company or a family member is or within the last three years was an executive officer of the company|
|Compensation from the Listed Company||Director has received or an immediate family member has received during any 12-month period in the last three years, compensation of more than $120,000 from the company (not including compensation for service as a director or payments under a pension plan or non-contingent deferred compensation)||Director or family member has received during any 12-month period in the last three years, compensation of more than $120,000 from the company (not including compensation for service as a director, payments to a family member who is an employee (but not an executive officer), payments under a tax qualified retirement plan or other non-discretionary compensation)|
|Relationship with the Listed Company’s Auditor|
|Director or a family member is a current partner of the company’s outside auditor and worked on the company’s audit during the past three years|
|Compensation Committee Interlocks||Director or family member is or during the past three years was an executive officer of another company where any of the company’s current executive officers served on the compensation committee of the other company||Director or family member is or during the past three years was an executive officer of another company where any of the company’s current executive officers served on the compensation committee of the other company|
|Receipt of Payments for Property or Services from the Company||Director is an employee or family member is an executive officer of a company that has made to or received from the company payments in the past three years, which exceed the greater of 2% of the other company’s consolidated gross revenues for the last fiscal year or $1 million (excludes charitable contributions)||Director or a family member is a partner or controlling shareholder or executive officer of an organization that has made to or received from the company payments in the past three years, which exceed the greater of 5% of the recipient’s consolidated gross revenues for that year or $200,000 (other than payments arising solely from investments in the company’s securities and non-discretionary charitable contribution matching programs)|
For a printable version of this chart, click here.
Note that we have abbreviated these standards. If you encounter an independence question this chart will get you started, but is not a substitute for a careful review of the detailed rules. For example, “company,” “family member” etc. are defined more broadly than you may think. If you have any questions on the independence standards, let’s talk.
NYSE/Nasdaq and SOX independence requirements for members of the audit committee
Members of the audit committee must meet two sets of standards – those imposed by Rule 10A-3, and those imposed by the NYSE/Nasdaq rules. The upshot of this is that audit committee members need to be analyzed differently than members of other board committees. It’s not enough, for example, to conclude that a prospective director is independent just because he or she meets the NYSE/Nasdaq definition of independence; you have to think about the Rule 10A-3 definitions as well.
- SOX independence requirements. Each member of the audit committee must be a member of the board of directors and be independent. An independent director is one who does not accept any compensation from the company (other than for being a director) and is not an affiliated person of the company or any of its subsidiaries. The definition of an “affiliated person” looks to the familiar securities law definition of affiliate – i.e., one who controls, is controlled by or is under common control with the issuer.
- NYSE/Nasdaq additional requirements. Under the NYSE Rules, each member of the audit committee must be independent under SOX and the NYSE’s listing standards (discussed above) and be financially literate (see NYSE Rules 303A.06 and .07). Under the Nasdaq Rules, each member of the audit committee must be independent under SOX and the Nasdaq’s listing standards (discussed above) and members may not have participated in the preparation of the financial statements of the company or its subsidiaries in the past three years and must be able to read and understand financial statements (see Nasdaq Rule 5605(c)(2)). The NYSE and Nasdaq both require a company’s audit committee to be composed of at least three members.
We discuss independence requirements for members of the corporate governance/nominating committee and compensation committee in this WoW.