Most Companies Avoid SEC Rule to Analyze Executive Pay Clawback

A new Securities and Exchange Commission rule requires companies to analyze if their accounting errors are big enough to make top brass pay back their bonuses. Few companies have actually done so.

Of the 205 companies that reported accounting corrections in their annual financial statements so far this year, just 29—less than 15%—said they reviewed the error to see if they needed to force a compensation clawback, according to research firm Nonlinear Analytics LLC. Of those that conducted a review, two—payments technology provider NCR Voyix Corp. and fintech company Katapult Holdings Inc.—forced executives to return portions of their bonuses.

Inconsistencies were common. Businesses like human resources software provider Dayforce Inc., media and education firm Graham Holdings Co., and Teva Pharmaceutical Industries Inc. were among the few that scrutinized relatively small accounting mistakes, concluding pay clawbacks were unnecessary. But companies including air carrier Mesa Air Group Inc., First Real Estate Investment Trust of New Jersey, and theme park operator Six Flags Entertainment Corp. were among the majority skipping any analysis for what appear to be similar accounting trip-ups. The companies didn’t respond to requests for comment.

Of the small subset of companies that reported they reviewed their errors, 40% merely checked a new box on the front page of their filing, offering no details about how they weighed the information to figure out if they had to force a payback, the data show.

“There is diversity in practice around how companies do this,” said Olga Usvyatsky, an accounting analyst who reviewed more than 6,000 SEC filings.

The SEC rule has a straightforward premise: if a company executive receives a bonus tied to earnings metrics that turn out to be miscalculated, that compensation must be returned, or clawed back, to the business.

Compliance isn’t so straightforward.

Unclear Direction

The SEC rule requires companies to write up policies to determine when to take back pay or risk getting kicked off major exchanges. Errors cover not just so-called Big R restatements, but also smaller revisions that companies quietly tuck into their financial filings without the fanfare of alerting the market via a special 8-K.

Under the rule, companies must check a box on the front page of their annual financial statements to highlight whether any past correction was made. A second box must be checked if a correction warrants a clawback analysis.

This is where the divergent practices come in.

Archer-Daniels-Midland Co. in January announced the suspension of its CFO amid an investigation into the company’s segment accounting practices. When the company corrected three years worth of errors in a 10-K it published in March, it did so via a so-called “Little R” revision.

The commodities giant slipped the corrections in its 10-K instead of re-issuing old financial statements and told analysts and investors that the errors were a small part of its financial results that didn’t trigger a review under new executive compensation clawback rules.

“ADM’s 10-K revisions were due to a unique situation that did not require the company to check the second box,” a company spokesperson said in an e-mail to Bloomberg Tax. The company did not respond to a follow-up question about what the unique situation was.

Nuance, Questions

The dearth of clawbacks, or even analyses about whether to yank back pay, doesn’t mean companies are outright flouting the SEC rule, however. There’s nuance involved, and a whole lot of questions surrounding the first year of compliance.

The tight time period between when the rules went into effect in October and when companies must assess their errors means the pool of accounting mistakes to analyze is small, said Maj Vaseghi, partner at Latham & Watkins LLP.

Companies that close their fiscal books on Dec. 31 usually issue their 10-Ks in February or March but don’t pay out bonuses until the spring, when they share details about which executives got cash or stock payouts and the value of those awards in documents they file with the SEC. In many cases, companies uncovered errors and accounted for them prior to paying out bonuses.

“It’s possible that the cash incentive award for 2023 hadn’t been paid out yet, so they caught it in time,” Vaseghi said.

Take Chemours Inc., the Teflon maker in the center of an accounting scandal that’s led to SEC and Department of Justice probes. The company in late February announced it suspended its CEO, chief financial officer, and controller, later revealing the company’s top executives delayed payments to vendors and sped up the collection of receivables to manipulate the company’s free cash flow targets. The accounting move boosted the numbers used to determine cash and stock bonuses, the company said. But it hadn’t yet closed the books on its 2023 financial statements, nor had it paid out 2023 bonuses.

In the spring, the company’s board shrank the former CEO and CFO’s bonuses to zero and gave them no stock awards, according to the company’s proxy statement. It didn’t have to invoke a clawback because no award had been granted.

‘Endless’ Questions

The other factor shrinking the number of companies doing the analysis: lots of questions about what companies are supposed to do.

Queries about the rule and when to check the boxes have cropped up at almost every securities and financial reporting conference so far this year.

“The discussions are just endless,” said John White, partner at Cravath, Swaine & Moore LLP and former director of the SEC’s Division of Corporation Finance, at a financial reporting conference in June.

A top SEC accountant in May urged companies to be as transparent as possible in implementing the new rule, warning that they must make a formal assessment even if the accounting error didn’t affect metrics used to calculate executive pay.

“There might not be any recovery amounts to determine because no incentive-based compensation was received by the executives during the relevant time frame,” said Sarah Lowe, deputy chief accountant in the SEC’s Division of Corporation Finance. “Regardless, the second checkbox must still be checked as a result of needing to perform that analysis to come to that conclusion.”

In some cases, the dearth of a second checkbox may be chalked up to questions about the period the error covered.

Shake Shack Inc. in February announced it would have to restate, or redo, prior financial statements to fix problems tied to accounting for deferred tax assets. The accounting errors were in fiscal 2021 and 2022. The burger chain checked the box saying it corrected errors, but didn’t check the box saying it performed a recovery analysis. The company didn’t respond to a request for comment.

Clear guidance on what types of errors need to be analyzed and when boxes need to be checked would be welcomed, said Ronald Mueller, partner at Gibson Dunn LLP, who advises public companies on SEC rule compliance.

“The SEC staff is trying to be helpful and responsive to companies; they are answering these questions but they seem more hesitant to put interpretations in writing,” he said. “On something like this I think it would be just helpful to have one of their compliance and disclosure interpretations.”