Contemporary Accounting Research 30 (2013) 1027-1062.
    \274\ In the staff review, 104 issuers out of the 1,116 issuers
that disclosed a recovery policy in the period 7/1/2013 to 6/30/2014
were randomly selected for an in depth examination of their recovery
policies. Each recovery policy disclosure was read, or if the
recovery policy was incorporated by reference, the original
disclosure was read. Staff examined each policy for (1) which
employees were covered, (2) what type of compensation was at risk
for recovery, (3) how much of that compensation was at risk for
recovery, (4) what type of event or events triggered a recovery
action, (5) if misconduct was required for a recovery action, and
(6) the timing of the window for which compensation was at risk for
recovery. The characterization of these policies, as set forth
below, is based on limited information available from public filings
and may involve some interpretation of otherwise ambiguous terms and
conditions. Hence, all numbers presented should be taken as
estimates.
---------------------------------------------------------------------------

    There appears to be considerable variation in the coverage of
employees subject to recovery under currently disclosed recovery
policies.\275\ Under the proposed rule and rule amendments, a listed
issuer's compensation recovery policy would require recovery of excess
incentive-based compensation received by an individual who served as an
executive officer of the issuer at any time during the performance
period for that incentive-based compensation. As a result, in some
cases recovery would be required from individuals who may be former
executive officers either at the time they receive the incentive-based
compensation or at the date when the listed issuer is required to
prepare an accounting restatement. In a review by Commission staff of
the random sample of 104 issuers with disclosed recovery policies noted
above, the recovery policies of 82 issuers (79 percent) applied to any
current executive officer; and only three of those 82 issuers had
recovery policies that applied to former executive officers.\276\
Therefore, the majority of issuers examined disclose having recovery
policies that require compensation recovery from a narrower range of
individuals than a recovery policy that would comply with the proposed
rule requirements.
---------------------------------------------------------------------------

    \275\ As of 2013 approximately 61 percent of S&P Fortune 100
companies had recovery policies that applied to key executives and
employees including named executive officers; approximately 13
percent applied to all employees; approximately seven percent
applied to just the CEO and/or CFO; and the remainder did not have a
recovery policy or did not specify coverage. See Equilar Clawback
Policy Report (2013).
    \276\ Of the remaining 22 issuers in the sample, the recovery
policies of two applied to CEOs, two applied to both the CEO and
CFO, one applied to the COO, and 17 did not specify to whom the
recovery policy applied. From the current disclosure in public
filings, the staff generally could not determine whether the
definition of ``executive officers'' that issuers use for purposes
of their compensation recovery policies is consistent with the
definition of ``executive officer'' in the proposed rule and rule
amendments. A subset of issuers specified that only named executive
officers were covered, while others specified senior executives,
executive officers, or employees vice-president and above. For
purposes of this baseline discussion, we include these employees in
the category ``executive officer.''
---------------------------------------------------------------------------

    The type and scope of compensation subject to recovery in currently
disclosed recovery policies also appears to vary across issuers. In the
staff's review of a random sample of 104 issuers that disclosed
recovery policies, the recovery policies of 64 issuers (62 percent)
applied to any form of performance-based compensation, and thus would
satisfy the requirements of the proposed rule in this regard. Further,
out of the 104 issuers with disclosed recovery policies, 29 issuers (28
percent) specified that only the excess performance-based compensation
was subject to recoupment, while 47 issuers (45 percent) specified that
all of the performance-based compensation was potentially
recoverable.\277\ Considered together, 76 of the 104 issuers (73
percent) examined may already have a recovery policy that covers excess
incentive-based compensation as would be required by the proposed rule
and rule amendments.
---------------------------------------------------------------------------

    \277\ As discussed above, the characterization of these policies
is based on limited information available from public filings and
may involve some interpretation of otherwise ambiguous terms and
conditions. Hence, all numbers presented should be taken as
estimates.
---------------------------------------------------------------------------

    Moreover, 94 issuers (90 percent) specified either a look-back
period of three years or did not specify a look-back period, which we
interpret as having a potentially indefinite look-back period.
Accordingly, a majority of the current policies the staff reviewed have
a look-back period that is the same length or longer than the look-back
period required in a recovery policy that would comply with the
proposed rule requirements. We note, however, that due to the limited
disclosure available in public filings, the staff was unable to
determine if the start and end dates of the look-back window would
cover the proposed required look-back period in the proposed rule. The
results of this random sample indicate that, for issuers with disclosed
recovery policies, the majority may already include look-back
provisions consistent with the requirements under the proposed rule and
rule amendments.
    In summary, the staff's review of the disclosed recovery policies
of 104 issuers found:

------------------------------------------------------------------------
        Proposed requirements                  Existing policies
------------------------------------------------------------------------
The recovery policy is ``no fault''    51 of the 104 policies examined
 in nature                              do not require misconduct on the
                                        part of the executive.

Former executive officers are covered  101 of the 104 policies examined
                                        do not disclose that former
                                        executive officers are covered.
Excess incentive-based compensation    64 of the 104 policies examined
 based on attainment of a financial     apply to any form of performance-
 reporting measure is recoverable       based compensation. 76 of the
                                        104 policies examined may
                                        already allow for excess
                                        incentive-based compensation to
                                        be recovered.
Policy has a three year look-back      94 of the 104 policies examined
 period                                 may already have a look-back
                                        period of three years or longer.
------------------------------------------------------------------------

B. Analysis of Potential Economic Effects

    The discussion below analyzes the economic effects of the proposed
rule and rule amendments, including the anticipated costs and benefits
as well as the likely impact on efficiency, competition, and capital
formation. For purposes of this analysis, we address the potential
economic effects resulting from the statutory mandate and from our
exercise of discretion together, recognizing that it is often difficult
to separate the costs and benefits arising from these two sources.
Below we discuss the potential effects of the proposed rule and rule
amendments on financial reporting quality, on executive compensation
packages, on listed issuers, and on U.S. exchanges. We also discuss the
potential effects arising from the proposed rule's prohibition on
indemnification and payment or reimbursement of premiums for insurance
against recovery.
1. Potential Effects on Financial Reporting
    In seeking to maximize the value of their financial investments,
shareholders rely on the financial reporting quality of issuers to make
informed investment decisions about the issuer's securities. High-
quality financial reporting should provide shareholders with an
accurate estimate of the issuer's performance and should be informative
about its firm value.\278\ An accounting restatement due to material
noncompliance with any financial reporting requirement under the
securities laws may cause shareholders to question the accuracy of
those estimates and may lead shareholders and other prospective
investors to substantially revise their beliefs about the issuer's
financial performance and prospects with potentially significant
effects on firm value.
---------------------------------------------------------------------------

    \278\ For purposes of this economic analysis, high-quality
financial reporting means when financial disclosure is informative
about the actual performance of the issuer.
---------------------------------------------------------------------------

    While incentive-based compensation is typically intended to provide
incentives to executives to maximize the value of the enterprise, thus
aligning their incentives with shareholders, it may also provide
executives with incentives that conflict with shareholders' reliance on
high-quality financial reporting. In particular, when setting the
compensation for executives, the board of directors of an issuer may
seek to align the interests of executives with those of the
shareholders by tying executive compensation to financial reporting
measures that the board believes will have a positive effect on firm
value. To the extent that executives are in a position to affect the
preparation of financial statements, this approach can, however, create
the incentive for executives to influence the preparation of financial
statements and related filings in ways that appear to achieve those
measures. For example, certain financial performance measures require
estimates and judgments, and if those estimates and judgements are
influenced by the performance incentives that are part of the executive
compensation packages, then the reported performance of the issuer may
not reflect actual enhancement to firm value.
    In some instances, executives might have incentives to pursue
impermissible accounting methods under GAAP that result in a material
misstatement of financial performance.\279\ This potential for
deliberate misreporting raises a principal-agent problem that is
detrimental for shareholders.\280\ Although civil and criminal
penalties already create disincentives to deliberate misreporting, the
recovery requirements under the proposed rule and rule amendments would
reduce the financial benefits to executive officers who choose to
pursue impermissible accounting methods, and thus may add another
disincentive to engage in deliberate misreporting. The magnitude of
this effect would likely depend on the particular circumstances of an
issuer.
---------------------------------------------------------------------------

    \279\ We also note that some estimates and judgments permissible
under GAAP may allow executives to realize higher compensation,
without resulting in a material misstatement of financial
performance and thus without triggering recovery consistent with
Section 10D.
    \280\ Among other decisions, executives must decide the extent
of internal resources and personal attention to devote to achieving
high-quality financial reporting and assuring that the financial
disclosure is informative about the performance of the issuer. Given
that the expected costs and benefits associated with any level of
investment decision in financial reporting quality would ultimately
be reflected in the issuer's firm value, in absence of a principal-
agent problem, executives would likely decide to allocate the value
maximizing amount of resources to producing high-quality financial
statements and, as a result, the level of information value of the
financial reporting would likely be optimal. A principal-agent
problem, however, reduces the executive's incentive to allocate the
appropriate amount of resources to produce high-quality financial
statements, which reduces the information value of financial
reporting.
---------------------------------------------------------------------------

    The proposed rule and rule amendments may also provide executives
with an increased incentive to take steps to reduce the likelihood of
inadvertent misreporting. Most directly, the executive may have the
ability to reduce the uncertainty in her compensation by devoting more
resources to the production of high-quality financial reporting,
thereby reducing the likelihood of a material accounting error. For
example, an executive could devote more labor or internal capital to
strengthening internal controls over financial reporting. One study
\281\ found that, after the implementation of a recovery policy, an
auditor is less likely to report a material weakness in an issuer's
internal controls over financial reporting, which is consistent with
issuers devoting more resources to internal controls over financial
reporting.
---------------------------------------------------------------------------

    \281\ See Chan, Chen, Chen, and Yu The effects of firm-initiated
clawback provisions on earnings quality and auditor behavior Journal
of Accounting and Economics 54 (2012) 180-196.
---------------------------------------------------------------------------

    Executives may also take other steps to reduce the likelihood of an
inadvertent misreporting. An executive could change the business
practices of the issuer, thereby affecting the opportunity for a
material accounting error to arise. For example, an executive could
simplify delivery terms of a project or a transaction in order to use
accounting standards that are more straightforward to apply and perhaps
require fewer accounting judgments,

which may reduce the likelihood of material accounting errors.\282\
Taking steps such as these does not necessarily affect the selection of
the project or transaction the issuer chooses to undertake (although it
could, as discussed below), but could result in greater investor
confidence in the quality of financial reporting and information value
of the financial statements, and thus have a positive impact on capital
formation.\283\
---------------------------------------------------------------------------

    \282\ For example, the executive could make accounting judgments
on loan loss reserves or expected returns on sales with complicated
returns criteria that are less likely to result in an accounting
restatement.
    \283\ An academic study shows that, when market competition is
weak, the information environment affects the expected returns of
equity securities. In particular, when financial disclosure quality
is low, as measured by scaled accruals quality, companies with low
market competition, as measured by the number of shareholders of
record, have a higher expected return. All else being equal, higher
expected returns make raising capital more costly for the company.
See Armstrong, Core, Taylor, and Verrecchia When Does Information
Asymmetry Affect the Cost of Capital Journal of Accounting Research
Vol. 49 No. 1 March 2011. The academic literature has developed a
measure of the quality of financial reporting denoted accruals
quality. This measure quantifies how well accruals are explained
either by the cash flow from operations (past, current, and future
periods) or accounting fundamentals. For details on the construction
and interpretation of the measure see Dechow and Dichev The Quality
of Accruals and Earnings: The Role of Accrual Estimation Errors The
Accounting Review, Vol. 77, Supplement 2002 pp. 35-39; and Francis,
LaFond, Olsson, and Schipper The market pricing of accruals quality
Journal of Accounting and Economics 29 (2005) 295-327.
---------------------------------------------------------------------------

    As a result of the proposed rule and rule amendments, we believe
that the increased incentives to generate high-quality financial
reporting may improve the overall quality of financial reporting. An
increase in the quality of financial reporting could result in
increased informational efficiency, enhanced investor confidence that
may result in greater market participation, and a reduced cost of
raising capital, thereby facilitating capital formation. While we lack
the data to quantify the potential benefits to shareholders from a
reduced likelihood of a material accounting error, evidence suggests
that penalties imposed by the market for accounting restatements are
likely to be substantial.\284\ For example, one recent study \285\
found that over the period 2005 to 2012 the market value of equity of
the average issuer declined by 2.3 percent upon announcement of a
significant financial restatement.\286\
---------------------------------------------------------------------------

    \284\ These penalties would likely include both revaluation and
reputational effects, where the two types of effects are often
difficult to separate.
    \285\ See Scholz, S. 2013. ``Financial Restatement: Trends in
the United States: 2003-2012.'' Center for Audit Quality.
    \286\ In the 2005-2012 period, the average issuer paid
approximately 0.48 percent of its market value of equity to all
named executive officers in the form of non-salary compensation
during that time period. Non-salary compensation data is from
Standard and Poor's Executive Compensation database which tracks
compensation for the companies currently or previously in the S&P
1500 index. Moreover, this comparison is inexact, because the
proposed rule would require the recovery of only excess incentive-
based compensation, and not all non-salary compensation, thereby
reducing the percentage of market value paid to executives. The
proposed rule and rule amendments would however, also require a
recovery policy that applies to more than just the named executive
officers, thereby increasing the percentage of market value paid to
executives.
---------------------------------------------------------------------------

    More broadly, the availability of more informative or accurate
information regarding the financial performance of issuers would also
have the effect of increasing the efficient allocation of capital among
corporate issuers. Because investors would be better informed about the
potential investment opportunities at any given point in time, they
would be more likely to allocate their capital according to its highest
and best use. This would benefit all issuers, even those whose
financial reporting would not be affected by the proposed rule
requirements on exchanges' listing standards. In particular, issuers
whose financial reporting is unaffected may have better access to
capital by virtue of investors being able to make more informed
comparisons between them and issuers whose financial reporting would
become more accurate as a result of the proposed rule
requirements.\287\ In contrast, without the proposed rule and rule
amendments, investors may improperly assess the value of the issuers
whose financial reporting is based on erroneous information, which
could result in an inefficient allocation of capital, inhibiting
capital formation and competition.
---------------------------------------------------------------------------

    \287\ See Bushee and Leuz Economic consequences of SEC
disclosure regulation: evidence from the OTC bulletin board Journal
of Accounting and Economics 39 (2005) 233-264.
---------------------------------------------------------------------------

    We are aware, however, that these potential benefits of the
proposed rule and rule amendments are not without associated costs.
Under the proposed rule and rule amendments, the increased allocation
of resources to the production of high-quality financial reporting may
divert resources from other activities that may be value enhancing.
Moreover, while the increased incentive to produce high-quality
financial reporting and thus reduce the likelihood of material
accounting errors should increase the informational efficiency of
investment opportunities, it may also encourage executives to forgo
value-enhancing projects if doing so would decrease the likelihood of a
financial restatement.\288\ For example, when choosing among investment
opportunities for the issuer, executives may have less incentive to
pursue those projects that would require more complicated accounting
judgments, so as to reduce the likelihood of an unintentional but
material accounting error.\289\ That is, the proposed rule and rule
amendments may create an incentive for an executive to forgo projects
for which it is more difficult to generate high-quality financial
reporting.\290\ This could have an adverse impact on the value of the
issuer to the extent that the foregone projects would have resulted in
greater value than those that were ultimately chosen.
---------------------------------------------------------------------------

    \288\ Projects that increase the volatility of cash flows from
operations, the volatility of sales revenue, or percentage of soft
assets have been associated with an increased likelihood of an SEC
enforcement action (specifically, the likelihood of an issuer being
the subject of a SEC Accounting and Auditing Enforcement Release).
See Dechow and Dichev The Quality of Accruals and Earnings: The Role
of Accrual Estimation Errors The Accounting Review, Vol. 77,
Supplement 2002 pp. 35-39; Dechow, Ge, Larson, and Sloan Predicting
Material Accounting Misstatements Contemporary Accounting Research
Vol. 28 No. 1 (Spring 2011).
    \289\ For example, the issuer could select projects that do not
add to the complexity of the required reporting systems, or select
projects that have a shorter performance period and therefore may
involve less difficult accounting judgments about the expected
future costs.
    \290\ Babenko et al find that after the implementation of a
compensation recovery policy, issuers spend less on research and
development, file for fewer patents, and hold more cash. This is
consistent with executives changing their project selection policy
as the result of implementing a compensation recovery policy. See
Babenko, Bennett, Bizjak, and Coles Clawback Provisions Working
Paper (2015). We note, however, that the determination of whether or
not to select a particular project is likely related to many
characteristics of the project. These characteristics could include
the value the project creates, the cash flows the project returns in
the near term, and the strategic objectives of the issuer.
---------------------------------------------------------------------------

    One study suggests that a compensation recovery policy could result
in an increased likelihood of an executive making suboptimal operating
decisions in order to affect specific financial reporting measures as a
result of the decreased incentive to use accounting judgments to affect
those financial reporting measures.\291\ For example, if an executive
is under pressure to meet an earnings target, rather than manage
earnings through

accounting judgments, an executive may elect to reduce or defer to a
future period research and development or advertising expenses. This
could improve reported earnings in the short-term, but could result in
a suboptimal level of investment that adversely affects performance in
the long run. The study also documents that the propensity of
executives to undertake such actions may be particularly high in
issuers that are characterized as having strong growth
opportunities.\292\ The incentive to use operating decisions to affect
financial reporting measures could be partially mitigated to the extent
that the board's compensation committee would expect this behavior
after the implementation of a recovery policy and construct metrics
that take into account the possibility of such actions. They might also
design internal controls to detect such actions, such as rigorous
budget variance analyses.
---------------------------------------------------------------------------

    \291\ Chan, Chen, Chen, and Yu document that after the
implementation of a compensation recovery policy issuers reduce
accruals manipulation but increase real transaction management. They
further document that the increase in real transaction management
results in improved short-term performance, as measured by changes
in return on assets, but diminished long-term performance. In the
context of their study, real transaction management is when
executive officers structure operating decisions to affect reported
financial performance. See Chan, Chen, Chen, and Yu The effects of
firm-initiated clawback provisions on earnings quality and auditor
behavior Journal of Accounting and Economics 54 (2012) 180-196.
    \292\ Id.
---------------------------------------------------------------------------

    Under the proposed rule and rule amendments, if it appears that
previously filed financial statements may contain a material accounting
error, there may also be an incentive for issuers or individual
executives (to the extent they are in a position to do so) to cause the
company to delay investigating the error or to characterize as
immaterial an accounting error that would otherwise be properly
characterized as material. The incentive to delay is present because
only excess incentive-based compensation received in the three fiscal
years prior to the determination of a material accounting error is
subject to recovery under the proposed rule and rule amendments.\293\
The incentive to characterize an accounting error as immaterial that
would otherwise properly be characterized as material is present
because compensation recovery is only required after the conclusion a
material accounting error exists.\294\ To the extent that these
incentives discourage the timely and accurate reporting of material
accounting errors, it could result in loss of confidence in financial
information disclosures by investors and hinder capital formation.
---------------------------------------------------------------------------

    \293\ For example, suppose that in November 2015 an issuer with
a fiscal year ending in December suspects that there is a material
accounting error in its financial statements. Further, suppose that
the executives of the issuer had received a large incentive-based
compensation award in 2012. If the issuer investigates immediately
and concludes in November 2015 that there was a material accounting
error, then incentive-based compensation received in 2012 is at risk
for recovery. The issuer might choose to delay its investigation
until 2016 in order to avoid this result.
    \294\ See Files, Swanson, and Tse Stealth Disclosure of
Accounting Restatements The Accounting Review 84 (2009), 1495-1520;
Myers, Scholz, and Sharp Restating Under the Radar? Determinants of
Restatement Disclosure Choices and the Related Market Reactions
Working Paper (2013), available at: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1309786&download=yes.
---------------------------------------------------------------------------

    These incentives to delay the conclusion that a restatement is
necessary or to mischaracterize material accounting errors are
mitigated, however, by several factors. For example, the proposed
definition of the date on which an issuer is required to prepare an
accounting restatement, which is the date on which the issuer
concludes, or reasonably should have concluded, that the issuer's
previously issued financial statements contain a material error would
provide an objective basis for assessing when the required three year
look-back period begins. Moreover, the potential for the issuer and
individual executives to incur additional legal liability, including
potential criminal prosecution, for the deliberate or negligent delay
in investigating and reporting a material accounting error or
mischaracterization of an accounting error, combined with the
likelihood that such conduct would be detected,\295\ may offset the
incentives arising from the required three year look-back period prior
to the determination of a material accounting error.
---------------------------------------------------------------------------

    \295\ Outside auditors' oversight may play as an additional
mitigating factor.
---------------------------------------------------------------------------

2. Potential Effects on Executive Compensation
    When setting the compensation for executives, the board of
directors of an issuer frequently incorporates into the total
compensation package a payout that is tied to one or more measures of
the issuer's performance. The purpose of tying compensation to
performance is to provide an incentive for executives to maximize the
value of the enterprise, thus aligning their incentives with other
shareholders. The proportion of the pay package that relies on
performance incentives generally depends on factors such as the level
of risk inherent in the issuer's business activities, the issuer's
growth prospects, and the scarcity and specificity of executive talent
needed by the issuer. It also may reflect personal preferences
influenced by characteristics of the executive such as age, wealth, and
aversion to risk. In particular, the executive's risk aversion may make
pay packages with strong performance incentives undesirable because of
the less predictable payments. These factors contribute not only to the
magnitude of the expected compensation, but also to how an executive
views and responds to the compensation.\296\
---------------------------------------------------------------------------

    \296\ Executives typically have personal preferences regarding
the form of compensation received. To the extent that executives
have different levels of risk aversion, they can arrive at different
personal valuations of the same performance-based compensation
package. Hence, more risk-averse executives may require additional
compensation when paid in the form of less certain performance-based
compensation.
---------------------------------------------------------------------------

    We anticipate that the requirements of the proposed rule and rule
amendments could meaningfully affect the size and composition of the
compensation packages awarded to executives of listed issuers. As noted
above, risk averse executives prefer predictable compensation, and the
mandatory implementation of a recovery policy that meets the
requirements of the proposed rule and rule amendments would introduce
an additional source of uncertainty in the compensation of the
executive. Moreover, because the mandated recovery policy would be
required to be ``no-fault'' in nature, the occurrence of a material
accounting error would require executives to return excess incentive-
based compensation even if they had no role in the material accounting
error. A recovery policy would, therefore, introduce uncertainty in the
amount of incentive-based compensation that executives will ultimately
retain, with those executives less directly involved with financial
reporting incurring relatively more uncertainty.
    For executives who already have established compensation packages,
the proposed rule and rule amendments may create an incentive to
negotiate changes to their composition.\297\ In particular, because of
the increased uncertainty, risk averse executives may lower the value
that they attach to the incentive-based component of their pay and may
as a result demand an offset to bear the increased uncertainty. The
offset could come in the form of a smaller portion of pay being
comprised of incentive-based compensation,\298\ which could weaken
incentive alignment, i.e., pay-for-performance sensitivity,\299\ or
through an increase in expected total compensation, which would come at
a greater cost to the

issuer.\300\ Research suggests that as a result of bearing this new
source of uncertainty the total compensation of executives would
increase.\301\ The extent of any such increase would depend on the
structure and conditions of the labor market for executives as well as
other economic factors, including the negotiating environment and
particular preferences of executives.
---------------------------------------------------------------------------

    \297\ See letters from Stuart R. Lombardi and Towers Watson.
    \298\ We note that, if the offset comes as a reduced weight
placed on incentive-based compensation, the recoverable funds if a
material accounting error occurs would be reduced.
    \299\ Pay-for-performance sensitivity is a measure of incentive
alignment used in academic research. The measure captures the
correlation of an executive officer's compensation with changes in
shareholder wealth. See, e.g., Jensen and Murphy, Journal of
Political Economy, Vol. 98, No. 2 (Apr., 1990), pp. 225-264.
    \300\ Increased expected total compensation could come in the
form of an increase in base salary, incentive-based compensation, or
other compensation. While increasing the incentive-based component
of an executive's compensation package increases the variability of
the executive's compensation beyond the additional variability due
to the recovery policy, the issuer may find this to be the least
costly way to compensate the executive. For example, an issuer may
choose to increase the incentive-based compensation component,
instead of increasing base salary, because the executive's current
base salary is near the limit for tax deductibility under 162(m) of
the Internal Revenue Code and an increase in base salary may
therefore not be tax deductible.
    \301\  See DeHaan, Hodge, and Shevlin Does Voluntary Adoption of
a Clawback Provision Improve Financial Reporting Quality?
Contemporary Accounting Research 30 (2013) 1027-1062; Babenko,
Bennett, Bizjak, and Coles Clawback Provisions Working Paper (2012).
---------------------------------------------------------------------------

    Notably, under a recovery policy that implements the proposed rule
requirements, incentive-based compensation tied to stock price metrics
such as TSR is included within the scope of compensation that may be
subject to recovery. The stock price of an issuer incorporates investor
expectations of cash flows and future earnings of that issuer and can
be materially impacted by inaccurate reporting of financial
information. In particular, inaccurate financial information could lead
investors to incorrectly estimate future cash flows and potential
earnings of the issuer with concurrent effects on the valuation of its
stock. If the receipt of incentive-based compensation by executives is
tied to stock price, then executives could receive erroneously awarded
compensation and a subsequent accounting restatement due to material
noncompliance with a financial reporting requirement could trigger
recovery of such compensation tied to stock price.
    While the economic effects associated with the inclusion of stock
price and TSR within the scope of financial reporting measures would be
the same as for the proposed rule and rule amendments in general, we
discuss below the more specific effects stemming from this inclusion.
Specifically, in the case of stock price and TSR, where the amount of
erroneously awarded compensation is not subject to mathematical
recalculation directly from the information in an accounting
restatement, the cost of recovering incentive-based compensation may be
higher. The significance of these costs would depend on the size and
financial condition of the issuer, as well as the board's approach to
determining the amount, if any, of excess incentive-based compensation
to be recovered following a material accounting error. Since the
proposed rule would require that this amount be based on a reasonable
estimate of the effect of the accounting restatement on the financial
reporting measure, a reasonable estimate of the ``but for'' price of
the stock (i.e., the stock price that would have been if financial
statements originally had been presented as later restated) must be
first determined.\302\
---------------------------------------------------------------------------

    \302\ See Section II.C.3.a for a discussion of the determination
of the recoverable amount.
---------------------------------------------------------------------------

    To reasonably estimate the ``but for'' price of the stock, there
are a number of possible methods with different levels of complexity of
the estimations and related costs.\303\ One such method, which is often
used in accounting fraud cases to determine the effects of corrective
disclosure on the market price of an issuer's stock, is an ``event
study.'' An event study captures the market's view of the valuation
impact of an event or disclosure. In the case of a restatement, the
event study estimates the drop in the stock price attributed to the
announcement \304\ that restated financial information is required,
separate from any change in the stock price due to market factors. An
event study therefore measures the net-of-market drop in the stock
price,\305\ which is a key input to establish the ``but for'' price at
which the security is presumed to have traded in the absence of the
inaccurate financial statements. In the context of an event study, to
determine the net-of-market drop in the stock price, certain decisions
have to be made, such as determining the appropriate proxy for the
market return and statistical adjustment method (i.e., a model to
account for the potential difference in risk between the company and
market); the model estimation period; the date and time that investors
learned about the restatement; and the length of time it took for
investors to incorporate the information from the restatement into the
issuer's stock price. If designed appropriately, the implementation of
a robust event study method would include an evaluation of the various
design choices that are anchored on objective and commonly accepted
practices by the industry and relevant literature.\306\ The effects of
these design choices may vary from case to case. Some of the potential
choices may have no effect on the results while other choices may
significantly drive the results and could generate considerable
latitude in calculating a reasonable estimate of the excess amount of
incentive-based compensation that was erroneously awarded.
---------------------------------------------------------------------------

    \303\ The complexity of a particular methodology involves a
trade-off between the potential for more precise estimates of the
``but for'' price and the assumptions and expert judgments required
to implement such methodology.
    \304\ Event studies can have multiple event dates. For example
an event study can measure the stock price impact attributed to the
announcement that amended filings are required, as well as the stock
price impact attributed to when the actual amended filings are made
available for the investors to examine.
    \305\ Over the 2005-2012 period, the average stock price
reaction to restatements disclosed under Item 4.02 of Form 8-K was
negative 2.3 percent. See Scholz, S. 2013. ``Financial Restatement:
Trends in the United States: 2003-2012.'' Center for Audit Quality.
This study documents a substantial drop in the number and severity
of restatements in the years following the enactment of SOX. The
study includes 4,246 restatements reported by U.S. and foreign
filers registered with the Commission from 2005 to 2012 on Form 8-K
under Item 4.02. The number of restatement announcements peaked in
2006 (940), soon after implementation of SOX Section 404 internal
control reporting. In subsequent years, the number of Item 4.02
restatements declined significantly, with 255 reported in 2012, a
reduction of approximately 73 percent from the 2006 peak year.
Restatement periods are shorter in later years, declining from an
average 29 months in 2006 to 18 months in 2012.
    \306\ The complexity of an event study depends on the
circumstances of the event and the particular approach taken. For
example, one event study could use a broad market index in
estimating a market model, while another event study could use a
more tailored index that may take into account industry specific
price movements but would require judgments on the composition of
the issuers in the more tailored index. For further discussion on
the complexities of event studies see Mitchell, M. and J. Netter,
``The Role of Financial Economics in Securities Fraud Cases:
Applications at the Securities and Exchange Commission,'' The
Business Lawyer, vol 49, Feb 1994, p. 565; Kothari, S.P, and J.
Warner, ``Econometrics of Event Studies,'' Handbook of Corporate
Finance: Empirical Corporate Finance (Elsevier/North-Holland), 2004;
and Campbell, John Y., A. Lo, and A. C. MacKinlay, The Econometrics
of Event Studies, NJ: Princeton University Press, 1997.
---------------------------------------------------------------------------

    Under any reasonable methodology, calculating the ``but for'' price
can be complicated when stock prices are simultaneously affected by
information other than the announcement of a restatement on the event
date. Confounding information potentially affecting an issuer's stock
price on the event date could include other plans released by the
issuer related to potential corporate actions (e.g., mergers,
acquisitions, or capital raising), announcements of non-restatement
related performance indicators, and news related to macro-economic
events (e.g., news about the industry the issuer operates in, changes
to the state of the

economy, and information about expected inflation). Because an issuer
has influence over the timing of the release of issuer-specific
information, the issuer has the ability to complicate the estimation of
a reasonable ``but for'' price. For example, if an accounting
restatement is expected to have a negative effect on an issuer's stock
price, the executive has an incentive and often the ability to
contemporaneously release positive information in an attempt to
mitigate any reduction in the issuer's stock price. The strategic
release of confounding information may make it more difficult for
investors to evaluate the effect of the restatement on the performance
of the issuer.
    The proposed rule and rule amendments do not require an event study
to calculate a reasonable estimate of the excess incentive-based
compensation tied to stock price to be recovered after a material
accounting error. Instead, the proposed rule and rule amendments would
permit an issuer to use any reasonable estimate of the effect of the
restatement on stock price and TSR. In addition, the proposed rule and
rule amendments allow the board of directors to forego recovery if the
aggregate direct costs of seeking recovery from a current or former
executive officer would exceed the amount of excess incentive-based
compensation to be recovered. We note that an issuer would need to
incur the direct costs associated with implementing a methodology to
reasonably estimate the ``but for'' price prior to determining whether
any amount of incentive-compensation is required to be recovered under
the proposed rule and rule amendments. In choosing a methodology to
derive a reasonable estimate of the effect of the accounting
restatement on stock price and/or TSR, issuers would likely weigh the
costs of implementing any methodology against the complexity of the
``but for'' price estimate and the potential need to justify that
estimate, under their unique facts and circumstances.
    Some issuers may decide to use a methodology that is testable,
supported by published literature, or follows procedures that derive
from objective standards because such a methodology may reduce the
likelihood that the reasonableness of the amount of excess incentive-
based compensation required to be recovered would be challenged by
interested parties, including the executives subject to recovery and
the exchanges that are required to ensure that the proposed rule and
rule amendments are enforced as a listing standard. The implementation
of such methodology may be complex because it would likely include
extensive checks of the assumptions and design choices made to generate
the estimate of the ``but for'' price. If these issuers have a
reasonable basis to believe that some amount of incentive-based
compensation is required to be recovered, they may decide to retain an
expert for the implementation of such methodology and determination of
the ``but for'' price.
    If an issuer chooses to retain an expert, the monetary costs that
would be incurred to estimate the ``but for'' price and subsequent
calculation of the amount of excess incentive-based compensation
required to be recovered could be substantial. In these circumstances,
we expect that the determination of the ``but for'' price would require
a significant number of hours of work by highly skilled experts. In
addition, once a ``but for'' price is estimated, the determination of
the amount of excess incentive-based compensation could involve complex
calculations and assumptions that may require additional hours of work
by the expert.\307\ To establish a proxy for billing rates of experts
who have specialized knowledge in financial economics, we examined
expert witness fees by areas of expertise. For example, based on survey
responses from 21 financial experts, SEAK, Inc. 2014 Survey of Expert
Witness Fees reports that the hourly fee for case review/preparation
ranges from $175 to $800 with an average fee of $337 per hour.\308\
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    \307\ For example, if an executive receives at-the-money options
as a form of incentive-based compensation, where the number of
options is based on the current stock price, the issuer may
determine that a reasonable estimate of the amount to be recovered
involves recalculating both the number of options awarded as well as
the value of those options that would have been issued at a
different strike price.
    \308\ See SEAK, Inc. 2014 Survey of Expert Witness Fees,
available at: http://store.seak.com/2014-survey-of-expert-witness-fees/.
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    Other issuers may decide to use a methodology that results in less
complex implementations to estimate the ``but for'' price \309\
because, for example, by using simpler implementations, issuers may
already be in a position to determine with reasonable confidence that,
after taking into account a reasonable range of variation in the ``but
for'' price, no amount of incentive-based compensation tied to stock
price and/or TSR was erroneously awarded to executive officers in the
first place and consequently no recovery is required. If an issuer
chooses to implement a less complex methodology, the determination of
the ``but for'' price and subsequent calculation of the amount of
excess incentive-based compensation required to be recovered would
entail a significantly lower number of hours of work that can be likely
performed internally without retaining an expert.
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    \309\ For example, issuers may use historical estimates of beta
that are publicly available on several sources to substitute for a
more complex estimation of the market model. The beta estimate of a
stock captures the correlation of that stock's return with the
return of the overall market over a certain period of time.
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    Under any methodology, the variation in assumptions used to
determine a reasonable estimate of the ``but for'' price (e.g.,
determining a proxy for market returns; the date and time that
investors learned about the restatement; and the length of time it took
for investors to incorporate the information from the restatement into
the issuer's stock price) and of the amount of excess incentive-based
compensation may increase the level of perceived uncertainty that risk
averse executives attach to the incentive-based component of their pay.
This uncertainty may in turn make it more costly and difficult for
issuers to retain executive officers' talent, when competing for that
talent against unlisted companies. We note that there may be other
factors affecting the ability of an issuer to attract and retain
executive talent. Further, the incremental effect of the proposed rule
and rule amendments is mitigated to the extent that the labor markets
for executives at listed issuers and at unlisted issuers do not
overlap.
    The significant complications of establishing a reasonable estimate
of the ``but for'' price, in conjunction with the likely monetary costs
incurred to calculate it, make it difficult to assess the relative
costs and benefits accruing to an issuer from enforcing a recovery
policy that covers compensation based on stock price and/or TSR. These
uncertainties also could undermine issuers' incentives to enforce their
recovery policies and make it more difficult for exchanges to monitor
compliance.\310\ This effect may be partially or entirely mitigated by
the requirement for issuers to provide documentation to the relevant
exchange of any reasonable estimates used or attempts to recover
compensation, which will assist exchanges in monitoring compliance and
incentivize

issuers to carefully document the considerations that went into the
determination to enforce (or not enforce) their recovery policy. On
balance, we think other aspects of the proposed rule and rule
amendments, such as the ability to use reasonable estimates and the
board's discretion not to pursue recovery when the direct enforcement
costs would exceed the amount to be recovered, may serve to mitigate
these costs; however, below we request comment on this aspect of the
proposed rule and rule amendments to help us better understand its
economic effects.
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    \310\ Due to the discretion that an issuer may have in choosing
both the method and the assumptions underlying the method to
estimate a ``but for'' price, it may be difficult for an exchange to
determine if the ``but for'' price resulted in a reasonable estimate
of the excess incentive-based compensation required to be recovered.
This may make it more difficult for exchanges to monitor compliance.
---------------------------------------------------------------------------

    Notably, incentive-based compensation as defined in the proposed
rule and rule amendments would not include base salary; compensation
tied to operational metrics that are not financial reporting measures;
or compensation awarded solely at the issuer's discretion. These forms
of compensation would not be subject to recovery under a policy that
meets the proposed rule requirements. These exclusions may create the
incentive to shift compensation from forms that are subject to recovery
to forms that are not subject to such recovery. This would apply to
both re-negotiated compensation packages as well as newly instituted
ones. The incentive to shift compensation away from forms that are
subject to a recovery policy may affect the level of incentive
alignment between executive interests and shareholder interests in
terms of the enhancement of firm value, which depends on how well
performance metrics used as triggers in compensation contracts capture
the relationship between an executive's effort to enhance firm value
and the actual enhancement of firm value.
    The incentive to substitute away from incentive-based compensation
tied to financial reporting measures may result in base salary or
performance-based compensation tied to operational metrics being a
larger portion of the executive officer's compensation package. This
could reduce pay-for-performance sensitivity and may reduce the
correlation between the executive officer's effort to enhance value and
executive compensation if these alternative metrics are poor
substitutes for financial reporting measures. In addition, as a result
of the proposed rule and rule amendments, an issuer's board of
directors may use increased discretion in setting compensation awards,
since compensation that is solely awarded at the discretion of the
board, such as bonuses, would not be subject to recovery under the
proposed rule and rule amendments. Issuers may adjust compensation
policies to be more dependent on the discretion of the board, which may
make it more difficult for investors to understand the incentives of
executives and may result in lower pay-for-performance
sensitivity.\311\
---------------------------------------------------------------------------

    \311\ If the issuer transitions to compensation that is not
payable on account of the attainment of one or more performance
goals, such as compensation payable solely at the discretion of the
board of directors, the issuer may lose the ability to deduct a
portion of executive compensation under Section 162(m) of the
Internal Revenue Code. This may mitigate the incentive for companies
to transition compensation away from performance-based metrics.
---------------------------------------------------------------------------

    The implementation of a mandatory recovery policy may also make it
less costly overall to use incentive-based compensation. Without a
recovery policy, as noted above, a compensation package with
significant incentive-based compensation components based on financial
reporting measures may provide incentives for an executive to engage in
conduct that could result in inaccurate financial reporting. If a
recovery policy encourages business practices and accounting judgments
that are less likely to result in a material accounting error, the
benefits to the issuer of having higher quality financial reporting
could more than offset the additional compensation executives require
to bear the increased uncertainty about the compensation they expect to
ultimately retain.\312\
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    \312\ A voluntarily implemented recovery policy may not reduce
the expected cost of issuing incentive-based compensation because of
insufficient incentive for board members to enforce the recovery
after a material restatement. The proposed rule, which conditions
initial and continued listing of securities on compliance with the
recovery policy, substantially increases the incentives of board
members to enforce the policy.
---------------------------------------------------------------------------

    The proposed rule and rule amendments may have effects on the
competition among issuers for executive officers. By increasing
uncertainty and reducing the perceived value of the expected incentive-
based compensation of an executive, companies where the proposed rule
and rule amendments apply (i.e., listed issuers) may have more
difficulty attracting talented executives and, as such, may be at a
comparative disadvantage to companies that are not covered (i.e.,
unlisted issuers and private companies). It is unclear to what extent
the labor market for executives at listed issuers and the labor market
for executives at unlisted issuers and private companies overlap. The
more these labor markets are segmented, the lower the comparative
disadvantage potentially imposed by the proposed rule requirements.
3. Additional Potential Effects on Listed Issuers
    We anticipate several effects of the proposed rule and rule
amendments on listed issuers. Although we believe some issuers have
already implemented recovery policies broadly consistent with the
proposed rule requirements, the most immediate outcome of the proposed
rule and rule amendments would be the establishment of listing
standards that would result in issuers implementing recovery policies
consistent with Section 10D. Under such recovery policies, an immediate
benefit for a listed issuer would be the recovery of incentive-based
compensation that was erroneously paid to executive officers, which
would then be available for the issuer to invest in productive assets
that may generate value for shareholders. Although recovery of
erroneously paid compensation would provide an immediate benefit for
issuers and shareholders, we note that, in many cases, these funds are
not likely to be significant in the context of the issuer's business
operations, and thus this effect may not be as consequential as the
other, more indirect effects that we discussed above on financial
reporting quality and executive compensation packages.\313\
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    \313\ Based on an analysis of executive compensation using
Standard & Poor's Compustat and Executive Compensation databases, in
fiscal year 2013 non-salary compensation for all named executive
officers combined was 0.4 percent of net income. This represents an
upper bound for the amount of incentive-based compensation for named
executive officers. This number does not include current and former
executive officers that would be covered by the proposed rule but
are not named executive officers.
---------------------------------------------------------------------------

    We also anticipate direct benefits to flow from the disclosure of
the recovery policy that are separate from any pecuniary recovery
following an accounting restatement. Currently, an issuer could have a
compensation recovery policy but choose not to disclose the existence
or the terms of that policy. Under the proposed rule and rule
amendments, the issuer's recovery policy would be required to be filed
as an exhibit to the issuer's annual report on Form 10-K, 20-F or 40-F
or, for registered management investment companies, on Form N-CSR. The
proposed rule and rule amendments also require the disclosure be
provided in interactive data format using XBRL. This may facilitate the
extraction and analysis of the information contained in the disclosure
across a large number of issuers or, eventually, over several years.
This requirement would impose additional costs and burdens on issuers,

but despite these costs, some shareholders and prospective investors
may benefit from the data tagging requirement to the extent that it is
helpful in extracting the tagged information across large number of
filings.
    With this information investors would have a better understanding
of the incentives of the issuer's executive officers, owing to more
complete disclosure of the issuer's compensation policies, including
its recovery policy. Moreover, while all listed issuers would be
required to adopt and comply with a recovery policy satisfying the
requirements of the proposed rule and rule amendments, issuers would
have the choice to implement recovery policies that are more extensive
than these requirements. For example, issuers may choose to establish
more stringent recovery policies (e.g., a longer look-pack period, more
forms of compensation subject to recovery, or more individuals covered)
to provide a positive signal to the market regarding their approach to
executive compensation. If variation in the scope of issuers' recovery
policies emerges across issuers, disclosure of those policies may
improve allocative efficiency by allowing investors to make more
informed investment decisions based on a better understanding of the
incentives of the executives. The requirement to publish recovery
policies may make such variation more likely to emerge.\314\
---------------------------------------------------------------------------

    \314\ In the absence of a mandatory requirement for issuers to
implement and disclose a recovery policy, investors may be uncertain
about whether the implementation of a voluntary recovery policy by
an issuer is a credible signal of the issuer's approach to executive
compensation. By increasing the likelihood of a recovery policy
being enforced, the proposed rules and rule amendments may make the
signal more credible and allow issuers to differentiate themselves
based on variation in the scope of a recovery policy.
---------------------------------------------------------------------------

    Further, if at any time during the last completed fiscal year a
listed issuer's recovery policy required that issuer to recover excess
incentive-based compensation, the proposed rule and rule amendments
would require the issuer to disclose details of the recovery efforts
under proposed Item 402(w) of Regulation S-K. These disclosures would
allow existing and prospective shareholders to observe whether issuers
are enforcing their recovery policies consistent with Section 10D. This
would also help exchanges monitor compliance. Similarly, the
requirement to disclose instances in which the board does not pursue
recovery and its reasons for doing so (i.e., because the expense of
enforcing recovery rights would exceed the recoverable amount or
because the recovery would violate a home country's laws), would permit
shareholders to be aware of the board's actions in this regard and thus
potentially hold board members accountable for their decisions.
    There are a number of direct costs for issuers resulting from the
proposed rule and rule amendments. As part of the implementation of a
recovery policy that meets the proposed rule requirements, issuers
would likely incur legal and consulting fees to develop policies that
comply with the proposed requirements and to modify the compensation
packages of executive officers to conform to those policies. Moreover,
even those issuers that already have recovery policies would likely
incur some costs to revise those policies to comply with the proposed
rule requirements. We note, however, that those issuers that currently
have recovery policies similar to the proposed rule requirements likely
would not incur significant additional costs. While we do not have the
data to quantify the implementation costs, we expect that these costs
will vary with the complexity of the compensation practices of the
issuer as well as the number of executive officers the recovery policy
will apply to. In addition to these implementation costs, issuers also
would incur direct costs to provide the required disclosures about
their compensation recovery policies, including costs to tag the
required disclosure in XBRL format, as described above. For purposes of
our Paperwork Reduction Act (PRA) Analysis, we estimate that the
proposed disclosure requirement would impose a minimal internal burden
of approximately one hour. If an issuer is required to recover
erroneously awarded compensation, the issuer would incur a direct cost
to prepare and disclose the information required by proposed Item
402(w) (and for registered management investment companies, new Item 12
to Form N-CSR and Item 22(b)(20) of Schedule 14A) and the corresponding
narrative. For purposes of our PRA, we estimate that proposed
disclosure requirement would impose a burden of approximately 21
hours.\315\
---------------------------------------------------------------------------

    \315\ See Section IV.C, below, for a more extensive discussion
of these disclosure burdens, including the monetization and
aggregation across issuers of these direct costs.
---------------------------------------------------------------------------

    There would also be costs attendant upon any recovery actions taken
under the new mandated recovery policy. The proposed rule and rule
amendments would require a recovery policy to recover excess
compensation that was paid based on the achievement of a financial
reporting measure that was later restated. The issuer would likely face
costs to calculate the amount to be recovered. This could be done
internally or the issuer could choose to retain an accountant or other
expert to calculate this amount. The costs of calculating the amount to
be recovered likely will vary depending on the nature of the
restatement, the type of compensation involved and the periods
affected. Given this variation, it is difficult to derive a precise
estimate of these costs; however, we believe that if outside
professionals are retained to assist with the calculations, they will
likely charge between $200 and $400 per hour for their services.\316\
Whatever the precise costs, we note they are likely to be significantly
less than the costs associated with performing the restatement itself.
---------------------------------------------------------------------------

    \316\ Staff estimate is based on wage information compiled by
the U.S. Bureau of Labor Statistics, Occupational Employment
Statistics for the Financial Analyst occupation. As of May 2014, the
median hourly wage for a financial analyst was $37.80 and the 90th
percentile hourly wage was $74.36. The hourly wage is multiplied by
a factor of 5.35 to account for bonuses, employee benefits, and
overhead.
---------------------------------------------------------------------------

    Depending on the circumstances, there may be other costs associated
with enforcing the mandatory recovery policy. For example, the issuer
may incur costs to trace specific shares to determine if the executive
sold shares that were awarded based on an erroneous financial reporting
measure. If the current or former executive officer is unwilling to
return excess incentive-based compensation, the issuer may incur legal
expenses to pursue recovery through litigation or arbitration. If the
aggregate direct costs incurred to seek recovery from an executive or
former executive officer would exceed the erroneously paid incentive-
based compensation, the proposed rule and rule amendments would allow
discretion on the part of the board of directors in determining whether
to pursue recovery. This discretion may mitigate the direct costs of
enforcement to issuers. Finally, if an issuer does not take action when
required under its recovery policy, then the issuer may also incur
costs associated with the listing exchange's proceedings to delist its
securities.
    These effects of the proposed rule and rule amendments may vary
across different types of listed issuers. In particular, the effects of
implementing a recovery policy could be greater (or lower) on SRCs,
relative to non-SRCs, to the extent that SRCs use a higher (or lower)
proportion of incentive-based compensation than other issuers.

Analysis by Commission staff finds evidence that SRCs, on average, use
a lower proportion of performance-based compensation than non-SRCs,
suggesting a lower potential impact of the proposed rule and rule
amendments on SRCs.\317\ However, there is also evidence that companies
that are typically required to restate financial disclosures are
generally smaller than those that are not required to restate financial
disclosures, suggesting that there could be a greater incidence of
recoveries at SRCs.\318\ One academic study suggests that the
likelihood of reporting a material weakness in internal controls over
financial reporting decreases as the size of the issuer increases.\319\
This may imply that, relative to non-SRCs, the proposed rule and rule
amendments may cause executives at SRCs to devote proportionately more
resources to the production of high-quality financial reporting.
Finally, to the extent that implementation of the proposed rule and
rule amendments entails fixed costs, SRCs, because of their smaller
size, would incur a greater proportional compliance burden than larger
issuers.
---------------------------------------------------------------------------

    \317\ Commission staff analyzed the composition of total
compensation paid to all named executive officers whose compensation
was reported in the Summary Compensation Table for 50 randomly
selected SRCs and 50 randomly selected non-SRCs in fiscal year 2013.
Staff found that, on average, SRCs pay 60 percent of total
compensation in base salary versus 36 percent for non-SRCs; SRCs pay
13 percent of total compensation in stock awards versus 27 percent
for non-SRCs; and SRCs pay 5 percent of total compensation in non-
equity incentive plan compensation versus 16 percent for non-SRCs.
Since the Summary Compensation Table does not provide sufficient
information to determine if stock awards or non-equity incentive
plan compensation would constitute ``incentive-based compensation''
as defined in the proposed rule, these differences should be taken
as maximum estimated differences of incentive-based compensation for
named executives. Staff did not find significant differences between
SRCs and non-SRCs in the percent of compensation paid as a bonus, in
option awards, in nonqualified deferred compensation, or in other
compensation. We also note that the proposed rule covers a broader
set of employees than the named executives required to report within
the Summary Compensation Table.
    \318\ See Scholz, S. 2013. ``Financial Restatement: Trends in
the United States: 2003-2012.'' Center for Audit Quality.
    \319\ See Doyle, Ge, and McVay Determinants of weaknesses in
internal control over financial reporting Journal of Accounting and
Economics 44 (2007) 193-223.
---------------------------------------------------------------------------

    The proposed rule and rule amendments also may affect EGCs
differently than non-EGCs. Relative to non-EGCs, EGCs can be
characterized as having higher expected growth in the future and
potentially higher risk investment opportunities.\320\ As such,
relative to non-EGCs, the market valuations of EGCs may be driven more
by future prospects than by the value of current assets. As discussed
previously, a recovery policy could reduce the incentive of an
executive officer to invest in certain value-enhancing projects that
may increase the likelihood of a material accounting error. The reduced
incentive of executive officers could have a greater adverse effect for
EGCs, relative to non-EGCs, to the extent that executives at EGCs are
more likely to forgo value-enhancing growth opportunities as a result
of the proposed rule and rule amendments, which as discussed above, may
have a larger impact on the market value of equity of EGCs, relative to
non-EGCs. However, EGCs also tend to be smaller than non-EGCs,\321\
which may imply that EGCs have a higher likelihood of an accounting
restatement and a higher likelihood of reporting a material weakness in
internal controls over financial reporting. Similar to SRCs, this may
imply that, relative to non-EGCs, the proposed rule and rule amendments
may cause executives at EGCs to devote proportionately more resources
to the production of high-quality financial reporting.
---------------------------------------------------------------------------

    \320\ In an analysis of 270 EGCs with fiscal year 2013 data
available in the Standard & Poor's Compustat and the CRSP monthly
stock returns databases, Commission staff found that on average EGCs
have higher research and development expenses as a percent of total
assets. Further, on average EGCs have a lower book-to-market ratio,
which is indicative of shareholders expecting higher than average
growth in the future. For this analysis staff set book-to-market to
the 0.025 and 0.975 percentile for values outside of that range;
staff set research and development to the 0.975 percentile for
values about that level; and staff restricted the analysis to
companies that issued common equity and were listed on NYSE, NYSE
MKT, or NASDAQ.
    \321\ Using the same dataset referenced in note 322 above, staff
found that the average market capitalization of EGCs is
approximately $1.08 billion while the average market capitalization
of non-EGCs is approximately $6.09 billion. Staff also found that
the smallest EGCs tend to be similar in market capitalization to the
smallest non-EGCs, with the 10th percentile of the distributions of
the market capitalization of EGCs and non-EGCs being approximately
$48 million and $45 million, respectively. Conversely, staff found
that the largest EGCs tend to have substantially lower market
capitalizations than the largest non-EGCs, with the 90th percentile
of the distributions of the market capitalization of EGCs and non-
EGCs being approximately $2.49 billion and $11.59 billion.
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4. Potential Effects on U.S. Exchanges
    Proposed Rule 10D-1 would affect U.S. exchanges by requiring them
to adopt listing standards that prohibit the initial or continued
listing of an issuer that does not comply with the proposed rule and
rule amendments. The requirement places a direct burden on exchanges to
amend applicable listing standards. This burden could involve deploying
legal and regulatory personnel to develop listing standards that comply
with the proposed rule requirements. Moreover, the exchanges are likely
to incur some costs associated with tracking the compliance of each
issuer. We anticipate these costs to be minimal as exchanges likely
already have robust compliance tracking systems and personnel that are
dedicated to ensuring listing standards are met. Finally, if an issuer
chooses not to implement a recovery policy or does not take action when
required under its recovery policy, the exchanges would incur costs to
enforce the listing standards required by the proposed rule and rule
amendments. This would also result in a loss of the revenue associated
with the delisted issuer.
    In the event that issuers alter their decisions regarding where to
list due to the proposed rule and rule amendments, revenue of U.S.
exchanges may be affected. For example, there could be revenue effects
for U.S. exchanges if issuers choose to list their securities on a
foreign exchange without such a compensation recovery policy
requirement. More generally, if the mandated listing requirements are
perceived to be particularly burdensome for listed issuers, this could
adversely impact the competitive position of U.S. exchanges vis-
[agrave]-vis those foreign exchanges that do not enforce similar
listing standards. However, given the costs associated with
transferring a listing and the broad applicability of the proposed rule
to securities listed on U.S. exchanges, we do not believe it is likely
that the proposed rule requirements would compel a typical issuer in
the short-term to find a new trading venue not subject to these
requirements. The proposed rule and rule amendments may result in a
loss of potential revenue to exchanges to the extent that issuers, who
would have decided to list on an exchange in the absence of the
proposed rule requirements, choose to forgo listing or delay listing
until the issuers' circumstances change.\322\ The magnitude of this
effect on exchanges is not quantifiable given the absence of data. It
could be significant because the loss in potential revenue from the
total number of issuers that have chosen to forgo or delay listing
aggregates over

time, thus having lasting impact on the exchanges' revenue.
---------------------------------------------------------------------------

    \322\ We note that capital formation could be hindered if an
issuer chooses to forgo or delay listing because of the proposed
rule and rule amendments and the alternative methods of raising
capital result in less liquid securities being issued or less
thorough disclosures being required. We also note that other factors
may affect the decision for an issuer to list and any effect from
the proposed rule and rule amendments would be incremental to these
other factors.
---------------------------------------------------------------------------

    While we believe the typical issuer is unlikely to transfer listing
in the short-term as a result of the proposed rule and rule amendments,
the potential response of foreign issuers is less clear. On one hand,
by virtue of listing on a U.S. exchange, a foreign issuer has
demonstrated willingness to list outside of the issuer's home country.
The issuer presumably chose to list on a U.S. exchange because the
particular U.S. exchange is an advantageous trading venue for the
issuer's securities. Although the direct costs are not expected to be
substantial, the proposed rule and rule amendments would increase the
compliance burden on listed issuers and could thereby potentially
reduce the advantage of listing on a U.S. market. As a result, foreign
issuers could choose to delist from U.S. exchanges. Further, foreign
issuers that are not currently listed on U.S. exchanges, but are
considering listing on a non-home country exchange, may choose to list
on a foreign exchange because of the increased burden of our proposed
rule and rule amendments. At the same time, we understand that many
foreign issuers list on a U.S. exchange to signal their high quality,
which is achieved by subjecting themselves to more rigorous corporate
governance rules and regulations. As a result, many foreign issuers may
gain the ability to raise capital at a reduced cost compared to their
home market by listing on U.S. exchanges. Hence, some foreign issuers
seeking access to U.S. capital markets may view the requirements as
beneficial. Therefore, the revenue effect on U.S. exchanges resulting
from the behavior of foreign issuers is unclear, because while some
foreign issuers may choose to delist as a result of the proposed rule
and rule amendments, others may choose to list because of them.
    Finally, the proposed rule and rule amendments apply to all issuers
who list securities on a national securities exchange. As such there
are unlikely to be competitive effects between national securities
exchanges due to all national securities exchanges being affected by
the proposed rule requirements.
5. Indemnification and Insurance
    The benefits discussed above would result from an executive's
changes in behavior as a result of incentive-based compensation being
at risk for recovery should a material accounting error occur. These
benefits would be substantially undermined if the issuer were able to
indemnify the executive for the loss of compensation. Moreover,
shareholders would bear the cost of providing such indemnification.
Therefore, the proposed rule and rule amendments expressly prohibit
listed issuers from indemnifying executives against the loss of
erroneously awarded compensation or paying or reimbursing executives
for insurance premiums to cover losses incurred under the recovery
policy.
    Although reimbursement of insurance premiums by issuers would be
prohibited, the insurance market may develop a policy that would allow
an executive, as an individual, to purchase insurance against the loss
of incentive-based compensation when the material accounting error is
not attributable to the executive. In that event, an executive would be
able to hedge the risk that results from a recovery policy. If an
executive purchased this type of insurance policy, the benefits of the
issuer's recovery policy could be reduced to the extent that insurance
reduces the executive's incentive to ensure accurate financial
reporting. However, to the extent an insurance policy does not cover
losses resulting from the recovery of compensation attributed to a
material accounting error that resulted from inappropriate actions by
the insured executive, then incentives would remain for the executive
to ensure accurate financial reporting.
    The development of this type of private insurance policy for
executives would also have implications for issuers. Overall, it could
make it less costly for an issuer to compensate an executive after
implementing a recovery policy. Without insurance, an issuer that
implemented a recovery policy would likely have to adjust compensation
to account for the loss in expected incentive-based compensation in
addition to the increased uncertainty in incentive-based compensation.
If an active insurance market develops such that the executive could
hedge against the uncertainty caused by the recovery policy, then
market-determined compensation packages would likely increase to cover
the cost of such policy. While the proposed rule and rule amendments
explicitly prohibit issuers from reimbursing an executive for the cost
of such insurance policy, a market-determined compensation package
would likely account for the hedging cost and incorporate it into the
base salary of the executive's compensation. This increase would likely
be less than the increase in the market-determined compensation
packages if an insurance policy was unavailable because a risk averse
executive would no longer need to bear recovery policy induced
uncertainty.

C. Alternatives

    Below we discuss possible alternatives to the proposed rule and
rule amendments we considered and their likely economic effects.
1. Exemptions for Certain Categories of Issuers
    We considered exempting (or permitting the exchanges to exempt)
SRCs and EGCs from proposed Rule 10D-1. As discussed above, the
proposed rule and rule amendments may impose certain disproportionate
costs on SRCs and EGCs. However, SRCs and EGCs may have an increased
likelihood of reporting a material accounting error and may be more
likely to report a material weakness in internal controls over
financial reporting, due to their smaller size relative to non-SRCs and
non-EGCs. As such, we believe the benefits of the proposed rule and
rule amendments may be particularly salient for these categories of
issuers. For these reasons, SRCs or EGCs would not be exempt from the
proposed rule and rule amendments.
    One commenter suggested that we consider exempting FPIs, arguing
that home countries would generally have a greater interest in
determining whether issuers should have recourse against
executives.\323\ As discussed previously in the context of foreign
issuers generally, the potential effect of the proposed rule and rule
amendments on FPIs is difficult to predict. On the one hand, due to the
potential differences in home country law, the proposed rule
requirements may be especially burdensome for FPIs relative to non-
FPIs.\324\ On the other hand, there is evidence that many FPIs may be
listing on U.S. exchanges in part in order to credibly signal to
investors their willingness and ability to be subjected to stricter
governance standards.\325\ While FPIs may face a relatively higher
burden from the proposed rule and rule amendments, they also may
experience a relatively higher benefit.
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    \323\ See letter from the American Bar Association.
    \324\ We note that if recovery of excess incentive-based
compensation would violate home country law, the proposed rule and
rule amendments permit the board of directors discretion to forgo
recovery as impracticable, subject to certain conditions.
    \325\ See Doidge, Karolyi, and Stulz Why Do Foreign Firms Leave
U.S. Equity Markets? The Journal of Finance, Vol. LXV, No. 4, August
2010.
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2. Excluding Incentive-Based Compensation Tied to Stock Price
    As discussed above, the proposed rule and rule amendments may
result in

issuers incurring significant costs to recover incentive-based
compensation tied to stock price. If incentive-based compensation tied
to stock price were excluded from the proposed rule and rule
amendments, issuers would not incur the costs associated with recovery.
However, a significant component of the total performance-based
compensation would be excluded from the scope of the proposed rule and
rule amendments without generating the related potential benefits. In
addition, the exclusion of performance-based compensation tied to stock
price would provide issuers with an incentive to shift compensation
away from forms subject to recovery to forms tied to market-based
metrics such as stock price and TSR that would not be subject to
recovery.
    The economic effect of any incentive to shift away from
compensation subject to recovery is difficult to predict due to the
nature of incentive-based compensation tied to stock price. On one
hand, incentive-based compensation tied to metrics that are market-
based, such as stock price or TSR, could be highly correlated with the
interests of shareholders and therefore may be beneficial to
shareholders. On the other hand, because market-based measures may be
influenced by factors that are unrelated to the performance of the
executive officer, these metrics may not fully capture or represent the
effort and actions taken by the executives. In particular, market-based
measures incorporate expectations about future earnings, which may not
be closely tied to the executive officer's current performance. In
contrast, the use of accounting-based measures, such as those derived
from revenue, earnings, and operating income, can be tailored to match
a specific performance period and provide direct measures of financial
outcomes.\326\ To this end, accounting-based measures of performance--
although not directly tied to issuer value enhancement--may better
capture the effect of an executive's actions during the relevant
performance period. Therefore, if incentive-based compensation tied to
stock price was excluded, the incentive to substitute away from
accounting-based measures to market-based measures of performance may
result in compensation that is less tied to the consequences of an
executive's actions during the performance period.
---------------------------------------------------------------------------

    \326\ Six of the eight most frequently used metrics to award
compensation in short-term incentive plans were accounting-based
measures. Those measures are earnings, revenue, operating income,
EBITDA, cash flow, and return on capital. See Equilar Measuring
Short-Term and Long-Term Performance in 2012.
---------------------------------------------------------------------------

    The optimal compensation package likely contains a mix of
incentive-based compensation tied to market-based measures and
accounting-based measures. Empirically, the use of market-based
performance metrics is more prevalent in long-term incentive plans than
in short-term incentive plans.\327\ Using market-based measures of
performance in short-term incentive plans may be undesirable for the
executive in that the stock price may be volatile and may not reflect
the executive's efforts to enhance firm value in the performance
period. The relatively higher use of market-based measures in long-term
incentive plans could reflect that in the long-term the executive's
efforts to enhance firm value may be more likely to be incorporated in
the market value of the firm. Short-term and long-term performance-
based compensation may act as complements, with the different
performance measures used to award each type reflecting the
compensation committee's effort to align the executive's interests with
those of the shareholders. The exclusion of incentive-based
compensation tied to stock price may affect the relative mix of short-
term and long-term performance-based compensation, or the performance
measures that each type is linked to, and as such a recovery policy may
have large economic effects through a change in the incentives of the
executive.
---------------------------------------------------------------------------

    \327\ See Equilar Measuring Short-Term and Long-Term Performance
in 2012.
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3. Other Alternatives Considered
    One commenter suggested that the Commission specifically authorize
the use of a nonqualified deferred compensation plan (e.g., a
``holdback plan'' or ``bonus bank'') to aid in the recovery of
erroneously awarded incentive-based compensation.\328\ A bonus bank
would likely reduce the enforcement costs of recovering erroneously
awarded incentive-based compensation. On the other hand, a bonus bank
may further augment any increase in compensation necessary to offset
the expected cost to the executive of a recovery policy. This is due to
the executive not having access to the funds she has earned and having
to delay consumption that would otherwise be possible. Further, as the
commenter acknowledged, a bonus bank implicitly makes the executive a
creditor to the issuer, resulting in reduced risk-taking incentives for
the executive. While for some companies reduced risk-taking incentives
may be value increasing, for other companies reduced risk-taking
incentives may be value decreasing. Further, by making the executive a
creditor to the issuer, a bonus bank reduces the incentive alignment
between equity holders and the executive officer.
---------------------------------------------------------------------------

    \328\ See letter from Clark Consulting.
---------------------------------------------------------------------------

    One commenter suggested that the Commission also require issuers to
recover a proportionate amount of the compensation tied to qualitative
variables or board judgment after a material accounting error.\329\
Relative to the proposed rule and rule amendments, this alternative
implementation would reduce the incentive to alter the composition of
an executive's compensation package to more heavily weight qualitative
variables or board judgment, while increasing the incentive to more
heavily weight base salary as well as performance-based compensation
tied to metrics other than financial reporting measures. To the extent
that performance compensation based on qualitative variables and board
judgment allows the board to compensate the executive officer for
performance that is otherwise difficult to measure, the reduced weight
on this form of performance-based compensation could make it more
difficult for the board to align the executive officer's interests with
those of the shareholders. On the other hand, reduced weight on this
form of performance-based compensation could make it easier for
shareholders to understand the incentives of the executive officer.
Because a greater amount of performance-based compensation would be at
risk for recovery, implementing this alternative implementation could
also increase the amount of expected compensation the executive officer
would require in order to voluntarily bear the increased uncertainty.
---------------------------------------------------------------------------

    \329\ See letter from AFL-CIO.
---------------------------------------------------------------------------

D. Request for Comment

    We request data to quantify the costs and benefits described
throughout this release. We seek estimates of these costs and benefits,
as well as any costs and benefits not already identified, that may
result from the adoption of the proposed rule and rule amendments. We
also request qualitative feedback on the nature of the economic
effects, including the benefits and costs, we have identified and any
benefits and costs we may have overlooked.
    To assist in our consideration of the economic effects of the
proposed rule and rule amendments, we request comment on the following:

    1. We request comment on all aspects of the economic effects,
including the costs and benefits of the proposed rule and rule
amendments, and identification and assessment of any effects not
discussed herein. In addition, we seek estimates and views regarding
these costs and benefits for particular types of issuers, including
SRCs, EGCs, FPIs, registered management investment companies, and
issuers that only have listed debt or preferred equity securities, as
well as the costs or benefits for any other types of issuers that may
result from the adoption of these proposed amendments.
    2. What, if any, effects on financial reporting or executive
compensation practices might arise from the requirement for listed
issuers to recover erroneously awarded incentive-based compensation as
proposed?
    3. Would proposed Rule 10D-1 lead to higher quality financial
reporting? If so, explain how this would occur, and how the rule might
be revised to mitigate any adverse unintended consequences?
    4. Would proposed Rule 10D-1 incentivize listed issuers to conclude
that a material error is not material in order to avoid recovery of
incentive-based compensation? Would the proposed rule and rule
amendments incentivize listed issuers to delay investigating or
reporting a material error?
    5. What is the likely effect of the requirement on executive
compensation practices of listed companies, and how would this effect
likely vary according to the issuer's size or line of business?
    6. What is the likely burden that listed issuers would incur to
modify the compensation packages of executive officers?
    7. What would be the burden if issuers were required to recover
only the amount of excess incentive-based compensation tied to
accounting-based performance metrics? Would the burden be different in
the case of recovery of excess incentive-based compensation tied to
market-based performance metrics? What are the benefits of each
approach?
    8. What implementation issues, if any, would issuers encounter in
conducting an event study or otherwise establishing the ``but-for''
price?
    9. What is the cost of establishing a ``but for'' price and
determining the amount of excess incentive-based compensation to be
recovered? What factors affect the determination of reasonable
estimates of the ``but for'' price and of this amount? Would issuers
seek expert help in making such determinations? If so, what would be
the costs to issuers of retaining such experts?
    10. Would it be more difficult for exchanges to monitor compliance
with the proposed rule and rule amendments for compensation tied to
market-based performance metrics? Is the documentation required to
support the analyses of the issuer sufficient for compliance
monitoring? If not, what other documentation should be required?
    11. Would there be any significant transition costs imposed on
listed issuers as a result of the proposals, if adopted? Please be
detailed and provide quantitative data or support, as practicable.
    12. How is this rulemaking likely to affect the market for
executive officers?
    13. What is the likely effect of this rulemaking on the decision to
be a listed issuer in the United States, and how does this effect vary
according to the size or line of business of the issuer?
    14. Are there additional alternatives to the proposals we should
consider that would satisfy the requirements of new Section 10D of the
Exchange Act? If so, please describe.

IV. Paperwork Reduction Act

A. Background

    Certain provisions of the proposed rule and rule amendments contain
a ``collection of information'' within the meaning of the Paperwork
Reduction Act of 1995 (``PRA'').\330\ The Commission is submitting the
proposed rule and rule amendments to the Office of Management and
Budget (``OMB'') for review in accordance with the PRA.\331\ An agency
may not conduct or sponsor, and a person is not required to comply
with, a collection of information unless it displays a currently valid
OMB control number. The titles for the collections of information are:
\332\
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    \330\ 44 U.S.C. 3501 et seq.
    \331\ 44 U.S.C. 3507(d) and 5 CFR 1320.11.
    \332\ The paperwork burden from Regulation S-K is imposed
through the forms that are subject to the requirements in those
regulations and is reflected in the analysis of those forms. To
avoid a Paperwork Reduction Act inventory reflecting duplicative
burdens and for administrative convenience, we assign a one-hour
burden to Regulation S-K.
---------------------------------------------------------------------------

    ``Regulation S-K'' (OMB Control No. 3235-0070);
    ``Regulation 14A and Schedule 14A'' (OMB Control No. 3235-0059);
    ``Regulation 14C and Schedule 14C'' (OMB Control No. 3235-0065);
    ``Form 10-K'' (OMB Control No. 3235-0063);
    ``Form 20-F'' (OMB Control No. 3235-0288);
    ``Form 40-F'' (OMB Control No. 3235-0381);
    ``Rule 20a-1 under the Investment Company Act of 1940,
Solicitations of Proxies, Consents, and Authorizations'' (OMB Control
No. 3235-0158); and
    ``Form N-CSR'' under the Securities Exchange Act of 1934 and under
the Investment Company Act of 1940, Certified Shareholder Report of
Registered Management Investment Companies'' (OMB Control No. 3235-
0570).
    Regulation S-K was adopted under the Securities Act and the
Exchange Act. Regulations 14A and 14C and the related schedules, Form
10-K, Form 20-F and Form 40-F were adopted under the Exchange Act. Rule
20a-1 was adopted under the Investment Company Act, and Form N-CSR was
adopted under the Exchange Act and Investment Company Act. The
regulations, schedules and forms set forth the disclosure requirements
for proxy and information statements and annual reports filed by
issuers to help shareholders make informed voting and investment
decisions. Our proposed rule and rule amendments to existing
regulations, schedules and forms are intended to implement new Section
10D of the Exchange Act.
    The hours and costs associated with preparing and filing the forms
and preparing, filing and sending the schedules constitute reporting
and cost burdens imposed by each collection of information. Compliance
with the amendments is mandatory. Responses to the information
collections will not be kept confidential and there is no mandatory
retention period for the information disclosed.

B. Summary of Proposed Rule and Rule Amendments

    We are proposing new Rule 10D-1 under the Exchange Act and
amendments to Items 601, 402 and 404 of Regulation S-K, Schedule 14A,
Form 20-F, Form 40-F, and Form N-CSR to implement the provisions of
Section 954 of the Dodd-Frank Wall Street Reform and Consumer
Protection Act of 2010, which added Section 10D to the Securities
Exchange Act of 1934. Section 10D requires the Commission to adopt
rules directing the exchanges and associations to prohibit the listing
of any security of an issuer that is not in compliance with Section
10D's requirements concerning disclosure of the issuer's policy on
incentive-based compensation and recovery of erroneously awarded
compensation. In accordance with the statute, proposed Rule 10D-1
directs the exchanges to establish listing standards that, among other
things, require each issuer to adopt and comply with a policy

providing for recovery, under certain circumstances, of incentive-based
compensation received by current or former executive officers and to
file all disclosure with respect to that policy in accordance with
Commission rules.
    To implement Section 10D(b)(1), we are proposing to add new
disclosure provisions to Items 601 and 402 of Regulation S-K, Schedule
14A, Form 20-F, Form 40-F, and Form N-CSR. The new disclosure
provisions would require each listed issuer to file the issuer's
policy, if applicable, regarding recovery of incentive-based
compensation from its executive officers as an exhibit to its Exchange
Act annual report or, in the case of a listed registered management
investment company, its Form N-CSR annual report. A new instruction to
the Summary Compensation Table would require that any amounts recovered
pursuant to the listed issuer's policy reduce the amount reported in
the applicable column and total column for the fiscal year in which the
amount recovered initially was reported.
    In addition, if during the last completed fiscal year, either a
restatement was completed that required recovery of excess incentive-
based compensation pursuant to a listed issuer's recovery policy, or
there was an outstanding balance of excess incentive-based compensation
from the application of the policy to a prior restatement, proposed
Item 402(w) would require the listed issuer to disclose: \333\
---------------------------------------------------------------------------

    \333\ See proposed Item 402(w) of Regulation S-K, proposed Item
6.F of Form 20-F, and proposed Paragraph (17) of Paragraph B of Form
40-F. We also are proposing to amend the instructions to Items
404(a) of Regulation S-K so that a listed issuer that complies with
Item 402(w) disclosure requirements would not need to disclose any
incentive-based compensation recovery pursuant to those
requirements. We are also proposing to amend Form N-CSR and Item 22
of Schedule 14A to require registered management investment
companies that would be subject to Rule 10D-1 to provide information
that would mirror the disclosure requirements of proposed Item
402(w).
---------------------------------------------------------------------------

     For each restatement,
    [cir] The date on which the listed issuer was required to prepare
an accounting restatement;
    [cir] The aggregate dollar amount of excess incentive-based
compensation attributable to the restatement;
    [cir] The estimates used to determine the excess incentive-based
compensation attributable to such accounting restatement, if the
financial reporting measure related to a stock price or total
shareholder return metric; and
    [cir] The aggregate dollar amount of excess incentive-based
compensation that remained outstanding as of the end of the last
completed fiscal year;
     The name of each person, if any, from whom during the last
completed fiscal year the listed issuer decided not to pursue recovery,
the amount forgone from each such person, and a brief description of
the listed issuer's reasons for not pursuing recovery; and
     The name of, and amount due from, each person from whom,
at the end of its last completed fiscal year, excess incentive-based
compensation had been outstanding for 180 days or longer since the date
the issuer determined the amount the person owed.
    We propose that the same disclosure requirements apply to listed
U.S. issuers and listed foreign private issuers, including MJDS filers.
These disclosure requirements would increase the amount of information
that listed U.S. issuers and listed foreign private issuers must
compile and disclose in their schedules and forms. For listed U.S.
issuers, other than registered management investment companies, the
proposed amendments to Items 402 and 601 of Regulation S-K would
require additional disclosure in Exchange Act annual reports and proxy
or information statements filed on Schedule 14A or Schedule 14C
relating to an annual meeting of shareholders, or a special meeting in
lieu of an annual meeting, at which directors are to be elected and
would increase the burden hour and cost estimates for each of those
forms. For a listed management investment company registered under the
Investment Company Act of 1940, the proposed amendments to Form N-CSR
and Schedule 14A would require additional disclosure and would increase
the burden hour and cost estimates associated with Form N-CSR and Rule
20a-1, if the registered investment company pays incentive-based
compensation. For a listed foreign private issuer filing an annual
report on Form 20-F, Form 40-F or, if a foreign private issuer elects
to use U.S. registration and reporting forms, on Form 10-K, the
proposed amendments to those forms and the proposed amendment to Item
402(a)(1), respectively, would require additional disclosure in annual
reports and would increase the burden hour and costs estimates for each
of these forms. The disclosure required by proposed Item 402(w),
proposed paragraph 22(b)(20) to Schedule 14A, proposed new Item 12 to
Form N-CSR, and proposed Item 6.F of Form 20-F would be required to be
block-text tagged in XBRL.

C. Paperwork Reduction Act Burden Estimates

    As proposed, the information a listed U.S. issuer is required to
compile and disclose regarding its policy on incentive-based
compensation pursuant to Item 402(w) would supplement information that
U.S. issuers that are not registered management investment companies,
smaller reporting companies or emerging growth companies are already
required to provide elsewhere in their executive compensation
disclosure, if material. Specifically, these issuers are required to
provide information relating to the compensation of the named executive
officers, including policies and decisions regarding the adjustment or
recovery of awards or payments if the relevant performance measures
upon which they are based are restated or otherwise adjusted in a
manner that would reduce the size of an award or payment.\334\ With
respect to registered management investment companies subject to
proposed Rule 10D-1, information mirroring the proposed Item 402(w)
disclosure would be included in annual reports on Form N-CSR and in
proxy statements and information statements relating to the election of
directors.\335\ Such information would also supplement existing
disclosures.
---------------------------------------------------------------------------

    \334\ See Item 402(b)(2)(viii) of Regulation S-K.
    \335\ Proposed Item 12 of Form N-CSR; proposed Item 22(b)(20) of
Schedule 14A. We are also proposing to amend General Instruction D
to Form N-CSR to permit registered management investment companies
subject to proposed Rule 10D-1 to answer the information required by
proposed Item 12 by incorporating by reference from the company's
definitive proxy statement or definitive information statement.
---------------------------------------------------------------------------

    Similarly, for a listed foreign private issuer filing an annual
report on Form 20-F or, if a foreign private issuer elects to use U.S.
registration and reporting forms, on Form 10-K, the proposed amendments
would supplement existing disclosures. Currently, Item 7.B of Form 20-F
requires disclosure of transactions between the issuer and senior
management of the nature and extent of any transactions that are
material to the company or related party that are unusual in their
nature or conditions involving services to which the company was a
party. Although this disclosure requirement generally would require
disclosure of the recovery of excess incentive-based compensation, it
may not elicit the same information required to be provided under the
proposed rule and rule amendments.
    We arrived at the estimates discussed below by reviewing our burden
estimates for similar disclosure and

considering our experience with other tagged data initiatives. We
believe that the preparation of the information required by proposed
Item 402(w) and the corresponding narrative disclosure provisions is
comparable to an issuer's preparation of the disclosure required by the
amendments to enhance certain aspects of proxy disclosure.\336\ The
amendments in that release were largely designed to enhance existing
disclosure requirements. Similarly, we believe that the proposed Item
402(w) amendments would enhance the disclosure that is already required
by Item 402 of Regulation S-K and disclosure that is required by
Section 10D(b)(1). We believe that certain of the information required
to prepare the new disclosure would be readily available to some U.S.
issuers because this information, if material, is required to be
gathered, determined or prepared in order to satisfy the other
disclosure requirements of Item 402 of Regulation S-K. For other listed
issuers, we believe that the information required to prepare the new
disclosure requirement will not impose a significant burden because the
issuer controls and possesses this information, which is a compilation
of facts related to an issuer's implementation of its recovery policy
if during the last completed fiscal year the issuer was required to
recover excess incentive-based compensation or there was an outstanding
balance of excess incentive-based compensation not recovered pursuant
to that policy. In the Proxy Disclosure Enhancements release, we
estimated that the amendments would impose on average an incremental
burden of 25 hours for accelerated filers and 17 hours for non-
accelerated filers to prepare their proxy and information statements.
We believe the proposed disclosure regarding an issuer's policy on
recovery of erroneously awarded compensation requires less new
information than the amendments in the Proxy Disclosure Enhancements
Release. We believe the primary cost elements for issuers preparing the
proposed disclosure would be determining the types of incentive-based
compensation awards an issuer grants to executive officers that could
be subject to recovery under the issuer's recovery policy and, if
necessary, gathering the information regarding the application and
implementation of this recovery policy if required by a restatement.
---------------------------------------------------------------------------

    \336\ See Release No. 33-9089, Proxy Disclosure Enhancements,
(Dec. 16, 2009) [74 FR 68334] (``Proxy Disclosure Enhancements'').
The release adopted amendments to make new or revised disclosures
about: Compensation policies and practices that present material
risks to the company; stock and option awards of executives and
directors; director and nominee qualifications and legal
proceedings; board leadership structure; the board's role in risk
oversight; and potential conflicts of interest of compensation
consultants that advise companies and their boards of directors.
---------------------------------------------------------------------------

    As a result, we estimate that the average incremental burden for an
issuer to prepare the new narrative disclosure would be 21 hours. This
estimate includes the time and cost of preparing disclosure that has
been appropriately reviewed by management, in-house counsel, outside
counsel and members of the board of directors, as well as block-text
tagging the data in XBRL format. Because this estimate is an average,
the burden could be more or less for any particular company, and may
vary depending on a variety of factors, such as the degree to which
companies use the services of outside professionals or internal staff
and resources to tag the data in XBRL. Issuers subject to Item 402(w)
would provide the required disclosures by either including the
information directly in Exchange Act annual reports or incorporating
the information be reference from a proxy statement on Schedule 14A or
information statement on Schedule 14C. For purposes of our PRA
estimates, consistent with past amendments to Item 402,\337\ we have
assumed that all of the burden relating to the new narrative disclosure
requirements would be associated with Form 10-K, even if registrants
include the new disclosure required in Form 10-K by incorporating that
disclosure by reference from the proxy statement on Schedule 14A.\338\
---------------------------------------------------------------------------

    \337\ We took a similar approach in connection with the rules
for Summary Compensation Table disclosure required by the 2006
amendments to Item 402. See Executive Compensation and Related
Person Disclosure, Release No. 33-8732A, n. 326 (Aug. 29, 2006) [71
FR 53158].
    \338\ Similarly, for purposes of the PRA estimates, we are also
assuming that all of the burden relating to the new narrative
disclosure requirements for registered investment companies would be
associated with Form N-CSR, and therefore, we are not allocating a
separate burden estimate for Rule 20a-1.
---------------------------------------------------------------------------

    We believe that the requirement to file a listed issuer's recovery
policy as an exhibit to its annual report pursuant to proposed Item
601(b)(96) and the corresponding provisions (and for registered
investment companies, as an exhibit to its annual report on Form N-CSR
pursuant to proposed Item 13(a)(2) of Form N-CSR) will be minimal. A
listed issuer will be required simply to file the policy that it
otherwise would be required to have pursuant to the listing standards
of the exchange on which it lists securities. We estimate this burden
to be approximately one hour.
    As a result of the estimates discussed above, we estimate for
purposes of the PRA that the total incremental burden on all listed
issuers with respect to the proposed amendments would be 5,961 hours
for internal company time and $203,700 for the services of outside
professionals. The total incremental burden for Form 10-K would be
5,246 hours for internal company time and $138,600 for the services of
outside professionals.\339\ The total incremental burden for Form N-CSR
would be 23 hours for internal company time and $2,100 for the services
of outside professionals.\340\ The total incremental burden for Form
20-F would be 553 hours for internal company time and $50,400 for the
services of outside professionals and for Form 40-F would be 139 hours
for internal company time and $12,600 for the services of outside
professionals.\341\ For Form 10-K and

Form N-CSR we estimate that 75% of the burden of preparation is carried
by the company internally and that 25% of the burden of preparation is
carried by outside professionals retained by the company at an average
cost of $400 per hour. For Forms 20-F and 40-F we estimate that 25% of
the burden of preparation is carried by the company internally and that
75% of the burden of preparation is carried by outside professionals
retained by the company at an average cost of $400 per hour. There is
no change to the estimated burden of Regulation S-K because the burdens
that this regulation imposes are reflected in our revised estimates for
the forms. Similarly, there is no change to the estimated burden of
Schedule 14A, Schedule 14C and Rule 20a-1 because, as noted above, the
burdens associated with the proposed disclosures are allocated to Form
10-K and Form N-CSR, respectively.
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    \339\ This includes one hour to file the recovery policy as an
exhibit to the annual report as well as the burden associated with
providing Item 402(w) disclosure, when applicable. We estimate the
number of responses for filing the recovery policy based on the
number of listed domestic issuers filing annual reports in 2014, or
4,206 issuers. Proposed Item 402(w) would require disclosure when a
listed issuer completes a restatement that requires recovery of
excess incentive-based compensation pursuant to its compensation
recovery policy or when there is an outstanding balance of excess
incentive-based compensation from the application of the policy to a
prior restatement. To estimate the burden associated with this
disclosure, we looked to the number of listed issuers that filed an
Item 4.02 Form 8-K (Non-Reliance on Previously Issued Financial
Statements) in 2014, or 66 issuers. To calculate the total annual
incremental burden arising from the new narrative disclosure, we
multiplied the estimated number of annual responses (66) by 21
burden hours. We note that the number of restatements filed in any
given year will vary and that, depending on the nature of their
recovery efforts, certain issuers may be required to provide Item
402(w) disclosure for more than one year.
    \340\ We estimate seven registered management investment
companies that are listed issuers and are internally managed that
may have executive officers who receive incentive-based
compensation. Of these seven, we assume for PRA purposes that one
registered management investment company per year will be required
to prepare the new narrative disclosure required by proposed new
Item 12 of Form N-CSR. As indicated below, for Form N-CSR, we
estimate that 75% of the burden of preparation will be carried by
the registrant internally and the remaining 25% of the burden will
be carried by outside professionals retained by the company at an
average cost of $400 per hour. On the basis of the foregoing, we
estimate an aggregate internal burden hour of 22 hours ((7
registrants x 1 hour per registrant to file the policy pursuant to
proposed new Item 13(a)(2)) + (1 registrant x 21 hours per
registrant to prepare the new narrative disclosure required by
proposed new Item 12x75%) = 23 hours), and estimate an aggregate
increase of $2,100 for the services of outside professionals (1
registrant x 21 hours per registrant to retain outside professionals
to prepare the new narrative disclosure required by proposed new
Item 12x25% x $400 per hour) = $2,100).
    \341\ Consistent with our estimates for Form 10-K, we estimate
the number of responses for filing the recovery policy based on the
number of listed foreign private issuers and MJDS issuers filing
annual reports in 2014, or 639 issuers. To estimate the burden
associated with the disclosure required when a foreign private
issuer or MJDS issuer is required to pursue recovery pursuant to its
policy, we looked to the number of listed foreign private issuers
and MJDS issuers that restated financial statements in 2014, or 8
foreign private issuers filing on Form 20-F and 2 MJDS issuers
filing on Form 40-F. To calculate the total annual incremental
burden arising from the new narrative disclosure, we multiplied the
estimated number of annual responses (8 and 2, respectively) by 21
burden hours and allocated the resulting burden estimate to the
relevant form.
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    We derived our new burden hour and cost estimates by estimating the
total amount of time it would take a listed issuer to prepare and
review the disclosure requirements contained in the final rules. This
estimate represents the average burden for all listed issuers, both
large and small. In deriving our estimates, we recognize that the
burdens will likely vary among individual listed issuers based on a
number of factors, including the size and complexity of their
organizations. We believe that some listed issuers will experience
costs in excess of this average in the first year of compliance with
the amendments and some issuers may experience less than the average
costs. A summary of the proposed changes is included in the table
below.
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    \342\ The number of responses reflected in the table equals the
three-year average of the number of schedules and forms filed with
the Commission and currently reported by the Commission to OMB.

                                                                 Table 1--Calculation of Incremental PRA Burden Estimates \342\
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                                                                Current      Proposed                                                                       Increase in
                                                                annual        annual        Current     Increase in    Proposed     Current professional    professional   Proposed professional
                                                               responses     responses   burden hours  burden hours  burden hours          costs               costs               costs
                                                                      (A)           (B)           (C)           (D)   (E) = C + D                    (F)              (G)                = F + G
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Form 10-K..................................................          8137          8137    12,198,095         5,246    12,203,089         $1,627,400,000         $138,600         $1,627,538,600
Form 20-F..................................................           942           942       623,021           553       623,795            743,277,230           50.400            743,277,630
Form 40-F..................................................           205           205        22,034           139        22,425             26,440,500           12,600             26,453,100
Form N-CSR.................................................         6,576         6,576       177,799            23       177,822              3,189,771            2,100              3,191,871
                                                            ------------------------------------------------------------------------------------------------------------------------------------
    Total..................................................        15,860        15,860    13,020,949         5,961    13,026,910          2,400,257,501          203,700          2,400,461,201
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D. Solicitation of Comments

    We request comments in order to evaluate: (1) Whether the proposed
collection of information is necessary for the proper performance of
the functions of the agency, including whether the information would
have practical utility; (2) the accuracy of our estimate of the burden
of the proposed collection of information; (3) whether there are ways
to enhance the quality, utility and clarity of the information to be
collected; and (4) whether there are ways to minimize the burden of the
collection of information on those who are to respond, including
through the use of automated collection techniques or other forms of
information technology.\343\
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    \343\ We request comment pursuant to 44 U.S.C. 3506(c)(2)(B).
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    Any member of the public may direct to us any comments concerning
the accuracy of these burden estimates and any suggestions for reducing
these burdens. Persons submitting comments on the collection of
information requirements should direct the comments to the Office of
Management and Budget, Attention: Desk Officer for the Securities and
Exchange Commission, Office of Information and Regulatory Affairs,
Washington, DC 20503, and should send a copy to Brent J. Fields,
Secretary, Securities and Exchange Commission, 100 F Street NE.,
Washington, DC 20549-1090, with reference to File No. S7-12-15.
Requests for materials submitted to OMB by the Commission with regard
to these collections of information should be in writing, refer to File
No. S7-12-15, and be submitted to the Securities and Exchange
Commission, Office of FOIA Services, 100 F Street NE., Washington, DC
20549-0213. OMB is required to make a decision concerning the
collection of information between 30 and 60 days after publication of
this release. Consequently, a comment to OMB is best assured of having
its full effect if OMB receives it within 30 days of publication.

V. Small Business Regulatory Enforcement Fairness Act

    For purposes of the Small Business Regulatory Enforcement Fairness
Act of 1996 (SBREFA),\344\ we solicit data to determine whether the
proposed rule and rule amendments constitute a ``major'' rule. Under
SBREFA, a rule is considered ``major'' where, if adopted, it results or
is likely to result in:
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    \344\ 5 U.S.C. 801 et seq.
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     An annual effect on the economy of $100 million or more
(either in the form of an increase or a decrease);
     A major increase in costs or prices for consumers or
individual industries; or
     Significant adverse effects on competition, investment or
innovation.
    Commenters should provide empirical data on (1) the potential
annual effect on the economy; (2) any increase in costs or prices for
consumers or individual industries; and (3) any potential effect on
competition, investment or innovation.

VI. Initial Regulatory Flexibility Act Analysis

    This Initial Regulatory Flexibility Analysis (``IRFA'') has been
prepared in accordance with the Regulatory Flexibility Act.\345\ This
IRFA involves proposals to direct the exchanges and associations to
prohibit the listing of a security of an issuer that is not in
compliance with Section 10D's requirements concerning recovery of
erroneously awarded compensation and to implement disclosure
requirements related to the recovery of such compensation.
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    \345\ 5 U.S.C. 603.

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A. Reasons for, and Objectives of, the Proposed Action

    We are proposing a new rule and rule amendments to implement the
provisions of Section 954 of the Dodd-Frank Wall Street Reform and
Consumer Protection Act of 2010, which adds Section 10D to the
Securities Exchange Act of 1934. Section 10D requires the Commission to
adopt rules directing the exchanges and associations to prohibit the
listing of any security of an issuer that is not in compliance with