Now’s a good time for general counsel to be reviewing their company’s compensation policy because a rule on mandatory clawbacks from the Securities and Exchange Commission is taking effect next year, Amy Knieriem of Mercer said in a webcast hosted by the consulting firm. 

Companies have several months at least to comply with the clawback rule but there are steps general counsel should be taking now to be ready.

For several years companies have been putting in place their own clawback policies, but the SEC rule is quite a bit different than most of these.

For starters, many clawback policies are limited to cases in which the CEO or other executive is involved in fraud or some other kind of misconduct, but the SEC requires a clawback even if there’s no misconduct involved. 

If the company simply makes an accounting mistake that requires a restatement, any incentive-based pay that’s tied to the incorrect amount has to be returned.

“You need to educate your officers, because they need to be aware their pay may be clawed back,” Knieriem said. 

Importantly, the SEC requires clawbacks for what’s known as Little r restatements, not just Big R restatements, which is typically the case in company policies. 

Little r restatements are those that affect current reporting periods while Big R restatements are those that affect past financials, a much more disruptive change.  

What’s more, the typical company policy applies to a narrow group of executives, usually the CEO and CFO, but the SEC rule broadens that to include executives who don’t necessarily have anything to do with preparing financials. Even former executives can be on the hook for returning money. That means the company needs to have a way to find top people who were part of the team when problem-ridden past financials were released.  

The other big difference is the role of the board. Directors aren’t going to have much discretion in deciding whether to go after an executive’s compensation; the SEC rule largely takes that decision away from them.

Policy review

General counsel should be reviewing their company’s policy to see how it aligns with the SEC rule and make sure it gets changed as needed. GCs should also look at company bylaws and compensation plans to make sure there’s nothing in them that prohibits compensation recovery. 

There are other assessments that need to be done, including on the tax side, since there are tax implications to compensation recovery.

On a practical matter, the company needs to have a way to find former executives in case it needs to go after them for past compensation, although the rule includes some leeway on this point. If the cost of recovering the money from former executives exceeds the amount the company would get back, the company can let the SEC know that to get that requirement waived. 

The SEC is still waiting for stock exchanges to come out with their own clawback rules. Nasdaq, the New York Stock Exchange and others are required to modify their standards to make clawbacks mandatory for any company that lists on their exchange. Once the exchanges come out with their changes, the SEC has to approve them. Then the exchanges have a year to put their new listing standards in effect. 

Once the standards are in effect, companies will be under the gun to comply; if a company doesn’t have a policy that meets all of the SEC’s requirements, the exchanges must delist it. 

“That’s a pretty draconian consequence,” she said.