Trimming The Claws on Bonus Clawbacks

By Colin Liew

In the wake of the economic downturn, and increasing corporate scandals, Forefront: By TSMP takes a look at clawbacks of executive bonuses and whether this will become a trend in Singapore.

One of the hazards of being a top executive is that people are always talking about the size of your package.

For instance, BP’s shareholders voted strongly just last month against a 20% pay increase for CEO Bob Dudley, after the oil major sustained a US$5.2 billion loss. Wong Weng Sun, the President and Chief Executive of Sembcorp Marine has reportedly had a six-figure sum deducted from his 2015 bonus. With the rig builder reporting a net loss of approximately S$290 million in FY2015 (down from a net profit of approximately S$560 million a year earlier), and continued low oil prices, bonus clawbacks could become the new normal in the oil and gas sector.

In other industries, too, there are signs that shareholders are no longer prepared to swallow eye-watering bonuses for head honchos. In the wake of an embarrassing emissions scandal, Volkswagen AG’s directors have agreed to a portion of their bonuses being withheld, with about 18% of Chief Executive Matthias Müller’s total compensation being deferred for several years.

Bankers continue to be a favourite target. Standard Chartered (which just posted its first annual loss since 1989) has announced a landmark “accountability” review which could lead to the recovery of bonuses of up to 150 senior staff if found guilty of compliance and risk-management breaches.

These developments are consistent with today’s global regulatory landscape. In the US, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 requires public companies to include clawback provisions in their executive compensation packages, which can be triggered regardless of individual misconduct, and applies to all current and former “executive officers”. Under new rules proposed by regulators, a minimum period of 7 years may be imposed for the biggest firms to claw back bonuses if an executive has been found guilty of misconduct or if the firm has had to restate financial results, potentially putting the bonuses of thousands of Wall Street bankers at risk.

Similarly, the UK last year published new rules to overhaul the system of accountability, which include the prospect of senior managers facing a clawback of bonuses of up to 10 years (up from 7 years), if misconduct comes to light. The new rules would even allow clawbacks despite the banker joining a new employer.

Enforcement of clawbacks – Is it Legal? 

Does this mean that we’re likely to see greater enforcement of bonus clawbacks, as the economic downturn continues to bite? Should executives be concerned and shareholders excited?

All signs are that we shouldn’t hold our breath.

In Singapore, the right to clawback bonus or other remuneration is generally subject to the agreement between employer and employee. If expressly agreed in the terms of the employment contract, they are enforceable unless statutorily prohibited (e.g. as an unauthorised deduction of salary under section 26 of the Employment Act). However, given that an “employee” under the Employment Act does not include a person employed in a “managerial or an executive position” unless that person’s salary (excluding bonuses) is below S$4,500 a month, section 26 is unlikely to apply often.  

Apart from the Employment Act, it is also possible that a clawback clause could be invalidated by the Courts as an illegal penalty clause, though that seems unlikely if the clawback is not drafted in the form of liquidated damages for a breach of contract.

Hence, short of the employment contract providing expressly for a clawback of remuneration, the law does not allow employers to unilaterally reduce sums it has contractually committed to pay its employees. It is worth mentioning, for completeness, that if the employee breaches the employment agreement, his employer may have a contractual claim for damages, usually established through a court case, which would result in a reduction of the sum payable to the employee.  

Even if bonus clawbacks are legally enforceable, the true issue is the practicalities of how this will be done. Enforcement costs are likely to be high, relative to how much can be clawed back. The grounds on which bonuses will be clawed back may not be well-defined, leading to uncertainty as to when a clawback will be triggered, and how much would be clawed back. A court is likely to rule in favour of the employee, in cases of doubt.  In addition, it is questionable how easily funds can be clawed back if, for example, the individual has left Singapore.

Indeed, until bonus clawback clauses become standard market practice (whether through widespread adoption of the practice or because of G-to-G action) it is not obvious why top executives would agree to be bound by such clauses, particularly since, unlike Dodd-Frank and the rules in the UK, Singapore law does not require companies to impose such clawbacks.

The bottom line

Interestingly, according to the Wall Street Journal, bonuses and other cash incentives have actually increased as a share of total CEO pay at large banks in the past few years, despite the tough rules regulators introduced after the global financial crisis aimed at curbing imbalanced incentives. Bankers, arguing against the clawback regulations, say that they will become less attractive as employers, and top executives will simply join offshore banks which are not subject to these clawback requirements. This seems to suggest that clawback clauses, far from curbing runaway bonuses, are, perversely, contributing to them.

In any event, the jury appears to still be out on the question of the efficacy of clawback provisions in limiting executive remuneration.

At the end of the day, therefore, bonus clawbacks may be nothing more than a sop to shareholders in challenging times: to show that action is being taken to improve the company’s financial results as well as punish those who appear most responsible for its difficulties. Even so, however, as far as the former is concerned, a clawback seems unlikely to make a significant difference, unless the company was massively overpaying its executives in the first place.

Perhaps this is why the clamour for the clawback has been largely confined to the largest global companies and to sectors like banking where traders and top executives are used to stratospheric salaries. Hardly the biggest concern for a Singapore SME trying to make ends meet while grappling with foreign worker quotas and high rental costs.

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