The Securities and Exchange Commission (SEC) has implemented new rules, now adopted by the New York Stock Exchange (NYSE) and the Nasdaq Stock Market (Nasdaq), requiring all listed companies, including emerging growth companies (EGCs) and smaller reporting companies (SRCs), to create and enforce executive compensation “clawback” policies.
What is a Clawback Policy?
Clawback policies generally require publicly listed companies to recover, or “claw back,” excess incentive-based compensation paid to current and former executive officers in the event of a material accounting restatement. These new rules are evidence of the SEC’s continued commitment to promoting transparency, corporate responsibility, and investor protection.
Who is Affected?
The clawback regulations and related disclosure requirements will apply to foreign private issuers (FPIs), SRCs, EGCs, and controlled companies.[7] Essentially, all public companies listed on the NYSE and the Nasdaq must comply with these rules as a condition of continued listing. For EGCs and SRCs, it is critical to understand that the rules apply equally, without exception, to all issuers that list any security on a national securities exchange, including both equity and debt securities.
What is New?
In summary, the new rules approved by the SEC include the following changes:
- Exchange Act Rule 10D-1: Requires stock exchanges to enact listing standards mandating each listed company adopt and enforce a written clawback policy. The clawback applies to all erroneously awarded incentive-based compensation that executives would not have otherwise received based on any restated financials. This clawback covers a look-back period of three (3) years preceding the date of a required restatement.[1]
- Item 402(w) of Regulation S-K: Requires certain disclosures, including but not limited to the date of an accounting restatement and the aggregate dollar amount of the erroneous compensation, in a company’s Form 10-K and proxy statement where an accounting restatement triggered a clawback during the last fiscal year.[2]
- Item 601(b)(97) of Regulation S-K: Requires filing the company clawback policy as an exhibit to Form 10-K and the addition of new checkboxes on the cover of each Annual Report (Forms 10-K, 20-F, and 40-F) indicating whether it contains a correction to an error on previously issued financial statements and if such error required a compensation recovery analysis. [3]
Key Aspects and Impacts
- Clawback policies must apply to all executive officers, regardless of whether the officer was responsible for the error leading to the restatement.[4]
- Clawback applies to a broader range of executives than previous regulations. It encompasses the Principal Financial Officer, the Principal Accounting Officer, and the President and Chief Executive Officer. [5]
- Clawback policies will be triggered by both “big R” (corrections of an error in previous statements that are material) and “little r” (corrections of an immaterial error in previous statements recognized in the current period) restatements, meaning that a clawback can be triggered by any restatement made to correct an error in previously issued statements.[6]
- Companies must track, calculate, and recover executive compensation that was (1) incentive-based, (2) erroneously awarded, and (3) received by any executive officer during the three years preceding the date an accounting restatement was required.
When Do the New Regulations Take Effect?
These clawback regulations for both the Nasdaq and the NYSE become effective on October 2, 2023.[8] However, companies must adopt their own clawback policies that are compliant with Rule 10D-1 within sixty (60) days after October 2, 2023, effective date, or by December 1, 2023.[9]
But companies must keep in mind that Rule 10D-1 requires such adopted clawback policies to be applied to any incentive-based compensation received on or after October 2, 2023, and satisfy their related disclosure obligations in SEC filings under Item 402(w) and Item 601(b)(97). Companies must begin providing the disclosures in their annual reports and proxy statements that are filed after their clawback policy is adopted.[10]
What Happens If a Company Fails to Comply?
The penalty for non-compliance? Delisting. Thus, all listed companies should promptly evaluate their current executive compensation plans, existing clawback policies, and existing disclosures for upcoming 2022 Annual Reports and proxies to confirm compliance with the new rules. This evaluation should involve consultation with legal counsel, compensation consultants, and auditors.
The ever-changing regulatory landscape can be challenging to navigate. If you have questions about these new rules and the implications for your company or need counsel about achieving compliance, please contact a member of our Corporate team.
[1] Practical Law Corporate & Securities, ‘SEC Adopts Final Executive Compensation Clawback Rules’ Practical Law Company (27 October 2022) accessed 22 June 2023.
[2] Id.
[3] Id.
[4] Id.
[5] 17 CFR § 240.16a-1
[6] Practical Law Corporate & Securities, ‘SEC Adopts Final Executive Compensation Clawback Rules’ Westlaw Practical Law Company (27 October 2022) accessed 22 June 2023.
[7] Id.
[8] Practical Law Corporate & Securities, ‘NYSE and Nasdaq Amend Clawbacks Proposals to Delay Effective Date’ Practical Law Company (7 June 2023) accessed 22 June 2023.
[9] Id.
[10] Id.
