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Navigating the SEC's New Clawback Rule: What Public Companies Need to Know

The Securities and Exchange Commission (SEC) has ratcheted up its oversight on financial reporting errors with its new mandatory clawback rule. This rule will have a significant impact on publicly traded companies and their executives.

Initially adopted in October 2022, the SEC's clawback rule was enacted in compliance with Section 954 of the 2010 Dodd-Frank Act. It mandates that national stock exchanges establish guidelines for publicly held companies to develop, disclose, and adhere to written clawback policies. Simply put, these policies aim to recover incentive-based compensation that was erroneously paid to executives due to financial reporting errors. 

The new rule broadens the scope of individuals who can be subject to clawbacks. Under the Sarbanes-Oxley Act of 2002, only CEOs and CFOs were impacted. Now, a wider range of "enumerated executive officers" will find their compensation at risk in the case of reporting errors. In short, you don’t have to be a bad actor to have your compensation drawn into what the rules require.

One of the notable aspects of the new rule is the extension of the clawback lookback period from one to three years. Importantly, this recovery will apply whether or not the executive engaged in any misconduct.

Public companies are now required to file their clawback policies as an exhibit in their annual Form 10-K report. The form has been updated to include two new checkboxes specifically related to clawbacks, adding another layer of regulatory compliance. 

Although the rule has already gone into effect, companies have a grace period until December 1 to implement the required standards. However, it’s essential to note that any erroneously awarded compensation from the effective date will be subject to clawback.

Failure to adhere to these new rules can result in the delisting of the company from stock exchanges. It is significant because now clawback is mandatory. Big or small companies doesn't matter – everybody is going to be subject to clawback.  It is anticipated that the SEC will intensify its scrutiny once these policies are in place. 

The implementation of the new clawback rule represents just one aspect of a growing trend toward increased regulatory oversight under SEC Chair Gary Gensler. Companies are advised to consult legal counsel to ensure compliance with this and other recently enacted rules.  For further guidance on how to navigate these complex regulatory changes, please contact us.