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Point/Counterpoint
Are Clawback Clauses Really a Necessary Evil?

Introduction by Rick Weddle, CEO of the International Economic Development Council, and President and CEO of the Greater Phoenix Economic Council Business incentives in the U.S. go back to at least the early eighteenth century when Thomas Jefferson offered certain Virginia investors "free land" and other development incentives.

In the late twentieth century the spectrum of development incentives broadened into a veritable rainbow. During the 1970s and 1980s when "smokestack-chasing" became a national passion, hundreds of millions of dollars in lures were offered to automotive and other big-ticket facilities that sometimes failed to materialize as promised or projected.

In the 1990s the building binge caused a painful hangover as professional developers began to worry if they might have created a Frankenstein if in fact many of the incentive packages offered were actually beribboned "giveaways" to companies who were not always delivering what they promised. Phrases like "corporate welfare" and "socialism for the rich" began to appear in the media. Thus grew the notion of the unfortunately named "clawback," the mutually agreed upon provision directing a company to repay a portion of incentives granted if they didn't meet the performance standards set down.

I should differentiate between two terms here: A) "real clawbacks" in which the company is obligated to return funds according to a pre-arranged agreement; and B) "clawback without the claws" in which such companies receive inducements only after they have achieved certain levels of performance in terms of jobs, investment or other criteria.

The benefits and dangers of both types of clawbacks are debated in the following pieces by two distinguished development authorities.

I would only add one final notion: in my experience incentives are neither good nor bad. The key question is how you use them and whether you can construct them in such a way as to create a win-win environment for all parties concerned.

Point: Clawbacks equal protection!
By Jan W. Rogers, Executive Director, Southern Idaho Economic Development Organization (SIEDO)

Competition equals incentives equals clawbacks equals protection. That is the way of the world now in economic development. With the use of public funds as incentives or subsidies to lure companies to a community, the public expects some protection for its investment. I think companies today understand that clawbacks in some form are expected in the contracts negotiated with the communities or state. It is the responsible thing to do to protect the community's investment. In the light of the downturn in the economy, competition for deals is even fiercer. Deals made today need to protect both the business and the community. Businesses should only make promises that they know they can keep in any economic environment in order to avoid activating the clawback clause in their contract. And, communities need to make sure that their contracts are written carefully so as to protect their investment.

In today's competitive business environment, the incentive package is just one part of the overall decision to relocate or expand operations. All things being equal, sometimes the extra incentive or subsidy will make the difference in converting the opportunity to your community. So, I think it is important to remain focused on what is going to make the business move successful in the long run. Ongoing low operational costs, strong labor market, healthy business climate and good quality livability have been the major factors that have played in the businesses we have recruited over the last year. Clawbacks, if reasonable, for the business have not been an issue.

I think companies who are unwilling to include a clawback clause in their contract for incentives or subsidies, in essence are holding a community hostage. From the communities perspective, the question then becomes at what price are they willing to mortgage their future and constrain their ability to offer other companies an incentive to site in their market. The public has a right to expect an honest return for their investment. And, I believe that is why clawbacks are such an important part of any deal.

Counterpoint: Warning! Clawbacks can leave scars!
By Frederick Metz Shepperd, Managing Director of the site location consulting firm, the Quadral Group in New York, Ohio, and Frankfurt, Germany

There is one little secret that folks in government often just can't handle: Business is about risk. It is about trust. It is about achieving something that often just hasn't been done. Each party can try to calculate their risk and make assertions based on what they deem to be accurate. However, the best estimate just might not be right.

Governments are not about risk. They are about security. Our social contract yields certain rights, so that a government can provide things like defense, security, safety and other benefits to society. If anything, governments are often risk adverse. They get fancy and use business terms for governmental functions. They say they are serving their "customers." Close, but no cigar. The citizens they serve are actually the owners. There is a difference.

So it goes with clawbacks. The word itself is interesting in its usage to define how governments can claw back cash, or other benefits from agreements with private and public companies that fail to achieve certain pre-developed criteria, like job creation, capital investment and the like. What happens when a market for products totally dies between the time the project starts and the plant is finished? What about a company that came to the U.S. to be close to a computer manufacturer, then the customer moved to Indonesia?

These examples are certainly dramatic and have major implications for the company as well as the city where a facility is located. However, where is the line drawn? What is in, or out of control of the company? Who decides? That is what lawyers in the courts love to determine. The best thing is to locate where it makes good business sense. Forget about all the incentives, baubles and bangles. A newspaper in Germany once commented on the incentives of Mercedes-Benz, "Star Sinks in Alabama." Going for "all the marbles" can be counterproductive for the company as well as the state providing the benefit. The clawback provisions in an agreement with a governmental agency may seem benign, but can be very dangerous and limiting to the company in the long run.

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