The Productivity Commission may have given our executive remuneration practices a big tick, but now European bureaucrats have entered the picture.
Since the global financial crisis, governments in major developed economies have shown concern over the critical role played by flawed executive remuneration practices. In the United States in 2011, the Financial Inquiry Commission reported that the critical causes of the financial meltdown were unethical business practices and over-leveraged pay schemes that encouraged an excessive supply of low-start mortgages in the US.
Global government outrage was no doubt justifiable. However, it will take time to tell whether the resulting regulations on executive pay are a cure worse than the disease. Part of the current problem for business is that a consistent and sensible set of global regulatory actions on executive pay has not yet emerged.
In 2008, the US government used moral suasion on its banks to quarantine any bonuses until the worst was over, and as a condition of bail-outs. Many former executive carpetbaggers were incarcerated. Many others got away scot free, with at least nine of their 10 previous years’ bonus payments intact.
In Australia, shareholder activist groups have increased their agitation with target companies, and their boards. This has been assisted by the Productivity Commission’s 2011 report on executive pay. While the commission found Australia’s company pay practices were, by and large, reasonable when compared with medium-size European corporations, it recommended the introduction of the controversial ‘two strikes’ policy, which now forms part of Australian corporations law.
The European Commission and the Bank for International Settlements reviewed these events, and introduced new pay and equity capital regulations as of 1 January this year. The BIS capital requirements will affect all banks, and subsequently other businesses that compete with them for top financial talent. The EC regulations on executive pay and capital will have significant effects on the remuneration practices of all international banks through the competitive workings of executive employment markets. The most controversial part of these regulations, known as the Capital Requirements Directive IV (CRD IV), is to cap bonuses for senior staff deemed to be ‘material risk-takers’ to 100 per cent of fixed pay, or up to 200 per cent if approved by shareholders.
Before the GFC, there were many examples of senior executives, particularly in investment banking, receiving bonuses of up to 20-times fixed pay and more. There are still 10-times examples among leading global investment banks with significant operations in Australia, and short- and long-term incentive pay outcomes of around two to four times the fixed pay for senior staff at our ‘big four’ banks.
Senior HR executives in Australia believe competition for top staff will keep total fixed and variable rewards constant, but the CRD IV bonus caps will drive up the share and quantum of fixed pay outcomes for staff competing with European banks, to pre-empt an exodus of talent.
From that first phase of change, it’s expected that general executive salaries at banks will alter their mix towards higher fixed pay and de facto compliance with the 100 per cent bonus cap. Those changes will percolate across all top-listed ASX corporations through the effect the big banks have on executive pay benchmarking data. This surge, with an imminent doubling or trebling of fixed pay, is bound to further excite shareholder activist groups.
This article is an edited version. The full article was first published in the October 14 issue of HRMonthly magazine as ‘Caught in the global pay play’. An edited version of this article also appeared in The Canberra Times on 7 October.
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