Author: Gary Biddle
The problem
Clawback provisions are designed to strengthen corporate governance. By allowing firms to recover executive pay tied to misstated earnings, they aim to deter manipulation and improve accountability in financial reporting.
The logic is clear: if managers face consequences for misstating results, they will be less likely to do so.
But governance does not eliminate pressure: as long as executive pay and market expectations remain largely tied to short-term performance, the incentive to deliver results persists.
The idea
This research asks what happens after firms adopt clawbacks.
When accounting-based manipulation becomes riskier, managers do not stop managing performance—they change how they do it. The focus shifts away from reporting choices and toward real business decisions, particularly investment.
Our findings are in line with this speculation. After adopting clawbacks, firms reduce investment in long-term, innovation-driven activities such as R&D, and increase spending on investments that are more favourable to short-term earnings.
Importantly, the overall level of investment remains largely unchanged. What shifts is the composition. Firms reallocate resources toward decisions that support reported performance without triggering the risks associated with financial misstatements.
This effect is strongest in firms where executive compensation is tightly linked to performance, suggesting that incentives play a central role in shaping how managers respond.
Why it matters
These changes have real economic consequences.
Cutting R&D may improve current performance while weakening future competitiveness. At the same time, investment becomes less aligned with underlying opportunities, reducing overall efficiency.
The bottom line
Clawback provisions seem to improve accountability in financial reporting. But when short-term incentives remain dominant, they can push managers toward real decisions.
Governance works, but only when it is aligned with incentives. Otherwise, it risks solving one problem while creating another.
Biddle, G. C., Chan, L. H., & Joo, J. H. (2024). Clawback adoptions, managerial compensation incentives, capital investment mix and efficiency. Journal of Corporate Finance, 84, 102506.
DOI: 10.1016/j.jcorpfin.2023.102506
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