US DOJ implements first-ever incentive program to clawback employee compensation

On March 3, 2023, the US Department of Justice (DOJ) published its newly-established Compensation Incentives and Clawbacks Pilot Program applicable to corporate criminal resolutions (the Pilot Program) involving the Criminal Division. As the DOJ Deputy Attorney General Lisa Monaco stated in announcing the program, the aim of the Pilot Program is "to shift the burden of corporate wrongdoing away from shareholders, who frequently play no role in misconduct, onto those directly responsible."

The Pilot Program has two main components. First, every corporate resolution will require that the resolving company develop compliance-promoting criteria within its employee compensation and bonus system. Second, companies that seek to claw back compensation from culpable employees may receive fine reductions.

This announcement aligns with the September 2022 revisions to the DOJ Corporate Criminal Enforcement Policy, which we previously analyzed. Those revisions explained DOJ's view that companies should use compensation and clawback policies to incentivize appropriate conduct.

Overview of the Pilot Program

The Pilot Program will commence on March 15, 2023 and continue for three years. A company may qualify for a fine reduction if it implements compliance-related criteria in its compensation and bonus system, and makes annual reports to DOJ on the same during the term of the resolution. These criteria may include, but are not limited to:

(1) A prohibition on bonuses for employees who do not satisfy compliance performance requirements;

(2) Disciplinary measures for employees who violate applicable law and others who both

(a) Had supervisory authority over the employee(s) or business area engaged in the misconduct, and

(b) Knew of, or were willfully blind to, the misconduct; and

(3) Incentives for employees who demonstrate full commitment to compliance processes.

In addition to the criteria above, the resolving company must demonstrate that it has initiated or will be initiating a process to recoup compensation from employees who engaged in the alleged wrongdoing as well as from employees who had supervisory authority over the employee(s) or business area(s) engaged in the alleged misconduct, and who knew of, or were willfully blind to, the misconduct.

If the company has initiated the process to recover such compensation at the time of resolution, and has otherwise fully and timely cooperated during the investigation, DOJ will apply a credit to the company's fine equal to the amount of compensation the company is attempting to claw back from culpable employees (Possible Clawback Reduction).

If the company successfully recoups compensation, it can retain those funds. However, if the company is unsuccessful at recouping the full amount, it must pay DOJ the difference between the Possible Clawback Reduction and the amount actually recovered. Nevertheless, even if the company is unsuccessful in recouping the funds, it will remain eligible to receive a discretionary fine reduction of up to 25 percent of the compensation amount it had attempted to claw back. Assistant Attorney General Kenneth Polite, Jr. noted that the DOJ recognizes that it may be difficult for corporations to clawback compensation or that it may require a considerable commitment of resources to do so. For these reasons, the guidance also notes that a discretionary reduction may be warranted where, for instance, a company incurred significant litigation costs for shareholders or can demonstrate that it is highly likely that it will successfully recoup the compensation shortly after the end of the resolution term.

Other agencies are actively targeting executive compensation

Targeting executive compensation is a hot topic. The creation of the Pilot Program follows the Securities and Exchange Commission's (SEC's) new regulation (Rule 10D-1), requiring publicly traded companies to establish policies to clawback executive compensation under certain circumstances (which we previously analyzed).

Back in December 2021, we analyzed the SEC's revamped rules regarding the ability of corporate executives to buy or sell stock using the protections of Rule 10b5-1 plans amid purported concerns regarding abuse of those plans. Indeed, on March 1, 2023, DOJ and SEC initiated the first parallel criminal and civil proceedings against the executive chairman of a public company for alleged insider trading involving sales of securities pursuant to a Rule 10b5-1 plan. The SEC appears to have used data analytics to identify large profits surrounding the execution of Rule 10b5-1 plans, and it is likely that the SEC will continue to employ such analytics around its scrutiny of these plans.

The DOJ and the SEC view compensation as a significant factor that can incentivize behavior. How companies incorporate positive and negative compensation impacts to compliance considerations will shape how the DOJ and the SEC view the overall design of the compliance program.

The Pilot Program and recent enforcement proceedings demonstrate that DOJ and SEC are taking steps to build their toolbox to address issues that may arise in corporate compensation and incentivize companies to actively use clawbacks.

Companies should consider re-evaluating and revising their compensation policies accordingly. In addition, in government investigations, we can likely expect that there will be a renewed focus on identifying executives and supervisors involved in alleged misconduct. Similarly, we can expect that reductions of fines will require not only good faith attempts to clawback compensation, but also a renewed focus on identifying and reporting potential individual wrongdoing to the government. Finally, the fact that the Pilot Program is designed to shift the burden of fines away from innocent shareholders likewise suggests that there remain opportunities to advocate to the government about adverse collateral impacts resulting from the imposition of a fine.