The Mitigating Effect of Audit Committee Financial Expertise on the Voluntary Adoption of Clawback Policies

Journal of Law, Finance, and Accounting, May 2018, Vol. 3, No. 1, pp. 85-114.

46 Pages Posted: 12 Oct 2012 Last revised: 16 Jun 2018

See all articles by Yan Zhang

Yan Zhang

State University of New York at Binghamton - School of Management

Nan Zhou

University of Cincinnati - Lindner College of Business

Date Written: June 3, 2017

Abstract

Clawback policies are compensation recovery policies that provide companies with the ability to recoup incentive-based compensation in the event of a financial fraud. We investigate whether the mandatory clawback provision in the Dodd-Frank Act is necessary or whether existing provisions under the Sarbanes-Oxley Act (SOX) are sufficient in inducing problematic firms to voluntarily adopt clawbacks. Specifically, we examine the relation between financial expertise on audit committees and voluntary adoption of clawback policies in the pre-Dodd-Frank period, separating audit committee financial expertise into accounting- and non-accounting financial expertise and classifying clawbacks into fraud-based- and non-fraud based clawbacks. While firms with restatement history are more likely to adopt fraud-based clawbacks due to SOX Section 304, the financial expertise on audit committees has a mitigating effect on the voluntary adoption of clawback policies. Greater accounting financial expertise is more likely to result in voluntary adoption of fraud-based clawbacks for firms without prior restatements. On the contrary, accounting and non-financial expertise are less likely to result in the voluntary adoption of fraud-based clawbacks for firms with prior restatements. Consistent with the signaling hypothesis, this suggests that accounting experts are more in favor of adopting fraud-based clawbacks when they are not associated with any previous accounting scandals, whereas both accounting experts and non-financial experts are against adopting fraud-based clawbacks when they could be implicated by prior financial frauds. Since non-fraud based clawbacks do not serve as signals, neither accounting- nor non-accounting financial expertise is related to the adoption of non-fraud based clawbacks. Our results suggest that the mandatory clawback requirement in Dodd-Frank can eliminate the mitigating effect of audit committee financial expertise on the voluntary adoption of clawback policies.

Keywords: Clawback, Audit Committee, Financial Expertise, Restatement

JEL Classification: M41, M52, G34, G38

Suggested Citation

Zhang, Yan and Zhou, Nan, The Mitigating Effect of Audit Committee Financial Expertise on the Voluntary Adoption of Clawback Policies (June 3, 2017). Journal of Law, Finance, and Accounting, May 2018, Vol. 3, No. 1, pp. 85-114.. Available at SSRN: https://ssrn.com/abstract=2160951 or http://dx.doi.org/10.2139/ssrn.2160951

Yan Zhang

State University of New York at Binghamton - School of Management ( email )

P.O. Box 6015
Binghamton, NY 13902-6015
United States
607-777-6195 (Phone)
607-777-4422 (Fax)

Nan Zhou (Contact Author)

University of Cincinnati - Lindner College of Business ( email )

P.O. Box 210211
Cincinnati, OH 45221-0211
United States

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