A new US Securities Exchange Act Rule will take effect on 27 January 2024 and impact US-listed private issuers and dual-listed companies. It provides for the return of compensation, that was erroneously paid to executive officers as a result of accounting restatements, to the issuer and its shareholders, regardless of the fault of the executive officer.
The US Securities and Exchange Commission (SEC) recently introduced a new Rule 10D-1 under the Securities Exchange Act of 1934 (Rule 10D-1). The new Rule directs US exchanges to establish listing rules that would require listed companies to adopt clawback policies for the recovery of incentive-based compensation awarded to executive officers when the financial information on which that compensation was based was materially misreported.
In this article, we provide South African private issuers that are US-listed with a high-level understanding of the new Rule 10D-1 and its implications for their businesses.
It is essential for South African private issuers to understand that their current malus and clawback policies will probably not be sufficient to meet the new SEC requirements, due to the substantive differences between the US and South African regimes governing such policies. One difference is that, in the US, clawback is mandatory once a trigger event has occurred. This is not the case in South Africa, where it is typically discretionary.
Under Rule 10D-1, clawback must be triggered when an issuer is required to prepare an accounting restatement that corrects a material error in previously-issued financial statements ("Big R" restatement), on the one hand, or that would result in a material misstatement if the error was corrected in the current period or that would result in a material misstatement if it were left uncorrected in the current period ("little r" restatement), on the other hand. A trigger event is the earlier of (i) the date on which the authorised body/person at the issuer concludes, or reasonably should have concluded, that the issuer is required to prepare a restatement or (ii) the date a court, regulator, or other legally authorised body directs the issuer to prepare a restatement.
The new Rule 10D-1 will apply to any current or former executive officer, regardless of misconduct, for compensation received in that capacity. The definition of "executive officer" will depend on the issuer, but it is likely to overlap with the "senior management" group identified in annual reports. The new rule applies to incentive-based compensation, which is any compensation that is granted, earned, or vested based wholly or in part on the attainment of any financial reporting measure. The amount subject to clawback is the amount of incentive-based compensation received (during three full fiscal years pre-trigger) in excess of the amount that would have been received based on the restatement, calculated without regard to taxes paid.
South African private issuers with US listings that fail to comply with the new Rule 10D-1 risk adverse disclosures, reputational harm, and even delisting. Issuer indemnification or insurance will not curb liability.
The US listing requirements that flow from Rule 10D-1 will become effective by no later than 27 January 2024. To ensure compliance with the new Rule 10D-1, South African private issuers will need to adopt an amended clawback policy by the end of 2023 and review all their executive remuneration and directors' and officers' insurance arrangements. That is easier said than done, as it will probably entail the following steps:
- Review where executive officers are based and consider what steps may be necessary to ensure enforcement of clawback is possible (e.g. consider whether scheme rules require consent from participants where amendments affect rights of participants and what is included in the participants’ terms and conditions of employment);
- Review documentation and identify necessary amendments, particularly to assess whether the current malus and clawback policy is sufficient to satisfy the new rules. We believe that such policies drafted in the South African context will require significant amendment due to the differences in the prevailing regimes in each jurisdiction. Updates would then flow to any incentive plan rules, bonus schemes, or director remuneration policies which may, in turn, require regulatory approval, for example, in terms of Schedule 14 to the JSE’s Listings Requirements.
- Remuneration Committee (RemCo) terms of reference, if any, may need to be updated to reflect the RemCo’s obligation to apply clawback and maintain a record of clawback obligations.
With less than a year to assess impacted policies and agreements from a corporate governance and employment perspective, US-listed South African issuers would be well advised to take action promptly by briefing their stakeholders and identifying the impacted documents. The Webber Wentzel team (together with our alliance partner, Linklaters) is available to consult and advise clients on the impact of such regulatory changes.