By: Louann Fang Richard, Brent L. Bernell, Andrew D. Ledbetter, Eric Forni, Rita M. Patel, Keith Ranta, Bryan Card

The Securities and Exchange Commission (SEC) has approved, by a 3-2 vote, final rules that require publicly traded companies to adopt policies regarding recovery of erroneously awarded incentive-based compensation, or “clawback” policies. The SEC initially proposed clawback rules in July 2015, but the rules have been pending finalization until the SEC reopened the comment period in October 2021 and again in June 2022.  Israeli companies listed on US securities exchanges need to familiarize themselves with the newly approved SEC clawback rules.


The final rules, approved on October 26, 2022, add Exchange Act Rule 10D-1, which requires listing exchanges to adopt listing standards that require listed issuers to adopt clawback polices and comply with disclosure requirements. 

The rules do not provide for exceptions for emerging growth companies (EGCs), smaller reporting companies (SRCs), or foreign private issuers (FPIs). Under the final rules, in the event of both “big R” and “little r” accounting restatements, issuers are required, with limited exceptions, to recover from any current or former executive officer, and whether or not such officer was at fault for the accounting errors triggering the restatement, incentive-based compensation that the officer received in excess of the amount that otherwise would have been received based on restated financial measures (which includes not only accounting-based financial metrics, but also stock price and TSR). 

Issuers must also file the policy as an exhibit to their annual reports and make required disclosures via check boxes as to whether there has been any error and/or restatement that would require a clawback recovery analysis. 

In the case of such an event, issuers must make accompanying disclosures regarding how the policy was applied, including aggregate dollar amounts of erroneously awarded compensation, estimates used in making calculations, outstanding amounts due from any current or former officer for 180 days or more, and details regarding any reliance on an impracticability exception, if applicable. These disclosures are required to be Inline XBRL-tagged. 

Issuers that fail to comply with the applicable listing standards will be subject to delisting.

Timing of effectiveness

The final clawback rules will become effective 60 days after publication in the Federal Register, and listing exchanges are required to file their proposed listing standards no less than 90 days following publication of the final rules in the Federal Register, with a one-year deadline for the listing standards to become effective following publication. 

Once the listing standards are effective, issuers must adopt a clawback policy no later than 60 days after the effective date and must begin to comply with disclosure requirements in proxy and information statements and annual reports filed on or after the date the issuer adopts a clawback policy. 

Summary of the final rules

A summary of requirements under the newly adopted clawback rules is set forth below:

  • Required adoption of clawback policy. New Exchange Act Rule 10D-1 requires exchanges to adopt listing standards that will apply the disclosure and compensation recovery policy requirements to all listed issuers, with limited exceptions. The clawback policies must meet strict conditions set forth in the final rule, as detailed below. Issuers will be subject to delisting if they do not adopt a compensation recovery policy, comply with the policy, and provide the required disclosures regarding the policy.
  • Limited exceptions. The rules apply to all listed issuers, including FPIs, SRCs and EGCs. There are limited exceptions for exchanges that list only certain security futures products, standardized options, securities issued by unit investment trusts, and securities issued by certain registered investment companies. Certain registered investment companies are excluded to the extent they have not provided incentive-based compensation to any current or former executive officer of the fund for the last three fiscal years.
  • All executive officers are subject to the clawback policy. The clawback rules will apply to incentive-based compensation received by current or former “executive officers.” The SEC noted in its adopting release that it chose not to limit clawback recovery to the company’s top five “named executive officers.”  For purposes of the clawback rules, “executive officer” includes the issuer’s president, principal financial officer, principal accounting officer (PAO) or controller if there is no PAO, any VP of the issuer in charge of a principal business unit, division or function (eg, sales, administration or finance), any other officer who performs a policy-making function, or any other person who performs similar policy-making functions for the issuer (including if they are executive officers of an issuer’s parent or subsidiary). In contrast to the proposed rules, the SEC will require only recovery of incentive-based compensation received by a person (i) after beginning service as an executive officer and (ii) if that person served as an executive officer at any time during the recovery period, including former executive officers who are no longer with the company at the time of the accounting restatement.
  • Required clawback of incentive-based compensation upon accounting restatement. The rules provide that if an issuer is required to prepare an accounting restatement, it must recover from any current or former executive officer incentive-based compensation that was erroneously awarded in the three-year period preceding the date the restatement was required. Notably, the rules apply to both material restatements of prior-period financial statements (ie, Big R restatements), and restatements that correct errors that are not material to previously issued financial statements but would result in a material misstatement if either the errors are left uncorrected in the current report or the error correction was recognized in the current period (ie, little r restatements).  According to stats recently cited by the SEC’s chief accountant, 76 percent of all restatements in 2020 were of the little r variety. The recoverable amount of incentive compensation is the amount of incentive-based compensation received by the executive in excess of the amount that otherwise would have been received based on the restated financial measure(s). 
  • Calculating the recovery period. The final clawback rules specify that the three-year look-back period will comprise the three completed fiscal years immediately preceding the date the issuer is required to prepare an accounting restatement for a given reporting period. The recovery period is not a 36-month calendar look-back period. The final rules state that the recovery period runs from the earlier of (i) the date the company’s board of directors, committee of the board, or the officer or officers of the company authorized to take such action, concludes, or reasonably should have concluded, that the company is required to prepare an accounting statement due to the material noncompliance with any financial reporting requirement under the securities laws; or (ii) the date a court, regulator, or other legally authorized body directs the company to prepare an accounting restatement.
  • Definitions of “incentive-based compensation” and “financial reporting measures.” Incentive-based compensation is defined as any compensation that is granted, earned or vested based wholly or in part upon the attainment of financial reporting measures. This includes bonuses or non-equity incentive compensation paid upon satisfying a financial performance goal, and performance-based RSUs, options, PSUs, and other equity awards. Base salaries, bonuses or equity awards paid solely upon satisfying one or more subjective standards, strategic or operational measures, or time-based completion of an employment period would not be considered incentive-based compensation, unless such awards were granted or vested based in part on a financial reporting measure. However, the SEC noted in the proposed rule that if an executive officer receives a salary increase wholly or in part based on the attainment of a financial reporting measure, such increase would be subject to clawback. The final rule provides that for purposes of the calculation of excess compensation received during the three-year look-back period, incentive-based compensation will be deemed received in the fiscal period during which the financial performance measure is attained, even if the payment or grant occurs after the end of that period or if the award continues to be subject to time-based vesting criteria.

    The SEC broadly defined “financial reporting measures” as measures that are determined and presented in accordance with the accounting principles used in preparing the issuer’s financial statements, and any measures derived wholly or in part from such measures. In addition, the final rule provides that both stock price and TSR are also considered “financial reporting measures.” This definition explicitly includes non-GAAP financial measures as well as other measures, metrics and ratios that are neither GAAP nor non-GAAP measures, such as store sales. The SEC noted in its adopting release that, although stock price and TSR are not accounting-based metrics, they are interpreting the term “financial reporting measure” to include these metrics because improper accounting affects both stock price and TSR, and compensation earned based on these metrics can result in excess compensation.
  • Calculation of recovery amounts. The final rules require the issuer to calculate and disclose the amount of incentive-based compensation that otherwise would have been received had it been determined based on the accounting restatement, computed on a pre-tax basis. For incentive-based compensation based on TSR or stock price, where the amount of erroneously awarded compensation is not subject to mathematical recalculation directly from information in the accounting restatement, the final rules require issuers to determine the amount based on a reasonable estimate of the effect of the accounting restatement on the applicable measure and maintain documentation of the determination of that reasonable estimate and provide such documentation and estimate to the exchange.
  • Limited board discretion based on impractibility exceptions. An issuer’s board of directors has limited discretion based on a few “impracticability exceptions” where it may determine not to pursue recovery of the amounts determined to be erroneously awarded compensation under the clawback policy or to settle for less than the full recovery amount. These narrow impracticability exceptions are as follows:
    • Direct expenses paid to third parties to assist in enforcing the policy would exceed the amount to be recovered, and the issuer has made a reasonable attempt to recover
    • Recovery would violate home country law of the issuer that existed at the time of adoption of the rule, and the issuer provides an opinion of counsel to the exchange to that effect or
    • Recovery would likely cause an otherwise tax-qualified retirement plan (eg, 401(k) plan) to fail to meet the requirements of the Internal Revenue Code.
    With respect to the first impracticability exception, Commissioner Hester M. Peirce’s dissenting statements noted that internal costs, such as “resources required to work with, manage, or monitor the third party’s efforts,” or those “associated with defense of counter-claims” do not count in the cost-benefit analysis. Compensation recoupment from executive officers is required under the clawback policy “reasonably promptly” and regardless of whether the executive officer engaged in any misconduct and regardless of fault. Executives may not be indemnified for the clawback under the issuers’ charter provisions and issuers may not pay premiums under D&O insurance policies to fund potential clawback obligations. The final rules appear to allow boards to seek recovery through means that are appropriate or specific to the circumstances, including, for example, establishing a deferred payment plan that allows executive officers to repay the amounts owed without unreasonable economic hardship.
  • Required disclosures. New disclosure requirements related to the clawback policy were also adopted in amendments to Item 601(b) of Regulation S-K, Item 402 of Regulation S-K, Item 404(a) of Regulation S-K, and the cover pages of Form 10-K, Form 40-F, Form 20-F and for listed funds, Form N-CSR, which require reporting regarding adoption and compliance with the clawback policy in annual reports, proxy statements and information statements. These disclosures are required to be Inline XBRL-tagged.
    • The exhibit rules in Item 601(b) were amended to require that an issuer must file the policy as an exhibit to its annual report.
    • Issuers must also disclose by check boxes on the cover page of Form 10-K, Form 40-F or Form 20-F, as applicable, whether the financial statements included in the filings reflected correction of an error and whether such error corrections are restatements that require a recovery analysis.
    • Under new Item 402(w), an issuer must also disclose how it has applied the policy, including:
      • the date it was required to prepare an accounting restatement and the aggregate dollar amount of erroneously awarded compensation, which must include disclosures of the estimates used in such calculations and an explanation of the methodology used for such estimates in the case of awards based on stock price or TSR,
      • the aggregate amount that remains outstanding and any outstanding amounts due from any current or former executive officer for 180 days or more and
      • details regarding reliance on any of the impracticability exceptions, including the amount of recovery forgone.
      • In addition, a new instruction to Item 402 requires amending the Summary Compensation Table of Item 402 of Regulation S-K to disclose the effect of any recovered amount.
      • An issuer that complies with its disclosure requirements under Item 402(w) need not disclose any incentive-based compensation recovery in the related party transactions disclosure section required by Item 404(a). 

Considerations and next steps for public companies

  1. Plan for adoption of new clawback policy. Companies are not required to adopt a clawback policy (or amend an existing clawback policy to comply with these new requirement) until after the exchanges publish final listing standards implementing Rule 10D-1 and such listing standards become effective, likely sometime during 2023. However, companies can begin taking steps to prepare for implementation. Companies may wish to review any clawback policies currently in place and begin conversations among boards, outside advisors and management in advance of the exchanges’ proposals of new listing standards to discuss topics, such as technical requirements for implementing the new clawback policies as well as developing a strategy to identify risks and plan for future pay program decisions.
  2. Evaluate existing incentive compensation plans and policies. Companies can evaluate their existing incentive compensation plans and award agreements for the following issues:
    • To the extent such plans and agreements do not already cover measures to enforce clawback policies, consider amending the plans and agreements to enhance enforceability of the clawback policies as to future grants once a policy is adopted.
    • If existing plans and agreements already contain provisions providing for the enforceability of separate clawback policies as to previously granted awards, or include specific clawback language, consider whether the provisions need to be revised to comply with the required Rule 10D-1 clawback policy requirements. There may be significant differences in the scope and goals of existing policies, which may cover triggering events beyond accounting restatements, apply to a specific set of employees (ie, those involved with preparation of financial statements), or be based on fraud or fault concepts. For example, some existing clawback policies may be more limited in scope based on Section 304 of the Sarbanes-Oxley Act of 2002 (SOX 304), which permits the SEC to order disgorgement of bonuses and incentive-based compensation earned by the CEO and CFO in the year following the filing of any financial statement that the issuer is required to restate due to material noncompliance as a result of misconduct.
    • Companies may also wish to analyze whether any of the “impracticability exceptions” may potentially apply to existing plans and whether any of the above amendments will required participant consent with respect to existing awards.
  3. Assess litigation risks. As noted in Commissioner Peirce’s dissenting statement, the final rule opens up companies to new forms of litigation risks.  Boards should discuss the risks related to the determination of the trigger date for any accounting restatement. The final rule states that the recovery period will be triggered by “the date that the issuer’s board… concludes, or reasonably should have concluded, that the issuer is required to prepare an accounting restatement.” The inclusion of the “reasonably should have concluded” standard in the final rule creates risk that the board’s determination on the trigger date will be subject to litigation. In addition, the requirement to recoup amounts “reasonably promptly” from all executives, including former and low-level executives, may subject companies to counterclaims and/or shareholder litigation and may discourage recovery practices that could mitigate costs to companies, such as netting overpayments with other incentive-based underpayments, or set-offs. In addition, there may be heightened scrutiny by the SEC’s enforcement division as to whether companies are adopting and implementing clawback policies as required under the new rules as well as under SOX 304. The Director of the SEC’s Division of Enforcement recently said, “We are committed to using SOX 304 as Congress intended: to incentivize a culture of compliance at public companies by ensuring that senior executives are not rewarded when their firms violate core reporting requirements. Executives should be on notice that we view SOX 304 as broad authority in seeking all forms of compensation that should be reimbursed to the company.”

Learn more about the implications of these final rules for your company by contacting any of the authors or your usual DLA Piper relationship attorney.