Executive pay is under fire again. According to a recent district court decision in the Western District of Texas interpreting Section 304 of the Sarbanes-Oxley Act of 2002,1 chief executive officers and chief financial officers could lose their bonuses and other incentive compensation if their company is required to revise its financial statements as a result of misconduct, even when the executives did nothing improper. On Nov. 13, 2012, the court in SEC v. Baker, No. A-12-CA-285-SS, 2012, WL 5499497 (W.D. Tex. Nov. 13, 2012), agreed with the Securities and Exchange Commission’s view that Section 304 requires CEOs and CFOs to return bonuses and certain other compensation received in years in which the corporation restated its financials, even in the absence of misconduct by the executive. This decision and the SEC’s continued, aggressive enforcement of Section 304 against innocent CEOs and CFOs raises the stakes yet again for executives who fail to detect or prevent misconduct on their watch.
Section 304
Titled "Forfeiture of Certain Bonuses and Profits," Section 304 of Sarbanes-Oxley was intended to prevent CEOs and CFOs from profiting from corporate misconduct.2 Section 304 empowers the SEC to force CEOs and CFOs of public companies to reimburse their company for certain compensation received in years for which the issuer undertook an accounting restatement due to the issuer’s "material noncompliance" with any financial reporting requirement under the securities laws.3 Such noncompliance specifically must be the result of "misconduct," although misconduct is not defined within the statute. Under Section 304, CEOs and CFOs must repay bonuses, incentive or equity-based compensation, and profits realized from the sale of the issuer’s securities if such compensation was received or realized by the executive during the 12-month period following the issuer’s first noncompliant filing with the SEC. Any compensation that the SEC obtains from the CEOs and CFOs pursuant to Section 304 goes directly to the company, regardless of whether the company and its shareholders want the money back, and companies may not indemnify the executives for the amount they were forced to relinquish.4
