The rules of the New York Stock Exchange (NYSE) and the Nasdaq Stock Market (Nasdaq) require that a majority of a listed company’s board of directors (board) must be comprised of “independent directors” and that vital board committees such as the audit, compensation and nominating/governance committees must be comprised solely of independent directors (subject to certain exceptions).
For a director to be considered independent under the NYSE and Nasdaq rules, the company’s board must affirmatively determine that the director has no material relationship with the company. Further, the NYSE and Nasdaq rules provide for specific bright-line independence tests which preclude the board from determining that a director is independent, including certain employment, family and business relationships, as well as certain interlocking compensation committee relationships. The “independence” definitions are narrow and essentially require that directors be truly free of any relationship or transaction that could interfere with the director’s exercise of independent judgment in carrying out his or her responsibilities to the company.
Because the determination of director independence is crucial for maintaining SEC and stock exchange compliance (as well as Delaware law process protections in some situations), in-house and outside securities counsel often closely scrutinize the facts and circumstances of various relationships to confirm that director independence would not be jeopardized. Companies will often produce written memoranda that carefully analyze the specifics facts and circumstances of a director to help support the board’s determination that a director or director nominee is “independent” under the applicable standards.
It is with this background that we found interesting a recent comment letter exchange in which the Securities and Exchange Commission (SEC) Staff questioned the registrant about its disclosure that a director was deemed independent notwithstanding the fact that the director was then-serving as the company’s corporate secretary.
The registrant took the position that the director was “independent” under the rules because (i) a corporate secretary position is not included in the definition of “officer” as defined by the SEC, and (ii) it did not consider the corporate secretary position as an employment relationship because the director did not receive any compensation for serving in the role and had only performed minor services in the role.
However, to help resolve the comment, the registrant noted the director had agreed to step down from his role as corporate secretary.
The comment and response are linked here and repeated below:
Amendment No. 8 to Registration Statement on Form S-1
Director Independence, page 65
- We note your amended disclosure in response to comment 1 that states that the board of directors has determined that Mr. Scala is independent. However, it appears that Mr. Scala is currently employed as Secretary of the company. Nasdaq Rule 5605(a)(2) defines an “Independent Director” as “a person other than an Executive Officer or employee of the company…” and states that “[t]he following persons shall not be considered independent: (A) a director who is, or at any time during the past three years was, employed by the Company.” [Emphasis added]. Please clarify. To the extent that you maintain that Mr. Scala is an independent director, please advise as to how you arrived at this determination.
The Company acknowledges the Staff’s comment and that Mr. Scala has served as the corporate Secretary of the Company since May 2020. However, the Company respectfully submits, after consultation with its outside consultants and advisors, that serving in such capacity does not make Mr. Scala an “Executive Officer” or an employee of the Company as such terms are used in Nasdaq Rule Section 5605(a)(2) based on the guidance available under current NASDAQ Rules.
Specifically, under NASDAQ Rule 5605(a)(1), an “Executive Officer” means those officers covered in Rule 16a-1(f) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Rule 16a-1(f) provides, in relevant part, that “The term “officer” shall mean an issuer’s president, principal financial officer, principal accounting officer (or, if there is no such accounting officer, the controller), any vice-president of the issuer in charge of a principal business unit, division or function (such as sales, administration or finance), any other officer who performs a policy-making function, or any other person who performs similar policy-making functions for the issuer.” While Mr. Scala has served as the corporate Secretary of the Company, he does not perform any policy-making function in such role, and as such the Company does not believe he is a covered officer under Rule 16a-1(f) of the Exchange Act.
In addition, as Mr. Scala has not received any remuneration or compensation from the Company for any services other than as a director, he would not be deemed an “employee.” The term “employee” can generally be defined as “one employed by another usually for wages or salary and in a position below the executive level” [Merriam-Webster], “a person who works for another in return for financial or other compensation,” or “a person who is hired for a wage, salary, fee or payment to perform work for an employer.” Further, §31.3121(d)-1 under the Internal Revenue Code, provides, in pertinent part, as follows:
“(b) Corporate officers. Generally, an officer of a corporation is an employee of the corporation. However, an officer of a corporation who as such does not perform any services or performs only minor services and who neither receives nor is entitled to receive, directly or indirectly, any remuneration is considered not to be an employee of the corporation. A director of a corporation in his capacity as such is not an employee of the corporation.”
Respectfully, the Company submits that Mr. Scala should not be considered an employee under either of these definitions. He has graciously accepted the title of corporate Secretary, has volunteered his time in this regard without compensation, and has performed only minor services in this role.
Notably, Mr. Scala is also the CEO and founder of Pathfinder Consultants International, Inc., where he works on full-time basis. Pathfinder Consultants International is a firm that provides services to its clients on a variety of matters, including, Monitorships, Executive employment screening, Covert Internal Investigations, Vendor qualification, Asset Recovery, Crisis Management, Executive protection, Site Surveys, Surveillances, Negotiation Training, Firearms Training and Tactical training.
Notwithstanding and in addition to the foregoing, Mr. Scala has agreed to step down from his role as corporate Secretary and the Company has appointed Mr. Craig Denson as the new corporate Secretary.
If you have any questions regarding any of the topics covered in this blog post, please feel free to contact a member of our Corporate & Securities practice group or, if applicable, contact your primary Bass, Berry & Sims relationship attorney.