New Compensation and Corporate Governance Rules (Post 1 of 8)

The legislation I have been following (Prior Post 1, Prior Post 2) is no longer a bill sitting on the steps of Capitol Hill.  On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the "Act").  The Act represents significant legislation containing executive compensation and corporate governenance rules that apply to most public companies.  Due to the significance of the Act and the fact blog entries are not intended to be lengthy, I will address the Act in 8 separate entries, beginning with clawbacks.

New Clawback Requirement More Expansive than Section 304 of SOX

As a listing requirement, national securities exchanges will require companies to implement clawback policies (a.k.a. recoupment policies) that are more expansive than current requirements under Section 304 of the Sarbanes-Oxley Act (“Section 304”).  Under the Act:

  • The clawback policy must be triggered any time the company prepares an accounting restatement resulting from material noncompliance with any financial reporting requirement (in contrast, Section 304 applies only when a restatement of financial statements is “required” and is the result of “misconduct”).
  • Once the clawback policy is triggered, it would apply to all incentive-based compensation paid to current and former executive officers (in contrast, Section 304 applies only to the CEO and CFO).
  • The look back period for which incentive-based compensation is subject to clawback is the three-year period preceding the date on which the restatement is required (in contrast, the look back period under Section 304 is twelve months).
  • The amount subject to the clawback is the difference between the amount paid and the amount that should have been paid under the accounting restatement.

Effective Date

No deadline was provided within which national securities exchanges must implement this rule.

Issues to Consider

Previously (Prior Post) I set forth issues that should be considered in designing clawback policies.  Due to the Act's requirements, I am updating that Post with the following:

  • Clawback policies should be revisited to determine what changes would be required under the Act.
  • Determine “who” should be responsible for clawback enforcement (e.g., a risk assessment officer, the compensation committee, the full board of directors) and what repayment procedure should be used once a clawback is triggered.
  • Determine whether the clawback policy should be more expansive than required under the Act.  For example, consider adding more events that would trigger the clawback than currently required under the Act, such as poor performance, violation of noncompetes, negligence, etc.  As I previously addressed (Prior Post), one reason for a strong clawback policy is that it can act as a mitigating factor to negate risk assessment disclosure under recent SEC rules (which require narrative disclosure of compensation policies and practices that are “reasonably likely” to have a “material adverse effect” on the company). Plus, a strong clawback policy acts as positive CD&A disclosure.
  • The above should involve a current analysis and review of all compensation arrangements between a company and its executive officers (e.g., employment agreements, bonus arrangements, equity awards) to ensure proper integration between such arrangements and a company's new clawback policy.

 We will likely see more activity in this area as the national securities exchanges begin to implement this rule.  Until then, stay tune for more posts on the Act (Posts 2 through 8)!

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