Legal Definitions - clawback

A clawback refers to the act of recovering or demanding the return of money or benefits that were previously paid or granted. This often occurs when certain conditions for the original payment were not met, or when a subsequent event triggers a right to reclaim the funds.

Here are some examples to illustrate how a clawback works:

• Executive Compensation: Imagine a company's CEO receives a substantial annual bonus, which is partly based on the company achieving specific financial performance targets. If it is later discovered that the financial results were inaccurately reported due to accounting errors or intentional misrepresentation, the company's board of directors might invoke a clawback clause in the CEO's employment contract. This clause would allow the company to demand the return of all or a portion of the bonus that was paid based on the incorrect financial data. This demonstrates a clawback as the recovery of money paid under false pretenses or unfulfilled conditions.

• Government Grants: Consider a local government agency that provides a grant to a non-profit organization to build a community center, with the explicit condition that the center must be fully operational and serving the public within two years. If, after the two-year period, the non-profit has only completed half of the construction and the center is not yet open, the government agency may initiate a clawback. This means they would demand the return of some or all of the grant money, as the agreed-upon conditions for the funding were not met. Here, the clawback serves to reclaim funds when the purpose for which they were granted is not fulfilled.

• Bankruptcy Proceedings: Suppose a business is experiencing severe financial difficulties and, just a month before officially filing for bankruptcy, it makes a large payment to one specific supplier to settle an old debt. When the business enters bankruptcy, the court-appointed trustee might initiate a clawback action against that supplier. The purpose of this clawback is to recover the payment made to the supplier, as it could be considered a "preferential transfer" that unfairly benefited one creditor over others shortly before the bankruptcy. The recovered funds would then be distributed more equitably among all the business's creditors. This example shows a clawback used to ensure fairness and prevent preferential treatment in insolvency situations.