Clawback Policies Research Articles

Better Prevention Than Cure: Cybersecurity Risk and Clawback Provision

ABSTRACTResearch Question/IssueThe escalation of online transactions recently has driven the digitalization trend, which features both emerging opportunities and associated risks, across businesses. This study examines the impact of cybersecurity risk on the adoption of clawback policies among US listed firms during the 2008–2018 period.Research Findings/InsightUsing fixed‐effect estimators, I reveal that clawback adoptions are more likely when cybersecurity risk is on the rise. This effect is transmitted via three channels of multiple business objectives, manager's quiet life, and corporate culture. Furthermore, this effect is diminished among firms with a greater proportion of nonindependent co‐opted directors on board.Theoretical/Academic ImplicationsAlthough clawback policies are often linked to corporate misreporting, this study broadens the conventional research direction by addressing the decision‐making of clawback policy adoption from the data security perspective. The finding of this study implies an extension of clawback endorsement beyond the corporate reporting purpose in the digitalized era.Practical/Policy ImplicationsThis study's findings suggest that firms value the preventive property of clawback policies on corporate misconduct and that firms factor cybersecurity risk into clawback adoption decision‐making. Given that clawback policies extensively tie CEOs' wealth with corporate integrity, early adoptions of this recoupment scheme can be essential to resolving the contemporary cybersecurity problems of the adopted firms.

Reporting misstatements as revisions: An evaluation of managers' use of materiality discretion

AbstractIn recent years, firms reporting revisions of prior financial statements outnumber those reporting restatements. Misstatements that are material to prior periods are required to be reported as restatements, whereas immaterial errors can be reported as revisions. Based on SEC guidance and widely used materiality benchmarks, I find a significant percentage (29%) of revisions are suspect in that they meet at least one materiality criterion. These suspect revisions are 15% to 29% more likely to be reported when managers have a strong incentive to avoid restatements—when they face the threat of a compensation clawback for reporting a restatement. This result is especially salient when the clawback policy does not require misconduct for recoupment and when the error correction significantly reduces prior period net income. Overall, this evidence suggests that some managers use materiality discretion opportunistically to report misstatements as revisions instead of restatements.

Clawback policy enforcement: To disclose or not to disclose

The SEC proposed in 2015 to require the disclosure of incentive compensation recovery efforts by companies' boards of directors. While such disclosure of enforcement can signal the effectiveness of corporate governance as the SEC suggested, firms have argued that the proposed enforcement disclosure may harm executives' reputation regardless of their involvement in misstatement because the clawback includes a no-fault clause. Results of our experimental study suggest that when the board does not disclose its clawback enforcement, investors perceive weak corporate governance, particularly when a restatement results from an intentional misstatement. This, in turn, leads investors to be less willing to invest than when clawback enforcement is disclosed. We also find that investors' perception of management reputation is not negatively affected following the board's clawback enforcement disclosure. Overall, our study provides insights into the potential effect of the SEC's proposal requiring the disclosure of clawback enforcement and addresses concerns raised in comment letters.

Determinants and Consequences of the Severity of Executive Compensation Clawbacks*

ABSTRACTWe examine the determinants and consequences of the severity of executive compensation clawbacks. As one of the most substantial, prolonged, and controversial proposals to reform executive compensation, clawback rules recently regained the SEC's focus. We construct an intuitive clawback severity score and find that clawbacks are considerably heterogeneous and not homogenous as assumed in the literature. Our determinants analyses suggest that clawback severity is increasing in firms with greater board effectiveness and with higher cash and stock awards in director compensation. In contrast, higher director stock option compensation and more powerful CEOs attenuate the severity of clawbacks. The consequences analyses indicate that while severe clawbacks deter financial restatements, management circumvents severe clawbacks by reducing R&D expenses to avoid earnings decreases. One consistent finding throughout our analyses is that the associations are entirely driven by more severe clawbacks. However, we observe that the financial reporting benefits of severe clawbacks can be diminished by the dynamics in the boardroom. Our study extends extant clawback literature, makes a timely contribution to the SEC's decision to reinitiate discussion on clawbacks, and informs various stakeholders interested in the efficacy of clawbacks. Finally, our clawback score can be used to evaluate clawback policies.

Other Side of Voluntary Clawback Provisions in Executive Compensation Contracts: Evidence from the Investment Efficiency

This study examines how firm-initiated clawback provisions in executive compensation contracts affect firms’ investment efficiency. While existing the literature provides evidence on positive aspects of adopting clawback provisions, the potential impact of clawback adoption on firms’ long-term investment efficiency remains unexplored. Using three investment proxies (i.e., capital expenditure, new investment, and total investment), we find that clawback adopters tend to reduce their long-term investments after the clawback provisions are put in place, compared to nonadopters. In particular, we find evidence that the adoption of clawback policies decreases the investment efficiency in the post-adoption period, especially for the firms whose ex ante probability of underinvestment is high. Our additional analyses reveal that observed reduction in the investment efficiency for the firms that are likely to underinvest is more evident for the firms with financial constraints and the firms that adopt risk-taking and performance-based clawback triggers. In contrast, the clawback adopters that are likely to overinvest do not change their investment behavior in the post-adoption period. Overall, our findings suggest that the impleme ntation of clawback provisions may lead to unintended consequences for firms’ long-term investment practices, resulting in a decrease in the investment efficiency.

Exploring the potentials of clawbacks to check earnings management practices and enhance financial reporting quality: perceptions from the UAE

Purpose For investors to wholeheartedly entrust their finances to the supposed executives, there is the need to set up policies to checkmate the excesses of such executives, hence clawback policy. This study aims to explore the perceptions of professionals regarding the impact of clawback provisions on earnings management (EM) and financial reporting quality in the context of the United Arab Emirates (UAE). Design/methodology/approach The application of a qualitative approach in an EM is of great significance in this study. For convenience, perceptions of the professionals were collected through semi-structured face-to-face interviews, internet forums and telephone conversations from which the data were initially transcribed and analyzed using thematic analysis. Findings The findings of the study indicate that clawbacks will have a significant impact on EM and financial reporting quality, and apart from this, other firm-level factors have also been supporting clawbacks. Practical implications EM has been a widespread practice; this research may potentially assist directors and regulatory bodies to comprehend factors that should be considered to reduce it. It may also provide practical insights from professionals regarding clawbacks and their bearing on EM and the quality of financial information from an emerging economy perspective. Originality/value A significant gap in the contemporary literature regarding the impact of clawback provisions on EM and financial reporting quality has been filed by this work, in the context of the UAE economy. Consequently, it provides a great insight into the effect of clawback in a business setting and how it can help checkmate the excesses of company executives.

Clawback Provisions and Firm Risk

Panel OLS and GMM-IV estimates indicate that executives respond to the adoption of a compensation clawback provision by decreasing firm risk. The mechanisms that transmit incentives to decisions and decisions to risk appear to be more conservative investment and financial policies and preemptive management of ESG, legal, and cyberattack risks. The stock market reaction to the announcement of a clawback adoption, as well as post-adoption stock and accounting performance, are significantly and positively related to the actual and predicted reduction in firm risk. The reduction in firm risk, arising from adoption of a clawback policy, appears to benefit shareholders.

The unintended consequences of voluntary adoption of clawback provisions on managerial ability

AbstractI investigate the impact of the voluntary adoption of clawback provisions on managerial ability and predict that clawback provisions will motivate managers to exert more efforts following the adoption of clawback and these efforts will be in the form of an increased managerial efficiency. Using a propensity score matched sample of firms, I find a significant positive association between voluntary clawback adoption and the change in both rank and score of managerial ability. My study highlights the unintended consequences of clawback provisions on CEO's behavior and contributes to the on‐going debate on the importance of proactively and carefully drafting clawback policies, further signifying the importance of the SEC's efforts (Rule 10D‐1) to enforce clawback policies.

The Dark Side of Clawbacks: Clawback Provisions and a Firm’s Strategic Repertoire

In the recent decade, many firms have adopted clawback policies to prevent managerial misconduct. Clawback policies allow the board of directors to recoup incentive compensation in predefined trigg...

The Effect of Voluntary Clawback Adoptions on Corporate Tax Policy

ABSTRACTCompanies are adopting executive compensation recoupment (“clawback”) policies to discourage aggressive financial reporting choices. Recent research suggests clawback policies encourage other means of meeting earnings expectations. We suggest that reducing income tax expense is a means of meeting earnings expectations. We find that effective tax rates are lower after clawback adoption due to increased investments in tax planning. We identify three tax planning activities that clawback companies invest in to lower effective tax rates: purchases of auditor-provided tax services, increased connections to other low-tax companies, and use of tax havens. We provide evidence that effective tax rate decreases do not result from use of opportunistic income tax accruals, and that decreases are stronger among companies that adopt robust clawback policies. Additional tests indicate lower tax outcome volatility and longer, more readable tax footnotes following clawback adoption. Our results suggest a positive spillover effect of clawback adoption on corporate tax policy.

Clawback Provisions and Firm Risk

Panel OLS and GMM-IV estimates indicate that executives respond to the adoption of a compensation clawback provision by decreasing firm risk. The mechanisms that transmit incentives to decisions and decisions to risk appear to be more conservative investment and financial policies and preemptive management of ESG, legal, and cyberattack risks. The stock market reaction to the announcement of a clawback adoption, as well as post-adoption stock and accounting performance, are significantly and positively related to the actual and predicted reduction in firm risk. The reduction in firm risk, arising from adoption of a clawback policy, appears to benefit shareholders.

The Unintended Consequences of Voluntary Adoption of Clawback Provisions on Managerial Ability

I investigate the impact of voluntary adoption of clawback provisions on managerial ability. The U.S. Securities and Exchange Commission (SEC, 2003) describes the adoption of clawback through the Sarbanes-Oxley Act (SOX) Section 304 as an action to improve the “tone at the top”. In line with this description, I predict that clawback provisions will motivate managers to exert more efforts following the adoption of clawback and these efforts will be in the form of an increased managerial efficiency. Using a propensity score matching sample of firms that adopt clawback versus firms that did not adopt clawback between 2007-2013, I find a significant positive association between voluntary clawback adoption and the changes in both ranks and scores of managerial ability. Further analysis suggests that this association is driven by proactive clawback provisions targeting bonuses and reversed when clawback provisions are reactively triggered by misconduct. My study highlights the unintended consequences of clawback provisions on CEO’s behavior and contributes to the on-going debate on the importance of proactively and carefully drafting clawback policies, further signifying the importance of the SEC’s efforts (Rule 10D-1) to enforce clawback policies.

Compensation clawback policies and corporate lawsuits

PurposeThe purpose of this paper is to study the relation between compensation clawbacks and lawsuits and analyze how these two corporate disciplinary forces interact. This paper hypothesizes that by allowing firms to recoup compensation from managers who breach their fiduciary duty, clawbacks provide a form of discipline that potentially reduces the likelihood of managerial wrongdoing, which, in turn, lowers the risk of corporate lawsuits.Design/methodology/approachThis paper identifies whether or not a company in the S&P 1500 had a clawback policy between 2007 and 2014 by searching the company filings and press releases. The authors also construct different proxies for litigation risk and lawsuit outcomes using the Audit Analytics Database. They then perform a variety of empirical tests to examine the association between clawbacks and litigation risk and the association between clawbacks and litigation outcomes.FindingsThis paper finds that firms with higher litigation risk are more likely to adopt a clawback policy. In addition, after the adoption of clawback provisions, litigation risk significantly declines, suggesting that clawback policies are effective in reducing the likelihood of corporate lawsuits. Furthermore, firms with clawback policies are approximately 50 per cent more likely to have lawsuits against them dismissed or settled for lower amounts (approximately 12 per cent lower).Practical implicationsThe findings of this paper provide insights to the efficacy of a current change in compensation regulation, the mandatory clawback adoption requirement by the Dodd–Frank Act of 2010.Originality/valueThis paper contributes to the literature on both clawbacks and litigation, as it is the first to analyze the relation between the two.

이사 보수의 적정성 확보를 위한 보수규제의 검토 - 과다 지급된 보수의 환수를 중심으로 -

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The Effects of Clawbacks on Auditors’ Propensity to Propose Restatements and Risk Assessments

Both the Sarbanes–Oxley Act of 2002 and the Dodd-Frank Act of 2010 include clawback provisions that require executives to pay back incentive compensation earned on financial statements that are restated in a subsequent period. Such provisions intend to reduce unethical reporting behavior by executives who otherwise might be more inclined to misstate financial statements to boost incentive-based compensation. However, such provisions could promote rather than deter unethical behavior. In particular, Pyzoha (Account Rev 90(6):2515–2536, 2015) finds that, under certain conditions, executives are less willing to restate financial statements in the presence of a clawback policy. Similarly, auditors might also act unethically by being less likely to propose restatements in the presence of clawbacks to avoid upsetting management. To examine this possibility, this study reports the results of three experiments that examine the effect of clawback provisions on auditor judgment. Contrary to expectations, our three experiments, along with supplemental qualitative evidence (surveys and interviews of practicing auditors) consistently indicate that clawbacks do not affect auditors’ propensity to propose restatements. These results suggest that a decrease in the number of restatements in a clawback environment will not be due to auditors acting unethically to appease management. The effects of clawbacks on auditors’ risk assessments, however, are less conclusive. As such, we offer potential post hoc explanations to guide future research.

The Mitigating Effect of Audit Committee Financial Expertise on the Voluntary Adoption of Clawback Policies

Clawback policies are compensation recovery policies that provide companies with the ability to recoup incentive-based compensation in the event of a financial fraud. We investigate whether the mandatory clawback provision in the Dodd-Frank Act is necessary or whether existing provisions under the Sarbanes-Oxley Act (SOX) are sufficient in inducing problematic firms to voluntarily adopt clawbacks. Specifically, we examine the relation between financial expertise on audit committees and voluntary adoption of clawback policies in the pre-Dodd-Frank period, separating audit committee financial expertise into accounting- and non-accounting financial expertise and classifying clawbacks into fraud-based- and non-fraud based clawbacks. While firms with restatement history are more likely to adopt fraud-based clawbacks due to SOX Section 304, the financial expertise on audit committees has a mitigating effect on the voluntary adoption of clawback policies. Greater accounting financial expertise is more likely to result in voluntary adoption of fraud-based clawbacks for firms without prior restatements. On the contrary, accounting and non-financial expertise are less likely to result in the voluntary adoption of fraud-based clawbacks for firms with prior restatements. Consistent with the signaling hypothesis, this suggests that accounting experts are more in favor of adopting fraud-based clawbacks when they are not associated with any previous accounting scandals, whereas both accounting experts and non-financial experts are against adopting fraud-based clawbacks when they could be implicated by prior financial frauds. Since non-fraud based clawbacks do not serve as signals, neither accounting- nor non-accounting financial expertise is related to the adoption of non-fraud based clawbacks. Our results suggest that the mandatory clawback requirement in Dodd-Frank can eliminate the mitigating effect of audit committee financial expertise on the voluntary adoption of clawback policies.

Compensation Policy Reviewed from the Perspective of Directors' Liability toward Company - Focused on Directors' Compensation Clawback Policy -

Compensation Policy Reviewed from the Perspective of Directors' Liability toward Company - Focused on Directors' Compensation Clawback Policy -

SEC proposes new compensation clawback rules

Purpose – To examine the proposed rules issued by the Securities and Exchange Commission (SEC) pursuant to Section 954 of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, which, if adopted, would require national stock exchanges to establish listing standards that would require listed issuers to adopt so-called clawback policies for the recovery of excess incentive-based compensation in the event that an issuer is required to prepare an accounting restatement resulting from material noncompliance with any financial reporting requirement. Design/methodology/approach – The article discusses the SEC’s proposed rules, including the circumstances that would require recovery of excess incentive-based compensation, the types of compensation that, and the individuals whose compensation, would be subject to recovery, and certain new disclosure requirements for listed issuers. Findings – The SEC’s proposed rules will, if adopted, impose additional burdens on listed issuers to adopt and comply with recovery policies for excess incentive-based compensation and adhere to new public disclosure requirements. Originality/value – Expert analysis from experienced securities and executive compensation lawyers.

Why do Restatements Decrease in a Clawback Environment? An Investigation into Financial Reporting Executives' Decision-Making during the Restatement Process

ABSTRACTPrior archival studies find that firms that voluntarily adopted clawback policies have experienced a reduction in restatements. I experimentally examine this outcome by investigating the influence of two key factors (i.e., executive compensation structure and auditor quality) on financial reporting executives' (hereafter, “executives”) decision-making regarding a proposed restatement that will lead to a clawback of their incentives. I find that executives (i.e., CFOs, controllers, and treasurers) facing a lower quality auditor are less likely to agree with amending prior financial statements when a higher proportion of their pay is incentive-based. However, this tendency is reduced when executives face a higher quality auditor, indicating that higher quality auditors can act as effective monitors. My results identify an ex post unintended consequence of clawback regulation that could at least partially offset the benefits of the ex ante deterrent effects of clawbacks, and that could contribute to findings of less frequent restatements when clawback policies are in place. I discuss potential implications regarding the role of executives during restatement decisions and auditors' risk assessments in a clawback environment.Data Availability: Data are available from the author upon request.

Voluntary adoption of clawback provisions, corporate governance, and interlock effects

We examine the relationship between a company’s governance structure and the early adoption of management compensation clawbacks. We construct an index of whether governance tends toward relative management entrenchment versus monitoring and find that ostensible management entrenchment makes a clawback provision less likely. Furthermore, we examine whether social networks by the compensation committee with other adopters (interlocks) affects the likelihood of adoption, potentially by providing information from other decision-makers evaluating adoption. We find that interlocks by directors on the compensation committee with other companies with clawbacks increase the probability of a clawback. In addition, not all clawbacks are the same. We find that companies with clawbacks that are patterned after SOX are most common and are associated with monitoring-oriented governance and interlocks. Dodd Frank did not yet exist, but we find that clawback policies that would be compliant with Dodd Frank or are otherwise innovative are not associated with our measure of governance.