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SEC Considering Re-Opening Comment Period for Clawbacks Proposal

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October 12, 2021 | Barbara Baksa

SEC Considering Re-Opening Comment Period for Clawbacks Proposal

The SEC has announced that it will hold an open meeting tomorrow, October 13, to consider re-opening the comment period on the proposed rules on compensation clawbacks. This is one of the few remaining rulemaking projects called for under the Dodd-Frank Act that the SEC has not completed. Back in August, I noted that it is on the SEC’s short-term agenda.

Background of the Proposed Rules on Compensation Recovery

The actual requirement here is a little convoluted, so stick with me. Section 954 of the Dodd-Frank Act requires the SEC to adopt regulations that would require the US exchanges to adopt standards that would require listed companies to adopt policies requiring the recovery of compensation that is awarded erroneously to executive officers.

The SEC proposed rules to implement this requirement back in 2015, but the rules were never finalized. This is probably in part because the proposal is fairly controversial and also because when the prior presidential administration took office in 2017, the SEC’s priorities shifted. Now, with a Democratic administration in place again, there has been yet another shift in the SEC’s priorities. As noted by

Consistent with the priorities that he identified in [the SEC's Reg Flex Agenda], SEC Chair Gary Gensler also has been remarking at recent conferences, such as the CII Fall Conference, that he wants to knock out remaining Dodd-Frank rulemaking in short order.

Remind Me Again, What Were the Proposed Rules?

The intent behind this requirement seems logical. Say that a company makes a payment to an officer based on the company having achieved a specified financial result. Then, after making the payment, the company discovers an error that causes it to restate its financials and, under the restated financials, the officer would not have earned the previously paid compensation. This section of Dodd-Frank is intended to ensure that the officer has to return the compensation that wasn’t earned. In theory, this makes sense. If the officer didn’t earn the compensation, should they be able to keep it?

But, in practice, recovering compensation in this circumstance is challenging, for a host of reasons. The requirements here are also much broader than the current clawback rules that are in effect under the Sarbanes-Oxley Act (which require misconduct and apply only to the CEO and CFO).

Here is what would be required under the SEC's proposal:

  • The requirement would apply to all officers (generally the same officers who are subject to Section 16) and former officers.
  • The recovery requirement would be triggered by any material noncompliance with financial reporting standards, regardless of whether intent, fraud, or misconduct is involved.
  • Only incentive compensation that is contingent on the restated financial results is subject to recovery. The SEC’s proposal, however, interprets this to include compensation paid under awards in which vesting is contingent on total shareholder return or stock price targets.

Recoverable Compensation

The amount of compensation that would be recovered is the excess of the amount paid over what the officer is entitled to, based on the restated financials.  In the case of awards in which vesting is contingent on TSR or stock price targets, the company would have to estimate the impact of the error on its stock price. 

Disclosures of Compensation Recovery

In addition to requiring a clawback policy, the SEC has also proposed a number of disclosures related to that policy:

  • The policy itself would be filed with the SEC as an exhibit to Form 10-K.
  • Companies would be required to disclose whether a restatement that triggered recovery of compensation has occurred in the past year.
  • If a restatement has occurred, the company would have to disclose the amount of compensation recoverable as a result of the restatement and the amount of this compensation that remains unrecovered as of the end of the year. For officers for whom recoverable compensation remains outstanding for more than 180 days, the company would have to disclose their names and the amounts recoverable from them.
  • For each person for whom the company decides not to pursue recovery of compensation, the company would have to disclose the name of the person, the amount recoverable, and a brief description of the reason the company decided not to pursue recovery.

The Long Road to a Requirement

We are still near the start of a long road to a requirement being in place. The SEC still has to adopt the final rules. Then the exchanges have to propose the new listing standards, solicit comments on them, review the comments, and adopt final listing standards. And then companies have to develop and implement their policies.

More Information

To learn more about this development and nine other developments to keep an eye on, don’t miss the session “10 Things Shaping What’s Next in Equity Compensation” at this year’s NASPP Conference.

- Barbara

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