April 19, 2023
Clawbacks: Set Yourself Up for Success
I recently blogged about Part 1 and Part 2 of a three-part series on clawback policies by WTW. In Part 3, WTW focuses on whether and how companies should prepare in advance to ensure they have the ability to clawback compensation from officers if the need arises.
First, the article notes that companies should not expect to be able to rely on the rule’s “impractical” exception as shareholders, proxy advisors and the press will expect companies to have a mechanism in place to ensure that earned compensation is within reach in the event of a future restatement. This is easier for current officers, of course, for whom future pay provides a ready source of funds but, to move quickly in the event of a restatement, WTW suggests companies consider adopting a policy identifying compensation sources to be pursued first in the event of a clawback—such as shares held pursuant to stock ownership guidelines.
Former officers present the greater challenge. Here’s an excerpt from the article:
Once an officer departs, the company often does not have access to a ready source of funds to effectuate a clawback within its direct reach. There are exceptions: When options remain outstanding, full-value shares are not settled until a later date (e.g., the end of a performance period) or when existing deferral arrangements delay payment until some future date. But we expect that most companies will have to confront the obvious question about whether they should defer a portion of officer compensation for a period sufficient to facilitate a clawback in the event the officer terminates employment.
Companies wishing to adopt this approach must resolve certain issues first. The predominant one is that current officers can become former officers very quickly, and often no compensation is available to defer once they leave. For example, if annual bonuses have a “must be present to win” provision so that payment happens only for a current employee, no funds will be available for a departing officer who leaves before that date or if that office leaves on that date when the bonus is paid. Similar rules apply for most, but not all, long-term incentive plans.
The article goes on to identify other challenges presented by a mandatory deferral, including 409A and how to compute an appropriate deferral amount. Many companies may choose not to implement a policy ranking compensation or a mandatory deferral program, but, at a minimum, compensation committees should be considering these options and weighing in on how far the company should go to ensure compensation can be clawed back.
– Meredith Ervine