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Trends in Compensation
The new heights (or depths,
depending how you look at it) of regulatory scrutiny of compensation
practices is driving many an HR executive to distraction. How
does one handle the new ban on all short term bonuses and incentives
if you're a TARP recipient, and even if you're not? What to do
now that your compensation system is perfectly divided among base,
short term and long term incentives (1/3, 1/3, 1/3) yet common wisdom
suggests that this structure is no longer ideal?
We
held two conference calls for members of our HR executive Forums on
the subject and spent some time listening to the regulators.
Here are some pointers as you finalize your budget for 2010:
It's time to get tough on raises. With unemployment at
10% or higher and general bank performance in the dumps, why are we
still contemplating giving everyone a raise? Even the most
benevolent employers recognize that some employees are stars, and
they deserve the moon and more, while others are slugs, and they
deserve no extra cash. Turnover figures have hit rock bottom
for many employers, which isn't necessarily a good thing. This
is a great time to treat your best employees meaningfully different
than your maudlin ones.
Zero raises to top executives. Many banks are freezing
top 100 executives' compensation, some for the second year in a row.
With focus on expenses, you get far more "bang for the buck"
by controlling pay levels of your highest paid employees. An
added benefit: being on the moral high ground when you ask others to
tighten their belt.
"Say on pay" is here. Expect "input"
into your top executives' pay levels and especially incentive
compensation plans, TARP or no TARP.
Regulatory oversight will intensify for compensation at all
levels. This isn't just for your highest level executives,
but for anyone who receives any incentives, especially your top
producers. The key question is: are your incentives and
compensation practices contributing to increased risk levels
throughout your organization? Do you employ "claw-backs"
to ensure ethical behavior? Are incentive plans fully aligned
with shareholder interests?
"Back to the future" - increasing the subjective
elements to compensation. After years of working hard to
reduce the element of personal judgment in incentive compensation,
it's back with a vengeance, particularly at the board level and in
CEO compensation. However, discretion calls for
transparency, so the logic behind discretionary actions must be
clearly explained in the MD&A.
- Use true long-term objectives that respond to shareholders'
needs as the basis for both long-term and short-term incentives.
One hard lesson learned in the past couple of years has been the
dangerous side-effects of short-term thinking on executive and sales
force behavior. An accurate view of bank business lines and
activities that build shareholder value helps incent the right
activities.
Clawbacks are "in". They are perceived to be a
strong risk mitigation tool by industry observers and regulators.
Time frames range from 1-3 years.
Team-based plans. Such plans can mitigate
perceived risk and egregious individual incentive
levels.
Corporate alignment. Inserting corporate-level modifiers
to all incentive compensation plans is becoming more common and
enhances plan alignment at all levels.
Budget and govern total incentives as a percent of Pre-tax
income. One of the greatest fears of board members is
paying several times for the same sale. This actually happens
often, as many banks have 40+ incentive plans. A good
discipline that ensures both employees and shareholders get their
fair share is budgeting in advance all incentive payouts company-wide
as a percent of pre-tax income. This will ensure a fair
distribution of the benefits created by team members between the
employee and the shareholder, something that doesn't always happen.
If more than 25% of the profit goes to employees (with the exception
of incenting recurring fees, such as insurance, brokerage and trust),
ask yourself whether the profit split is
appropriate.
Accurate measurement is key. As always, the devil is in
the details. For example: Did you count risk-based
capital more than once against several different product lines?
Did you consider risk trends vs. a point-in-time view? Did you
crisply identify the company's tolerance for risk? Measuring
activities and results is a first step toward effective compensation
practices. Following up by measuring secondary factors is also
important.
Phantom stock with 2-3 year vesting is an attractive tool to
give employees at all level significant upside with no downside to
the employee or the company (avoids excessive dilution due to low
stock prices). Paying bonuses with stock is another way to
further leverage this tool.
The current
environment is very challenging to the non-socialist banks among us,
those who wish to truly reward the stars and motivate them to reach
their potential. Regulators' and shareholders' attitudes have
shifted from pay for performance to pay for risk-based results.
Entrepreneurial banks and bankers need to find ways to do both with a
single incentive plan - a significant challenge to be sure.
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