Clawing Back Executive Compensation: Will Dodd-Frank Matter?

Abstract

We explore the effectiveness of the clawback provision of the Dodd-Frank Wall Street Reform and Consumer Protection Act as a deterrent to earnings manipulations. Using a sample of firms that issued “high concern” earnings restatements, we estimate the career and monetary benefits the CEO realizes as a result of the manipulation. We examine these benefits along two dimensions: the reduced probability of termination and the amount of total unearned gains accruing to the CEO as a result of the misreporting. We find the amount of excess incentive compensation subject to clawback under the Dodd-Frank Act accounts for a small fraction of the total unearned gains. Profits from the sale of stock and option exercises, which firms are not required to recover under Dodd-Frank, are more than 85 times the value of excess incentive compensation. As a result, the amount potentially recoverable under the Dodd-Frank Clawback provision is less than one percent of the aggregate total gains, despite the fact that Dodd-Frank casts a wider net than prior clawback legislation. As the costs of recovery are likely to outweigh the amount recoverable, our results suggest that the Dodd-Frank Clawback is unlikely to be an effective deterrent to earnings manipulation.