Financial services: Progress in linking executive pay, performance and risk in may be eroded as regulation reshapes remuneration, says Mercer

EXECUTIVE REMUNERATION

Financial services: Progress in linking executive pay, performance and risk may be eroded as regulation reshapes remuneration, says Mercer

Regulatory changes may undermine the concept of pay for performance and perpetuate an “un-level playing field” within the international financial sector, according to a new report by Mercer.

Perhaps the most striking finding from this study was that the vast majority of companies (68%) had not yet set a fixed/variable compensation ratio cap, and many indicated it was not on their agenda, albeit prior to the finalisation of CRD IV requirements. What’s more, organisations in Europe were thinking about it more than other geographies, but “setting such a ratio still represents major change and many challenges for these companies to manage,” says Mercer.

“The issue is of particular concern to European banks which are subject to more onerous regulatory requirements compared to competitors in North America and the Emerging Markets.”

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Pay within financial services, and amongst senior executives more broadly, is the subject of much regulatory activity globally, including developments such as say on pay and bonus caps, with particular impact in Europe.


Opinions on the impact of regulation

  • 76% of survey respondents stated that the proposed requirements were creating an un-level playing field.
  • But 22% said that their organisation would benefit competitively.
  • 63% said that the proposed compensation caps will reduce the organisation’s ability to pay for performance.
  • 53% believed that they would maintain total compensation levels, regardless of the level of bonus cap.
  • Unsurprisingly then, 75% of companies were looking at “creative compensation alternatives”.
  • Interestingly, 70% said that that there would be a shifting focus from compensation to other elements of the total employee value proposition – e.g. flexible working arrangements, training and career development.

Mark Quinn, Mercer Partner and UK Rewards Leader, said:

“Since bringing new talent into the organisation is becoming more costly due to higher fixed salaries and larger amounts of deferred compensation, many companies are increasingly focusing on programmes to engage and develop existing talent.”

GLOBAL TRENDS

1. Europe


Mercer says:

“The European Union has taken a prescriptive approach to executive pay. While European organisations will begin preparing for CRD IV changes in 2013, the most impactful changes will be for the 2014 performance year. Respondents indicated that they will respond by raising base salaries for impacted employees as well as raising allowances and non-core compensation. Companies may also increase the vesting period for deferred compensation to five years and/or introduce new long-term incentive programmes to take advantage of the discount CRD IV allows for this longer vesting on 25% of variable pay.”

The survey also found that there has been some recognition that it is important to provide forward-looking long-term incentives for the executive management team beyond a pure annual bonus deferral programme.

Mercer says:

“This will help maintain a consistent focus on the long-term success of the company. For example, if there are no bonuses or significantly reduced annual bonuses awarded, then there is nothing to defer over the long-term.”

2. North America

US regulators in particular are working with the largest banks to ensure pay practices are aligned with the FSB principles, and have resisted “one-size-fits-all” solutions.

Mercer says:

“North American companies expect less be impact from EU regulation than counterparts in Europe even though their EU-based material risk-takers will be covered by the same requirements. As in Europe, the main response in this region is to raise base salaries, allowances and non-core compensation for those employees touched by the CRD IV regulation.”

Mercer has observed that US banks are also reducing their maximum payout ranges in their corporate incentive programmes, thereby reducing the leverage in their plans.

3. Emerging markets

Mercer says:

“The approach on regulating executive pay in Asia has been predominently principles-based, providing guidelines rather than instructions. Like North America, companies expect to be affected much less by the regulation. It is notable that in 2013 few expect to do much more than raise base salaries. More activity in the emerging markets is expected in 2014 where using carried interest incentive programmes is of particular interest.”

A final word

“Our report is aimed at providing insights on how global organisations are responding to this increased scrutiny. The clearest trend in the face of bonus caps is an increase in base salaries. Organisations are also looking at other ways of maintaining pay levels to support staff retention.

“However, reducing the amount of variable pay, like bonuses, weakens the link between performance and pay. With less variable pay that can be linked to performance, there will also be less pay that can be deferred and aligned with the risk time horizon of the business. This is contrary to the principles developed by the Financial Stability Board after the financial crisis. Rewards in banks and other financial organisations should be tied to multi-year performance to help manage risk.” - Vicki Elliott, Senior Partner, Mercer.

Want to know more?

Title: Global Financial Services Executive Remuneration Report, Mercer, July 2013.

Availability: Visit www.imercer.com to find out more.

Survey details: The report analysed data from 78 financial services organisations, including banks and insurers, across Europe, North America and the “emerging markets”. It provides:

  • insight into current approaches to annual incentives
  • changes in and structure of variable compensation in light of global regulatory developments
  • developments on “malus” adjustments and “clawbacks”
  • the prevalence of performance measures
  • characteristics of material risk takers
  • details on the structure of the compensation function.

Mercer is a “global leader in talent, health, retirement, and investments.” Mercer’s 20,000 employees are based in more than 40 countries. For more information, visit www.mercer.com.