Has your company considered remuneration “clawback” policies?
31/03/2008
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There is an error in the accounts.  An honest mistake resulted in a big incentive payout to executives when there should have been none.  Or worse, there was deliberate fraud, whereby an executive received significant incentive vesting. 

Does your company have a policy for recovering these payments?  If you do not, you are not alone. In recent research we found that no listed Australian companies have a formal remuneration “clawback” policy for executives.  And we know that those that do have an incentive clawback policy limit it to sales commissions for non-executive positions.

Nevertheless, many Australian companies do have the right to withhold or cancel incentive payments before they are received in the hands of the employee.  The forfeiture conditions that are commonly included in Australian equity plans (to help qualify for tax deferral) in effect allow for clawback of unvested equity and vested equity that is still held in the plan at the time the Board determines the executive has acted fraudulently, etc.  These provisions are of no value if the fraud is only uncovered after the executive has left employment and taken their equity with them.

On the face of it, clawback policies have many positive governance aspects that can enhance a company’s reputation, and possibly contribute to the price earnings premium that well-governed companies receive. 

Compensation clawbacks have become a key component of a solid corporate governance practice at numerous US Fortune 100 companies. Compensation recovery policies typically provide companies with the ability to recoup incentive-based compensation in the event of a financial restatement or if an executive commits an act detrimental to the condition of the company. Clawback policies may also cover non-compete arrangements or other special forms of compensation like relocation payments (it is not unusual in Australia for companies that have paid relocation or study expenses to seek to recover these if the employee fails to complete a minimum specified term of employment).

Clawbacks are of particular interest today because the US SEC’s new compensation disclosure regulations require the discussion of compensation recovery policies in the recently adopted Compensation Discussion and Analysis (CD&A) section.

Currently, there is no Australian equivalent in the Corporations Act, or the ASX Corporate Governance Council guidelines.

Specifically, the SEC’s CD&A requirements include the following line item:

[Discussion of] company policies and decisions regarding the adjustment or recovery of awards or payments if the relevant company performance measures upon which they are based are restated or otherwise adjusted in a manner that would reduce the size of an award or payment.

While the SEC’s new disclosure regulations seem to address only clawbacks relating to incentive-based pay and financial restatements, they do ensure that compensation recovery policies of all types will become an important part of many corporate governance conversations in the near future.

According to the most recent US proxy filings, 17.6 percent of publicly traded Fortune 100 companies disclosed some form of compensation recovery policy for their executive officers. Together, these policies cover most forms of executive compensation, including equity grants, cash-based incentive awards, and non-competition payments.

Specifically, compensation recovery policies regarding financial restatements and/or ethical conduct appear most frequently.  The remainder represent compensation recovery provisions in non-competition arrangements. 

In this respect (as well as other respects), it is unfortunate that Australia’s tax laws do not allow the continuation of tax-deferral on unvested equity after executive termination.  If they did, perhaps Australian clawback policies after an employee had left the company may be realisable.

Of course a big issue is the practicality of clawback policies.  While prevalent in the US, companies that have tried to enforce them find that they have a legal battle with the executives concerned, and the publicity does not necessarily enhance their public standing, or make it easy to attract and retain key executives.  Nevertheless, the trend for clawbacks is very apparent in the US.  It remains to be seen if similar policies will arise in Australia.

© Guerdon Associates 2021
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