7th December 2011
When did anyone last see a good word written about a banker?
Ian Hislop had to go back to the Victorian era for his recent BBC TV programme "When Bankers were Good". It's been downhill from then onwards – even the sainted Captain Mainwaring in Dad's Army was not without fault.
And this week deputy prime minister Nick Clegg said the government intends to announce proposals to crack down on "unjustifiable" levels of executive pay early in the new year. He wants to bring greater transparency to remuneration committees – the "remcos" which set pay levels for directors and other top executives both within and without the banking sector. He added that I abhor " people who get paid bucketloads of cash in difficult times for failure."
Leaving aside for the moment how he intends to achieve this, is this just populist banker bashing or does it have a serious purpose for investors?
The banks' on the record reaction is well rehearsed. It's a mix of "we have to pay competitive rates to stop our staff defecting to rivals", and "if none of us pay well, they'll all move overseas" to a defiant "no one can make us – we're our own masters" and a plaintive "all this talk about earnings is a distraction from solving real economic problems."
But this time it appears that the banks can't so easily brush aside concerns. Either they'll have to come up with new, more compelling arguments to justify the pay free for all, or make efforts to hold earnings to more politically – and economically – acceptable levels.
Earlier this week and ahead of the year end bonus season the Association of British Insurers sent an open letter to the five UK banks with London stock market listings – most of the high street except Santander but including Standard Chartered – warning them that its members patience was exhausted.
It said: "It is our members' view that it can no longer be business as usual for this remuneration round. They expect to see significantly lower bonus pools and individual awards given the current market circumstances."
Is there an investment case for lower earnings or is it purely reputational?
The ABI is not the City wing of the Socialist Workers Party. It members control about a fifth of all UK investments and many other investors follow voting and other guidance issued through the associated Institutional Voting Information Service.
It has suggested that the level of employee payouts is out of line with other factors. It is seen as inequitable with the proportion of earnings going to staff and directors unbalanced with that going to investors as dividends. While no two banks are the same, Barclays, for instance, in 2010, paid a total £11.9bn to its worldwide staff. Of that £3.5bn – over 25% – was in "performance costs", a banker's way of spelling out bonuses. And that £3.5bn was more than five times the £650m paid out to investors that year by way of dividends.
But it's not just that high bonuses can hold back dividends. Banks need to hold back profits to for the capital base – additional regulation will mean retaining and increasing balance sheet strength.
These three elements – dividends, bonuses and capital – all come from the same pool. Investors believe they are not divided equitably or usefully.
Investors also criticise methods of paying long term elements of bonuses. These are typically in deferred shares but instead of a fixed number of shares, the bonus is related to salary. So if the shares have halved since the bonus deal was first arranged, the recipient now gets twice the number. If the shares fall, then the executive loses out but if they regain previous levels, the executive or trader is twice as well off for doing nothing.
Investors want a structural chance in remuneration – code for big cuts – which they say will make banking sector shares more attractive because more will go to shareholders via dividends and more will go into capital retention.
The ABI says: "We believe that fundamental shifts in remuneration practice should help to address the sustainability and attractiveness of the business model to investors and hence improve shareholder returns. Given the level of equity employees are now required to hold, this improvement in shareholder value will have a direct impact on the returns to employees."
So how will this realignment of rewards be achieved?
Big investors in the ABI mould believe the present system of remcos – non executive directors – should continue. Others suggest remcos with staff representatives or – this one from the UK Individual Shareholders Society – that remcos should consist of elected shareholders.
The ABI way forward is not radical – many of its member companies are inherently conservative. It suggests the way forward is dialogue and engagement – how far that achieves remains to be seen. Probably, any significant reduction in bonus pools this year – and consequent realignment of the interests of shareholders – will be hailed as a victory.
But the talking is tougher now. In its letter to the banks, the ABI says:
It is our members' view that it can no longer be business as usual for this remuneration round. They expect to see significantly lower bonus pools and individual awards given the current market circumstances. It is essential that all Banks take, and are seen to take, a responsible approach. The ABI is willing to facilit
ate engagement with your major shareholders."
For institutional investors, that's really putting heads over parapets.
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