Tag: Clawbacks


Not Clawing the Hand that Feeds You

The following post comes to us from Sterling Huang, Chee Yeow Lim, and Jeffrey Ng, all of the School of Accountancy at Singapore Management University.

The following post comes to us from Sterling Huang, Chee Yeow Lim, and Jeffrey Ng, all of the School of Accountancy at Singapore Management University.

In our paper, Not Clawing the Hand that Feeds You: The Case of Co-opted Boards and Clawbacks, which was recently made publicly available on SSRN, we examine the impact of beholdenness of the directors to the CEO on the adoption and enforcement of clawbacks.

Clawbacks have been increasingly prevalent in recent years, and the aim of such provisions is to provide a punishment mechanism that links an executive’s compensation more closely to his or her financial reporting behavior. Clawbacks typically allow firms to recoup compensation from executives upon the occurrence of accounting restatements. Perhaps not surprisingly, the implementation and enforcement of clawbacks by companies is likely to create tensions between boards and executives because executives are unlikely to want to have a “Sword of Damocles” hanging over the compensation that is already in their pocket and are likely to resist attempts by boards to claw at this compensation when accounting restatements trigger a clawback. Hence, to better understand the use of clawbacks by firms, it is important to understand the type of boards that are more likely to implement clawbacks.

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Key Issues From the 2013 Proxy Season

The following post comes to us from Ted Wallace, Senior Vice President in the Proxy Solicitation Group at Alliance Advisors LLC, and is based on an Alliance Advisors newsletter by Shirley Westcott. The full text, including tables and footnotes, is available here.

The following post comes to us from Ted Wallace, Senior Vice President in the Proxy Solicitation Group at Alliance Advisors LLC, and is based on an Alliance Advisors newsletter by Shirley Westcott. The full text, including tables and footnotes, is available here.

During this year’s annual meeting season, issuers experienced better outcomes on say on pay (SOP) and shareholder resolutions, underpinned by a high degree of engagement and responsiveness to past votes. With SOP in its third year, companies addressed many of investors’ and proxy advisors’ pivotal compensation concerns, which was reflected in a modest improvement in average SOP support and proportionately fewer failed votes.

Similarly, although the volume of shareholder resolutions on ballots was nearly comparable to the first half of 2012, average support declined across many categories and there were 27% fewer majority votes (See Table 1). This was due in large part to corporate actions on resolutions that are traditionally high vote-getters, such as board declassification, adoption of majority voting in director elections, and the repeal of supermajority voting provisions, resulting in the withdrawal or omission of the shareholder proposal. Indeed, issuers made a conscious effort to avoid the prospect of majority votes, mindful of potential fallout against directors by proxy advisory firms. Beginning in 2014, ISS will oppose board members who fail to adequately address shareholder resolutions that are approved by a majority of votes cast in the prior year, while Glass Lewis is scrutinizing board responses to those that receive as little as 25% support (see our January newsletter).

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Demanding Transparency in Clawbacks

This post comes to us from Elizabeth McGeveran, a consultant on corporate governance matters, member of the External Citizens Advisory Panel at ExxonMobil, and former Senior Vice President for Governance & Sustainable Investment at F&C Asset Management, one of the co-filers of Shareholder Proposal No. 8 in Walmart’s 2013 Proxy Statement.

This post comes to us from Elizabeth McGeveran, a consultant on corporate governance matters, member of the External Citizens Advisory Panel at ExxonMobil, and former Senior Vice President for Governance & Sustainable Investment at F&C Asset Management, one of the co-filers of Shareholder Proposal No. 8 in Walmart’s 2013 Proxy Statement.

After the horrifying collapse of a factory in Bangladesh killed over 1,100 workers, companies like H&M are moving to strengthen supplier standards and audits, as they should. We have seen similar responses to other compliance meltdowns in the past. Banks trumpet new checks and balances to help prevent excessive risk taking, massive trading losses and robo-foreclosures. Walmart points to changes in its compliance policies in response to front-page allegations of bribery and corruption in Mexico. Companies are quite happy to tell investors, employees, and the public how such changes will prevent the same problems from recurring.

This public disclosure about change for the future is commendable. But such reforms must be accompanied by measures to hold executives accountable for major compliance failures in the past. And here, beyond the occasional news report that a CEO volunteered to forego a bonus, companies tell us very little.

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Mandatory Clawback Provisions, Information Disclosure, and the Regulation of Securities Market

The following post comes to us from Diane Denis, Professor of Finance at the University of Pittsburgh.

The following post comes to us from Diane Denis, Professor of Finance at the University of Pittsburgh.

In the paper, Mandatory Clawback Provisions, Information Disclosure, and the Regulation of Securities Markets, forthcoming in the Journal of Accounting and Economics, I discuss the potential pitfalls of mandating that compensation be recouped from the executives of firms that are found to have engaged in material accounting misstatements. My discussion is motivated by recent evidence in the literature that the voluntary adoption of such clawback provisions by firms is followed by a reduced incidence of accounting restatements, lower auditing fees and a reduced auditing lag, and stronger earnings response coefficients. It is tempting to conclude from this evidence that government attempts to mandate such provisions, most recently through Section 954 of the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act, will increase the accuracy of information disclosure by firms and thereby enhance the integrity of the capital market. I argue that such a conclusion is premature at best.

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Best Practices for Preparing a Clawback Agreement

The following post comes to us from Scott J. Davis, head of the US Mergers and Acquisitions group at Mayer Brown LLP, and Michael E. Lackey, Partner-in-Charge of Mayer Brown’s Washington, D.C. office. This post is based on a Mayer Brown memorandum.

The following post comes to us from Scott J. Davis, head of the US Mergers and Acquisitions group at Mayer Brown LLP, and Michael E. Lackey, Partner-in-Charge of Mayer Brown’s Washington, D.C. office. This post is based on a Mayer Brown memorandum.

Scenario

A large corporation is sued over the alleged breach of a substantial contract. Due to the complex nature of the contract, the corporation’s business executives frequently sought advice from in-house counsel when entering into, and performing under, the agreement. The corporation’s in-house counsel has concerns that sensitive documents reflecting attorney-client communications—or even in-house counsel’s own work product—may be produced by mistake, given the volume of email and electronic documents that must be reviewed quickly.

Clawback Provisions Provide Protections and Cost Savings

Even when a party to a litigation employs precautions to prevent the inadvertent disclosure of privileged documents, some privileged materials are likely to slip through. Recognizing this likelihood, litigants commonly enter into “clawback agreements” at the start of discovery. Typically, a clawback agreement permits either party to demand the return of (that is, to “claw back”) mistakenly produced attorney-client privileged documents or protected attorney work product without waiving any privilege or protection over those materials.

Clawback agreements allow parties to specifically tailor their obligations (if any) to review and separate privileged or protected materials in a manner that suits their needs. For example, before discovery begins, the parties can agree on how they will search for and separate privileged or protected materials from their document productions. So long as the parties abide by the agreement, they will be permitted to take back any privileged or protected material inadvertently produced. Thus, parties can reduce their exposure to costly and time-consuming discovery disputes over whether the protection of privileged material was waived by its production.

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Caution Needed as New Regulatory Regime Takes Shape

Editor’s Note: Troy A. Paredes is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on Commissioner Paredes’ statement at a recent conference of the Society of Corporate Secretaries & Governance Professionals, which is available here. The views expressed in the post are those of Commissioner Paredes and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

In considering the “shape of things to come” — the theme that focuses this conference — one thing is certain: The regime regulating our financial markets is undergoing dramatic change. The case in point is the Dodd-Frank Act, which represents a historic expansion of the federal government’s power over the economy. The hundreds of rules and regulations that Dodd-Frank demands of the SEC and other financial regulators indicate just how far the government has reached into the private sector and just how heavy the government’s hand will be. Or, stated differently, the regulatory change demonstrates the degree to which government decision making, effectuated as it is through more regulation, will displace and distort private sector decision making.

To put it more directly, I have been and remain troubled that the Dodd-Frank regulatory regime goes too far. Without question, there is a fundamental role for government, including the SEC, in regulating our financial markets and our economy more generally; and we need a regulatory framework that is resilient and that fits our increasingly interconnected and complex financial system. None of us welcomes the kind of hardship and turmoil that the financial crisis wrought. The key question, therefore, is not whether we will or should have regulation. The answer to that question is straightforward: we will and we should. The real question is, “How much?”

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Can JP Morgan Transparently Police Itself?

Editor’s Note: Ben W. Heineman, Jr. is a former GE senior vice president for law and public affairs and a senior fellow at Harvard University’s schools of law and government. This post is based on an article that appeared in the Harvard Business Review online.

In the wake of its significant trading losses (now reportedly rising from $2 to $3 billion or more), JP Morgan can win back some of its lost reputation by transparently holding those responsible to account.

These individuals could include (but not be limited to) the London trader, Bruno Iksil (“The London Whale”); his London boss, Achilles Macris; their U.S. boss, Ina Drew, the former head of the bank’s Chief Investment Office (CIO); and CEO Jamie Dimon, who oversaw the CIO. Drew quickly retired after the losses, and Iksil and Macris are, according to news reports, leaving the bank.

Although the media has spoken loosely about a company “clawing back” pay, there are, in fact, different ways to hold responsible individuals to financial account. A “claw-back” seeks cash or equity already transferred to an individual. A “hold-back” cancels financial benefits which have been awarded but have not yet vested. A future compensation action would reduce 2012 variable benefits (bonus or equity awards) in absolute terms (or through a much slower rate of increase). Claw-backs or hold-backs of past awards could be appropriate for the departed employees. They could be appropriate for Dimon, but so could a compensation action about future variable comp.

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Executive Compensation: What Will 2012 Bring?

This post comes to us from John J. Cannon, a partner in the Executive Compensation and Employee Benefits Group at Shearman & Sterling LLP, and is based on a memorandum by Linda Rappaport.

This post comes to us from John J. Cannon, a partner in the Executive Compensation and Employee Benefits Group at Shearman & Sterling LLP, and is based on a memorandum by Linda Rappaport.

Executive compensation continues to command the center stage in public discourse about corporate governance. In the context of a troubled worldwide economy, the focus on pay in the financial services industry— most prominently evidenced by the Occupy Wall Street movement— has led to increased scrutiny of executive compensation at all companies.

As 2011 draws to a close, boards of directors of U.S. public companies are subject to conflicting pressures in making executive pay decisions for this year and in designing compensation programs for 2012. There is a widespread public sentiment that senior executives of large U.S. corporations are paid too much, and there are newly enacted laws and regulations that emphasize the importance of paying for performance and guarding against excessive risk-taking. Corporate directors, however, continue to have an obligation to foster the future profitability of their corporations, and they see compensation as a key motivating tool.

Against this backdrop, it is helpful to look forward to major legal themes that will be likely to affect incentive compensation in 2012 and the effect those themes may have on decision-making in U.S. corporate boardrooms.

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Another SEC Clawback Settlement

Wayne Carlin is a partner in the Litigation Department at Wachtell, Lipton, Rosen & Katz. This post is based on a Wachtell Lipton firm memorandum by Mr. Carlin, John F. Savarese, David A. Katz, and David B. Anders.

Wayne Carlin is a partner in the Litigation Department at Wachtell, Lipton, Rosen & Katz. This post is based on a Wachtell Lipton firm memorandum by Mr. Carlin, John F. Savarese, David A. Katz, and David B. Anders.

On November 15, 2011, the SEC announced a settlement in which it “clawed back” incentive based compensation from a former CEO who was not accused of any wrongdoing.  The result, however, may send mixed signals.  On the one hand, the SEC’s ability to achieve this result in a no-fault clawback case may very well encourage the SEC staff to continue to enforce this remedy, even in cases where the CEO or CFO has no personal responsibility for misconduct.  On the other hand, the settlement of $2.8 million was less than the $4 million that the SEC originally sought to recover from the former CEO.

The case, SEC v. Jenkins, No. CV 09-1510, involved Maynard L. Jenkins, the former CEO of CSK Auto Corporation.  Although civil and criminal charges were brought against four other CSK Auto executives, the SEC did not charge Jenkins with any wrongdoing in connection with the accounting fraud that occurred at CSK.  Nevertheless, relying on Section 304 of Sarbanes-Oxley, the SEC filed a complaint seeking to claw back $4 million of incentive compensation that Jenkins received during the period of the fraud.  Jenkins moved to dismiss the complaint, but that motion was denied in June 2010.  (See our memo, “Sarbanes-Oxley Clawback Developments”, June 16, 2010.)

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Say on Pay Drives Compensation Program Changes

Matteo Tonello is Director of Corporate Governance for The Conference Board, Inc. This post is based on a Conference Board Director Note by Russell Miller and Yonat Assayag of ClearBridge Compensation Group.

Matteo Tonello is Director of Corporate Governance for The Conference Board, Inc. This post is based on a Conference Board Director Note by Russell Miller and Yonat Assayag of ClearBridge Compensation Group.

The arrival of say-on-pay (SOP) votes has renewed the focus of directors and senior management on striking the right balance between designing an effective executive compensation program that supports the company’s strategic business objectives and one that is sensitive to shareholder perspectives. As a result, many companies made changes to their compensation programs this year, aimed at enhancing the relationship between pay and performance in preparation for their first SOP votes. This report examines the changes made by some Fortune 500 companies and includes recommendations for companies to consider in their 2012 compensation decision-making.

An analysis of the first 100 proxy filings by Fortune 500 companies (First 100) subject to shareholder advisory votes under the Dodd-Frank Wall Street Reform and Consumer Protection Act demonstrates some of the real effects SOP has had on executive compensation. [1] A key learning from those filings is that companies that perform and successfully demonstrate that their pay programs support and drive performance are more likely to win shareholder SOP votes.

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