Well, that might be an overreaction, but sometime soon all board members and executive compensation professionals will need to study the compensation clawback rules the SEC proposed this morning at an Open Meeting by a 3-2 vote. As required by Dodd-Frank Act Section 954, the SEC approved proposed rules requiring companies to develop, disclose, and implement a compensation clawback policy.

Well, that might be an overreaction, but sometime soon all board members and executive compensation professionals will need to study the compensation clawback rules the SEC proposed this morning at an Open Meeting by a 3-2 vote. As required by Dodd-Frank Act Section 954, the SEC approved proposed rules requiring companies to develop, disclose, and implement a compensation clawback policy.

The entire release containing the proposed rules is not available yet, and describing all of the important issues would make this blog unduly long. Therefore, we will only note some of the key issues, as follows:

Effective Date: There are three parts to the effective date issue.

  1. Adoption of the Policy. The proposal would require each company to adopt its recovery policy no later than 60 days following the date on which the listing exchange’s listing rule becomes effective. The proposal requires the exchanges to file their proposed listing rules no later than 90 days following the publication of the adopted version of Rule 10D-1 in the Federal Register, with an effective date no later than one year following the publication date.
  2. Disclosure of the Policy. Companies would be required to comply with the new disclosures in proxy or information statements and Exchange Act annual reports filed on or after the effective date of the listing exchange’s rule.
  3. Enforcement of the Policy. The proposal would require companies to recover all excess incentive-based compensation received by current and former executive officers on or after the effective date of Rule 10D-1 that results from attaining a financial reporting measure based on financial information for any fiscal period ending on or after the effective date of Rule 10D-1.

Incentive-Based Compensation Subject to Recovery: This is the most complicated area of the proposed new rules. I will provide a more detailed analysis in a subsequent blog. Briefly, however:

The proposed rules would apply to incentive-based compensation based on stock price or total shareholder return. However, the proposed rules would allow companies to use a reasonable estimate of the effect of the restatement on the applicable measure to determine the amount to be recovered. Financial reporting measures are those based on the accounting principles used in preparing the company’s financial statements, any measures derived wholly or in part from such financial information, and stock price and total shareholder return. Importantly, the proposed rules would give companies the discretion not to recover excess incentive-based compensation received by executive officers if the expense of recovery would exceed the amount to be recovered (or home country rules would prohibit recovery). However, the rules would require extensive disclosure of the circumstance of any decision not to pursue recovery.

Definition of Executive Officers: Helpfully, the rules propose a definition of an “executive officer” that is modeled on the definition of “officer” under Section 16. The definition includes the company’s president, principal financial officer, principal accounting officer, any vice-president in charge of a principal business unit, division, or function, and any other person who performs policy-making functions for the company.

Covered Companies: The proposed rules would apply to all companies, including foreign private issuers, small companies, and companies with publicly traded debt, except for certain registered investment companies to the extent they do not provide incentive-based compensation to their employees.

No Reimbursement: The proposal would prohibit companies from reimbursing any covered executive for an amount clawed back either by indemnification or purchase of insurance.