The Financial Stability Board’s (FSB) set compensation guidelines following the global financial crisis are the basis for all G20 financial regulators’ pay supervision (see HERE).

The FSB’s Compensation Monitoring Contact Group (CMCG) monitors and reports on companies’ Implementation Standards (see HERE) for the board’s Principles of Sound Compensation Practices. See HERE for our summary on the Principles and Standards.

In November 2019 The CMCG met with 19 large international financial companies and representatives from trade associations and academia for a workshop. For four sessions, they discussed effectiveness of compensation policies, use of data in compensation, issues regarding law and regulation, and research into risk alignment and compensation.

The FSB recently published key takeaways from that workshop, which we summarise below.

1. Effectiveness

Some participating companies revealed they were already using metrics such as customer satisfaction to measure the effectiveness of their compensation policies and schemes. The companies also revealed how strong communication with employees was driving behavioural change and changes to company culture.

2. Risk alignment

The participating companies discussed how they have introduced and implemented non-financial metrics to encourage better conduct. However, they expressed difficulty in assessing the right ESG metrics to include in their frameworks, noting also that while non-financial metrics might adopt long-term views, investors might not necessarily have the same long-term focus.

3. Data use

Companies reported that the increased use of data improved compensation related decisions. New systems allowed for real-time analysis of compensation data, leading to improved decisions when considering bonuses and other rewards. The downside was that, due to the expensive and complicated nature of such systems, companies were not implementing them. They are relegated in terms of importance when allocating in-house investment.

4. Governance

The relatively heavier legislation and regulation of bank compensation has resulted in banks being in a more advanced state of embedding compensation policies and decisions in their governance policies. The participating companies also acknowledged that there was a need for the use of discretion, to the extent that it was allowed under a clear framework. The differing regulatory standards across jurisdictions has also made crafting one-size fit all compensation policies across borders an issue.

5. Compensation tools

The use of malus and clawback is stymied by legal difficulties and complexity. This has been a particularly difficult problem for Australian banks as they position their policies and executive employment contracts to incorporate the clawback requirement in APRA’s pending CPS 511 regulation, the release of which has been deferred until late September.

There is hesitation by companies to employ these tools, especially clawback. There is some progress with regard to employment law. For example, France and Germany are moving to make changes. Companies outside of the finance industry are beginning to implement tools, which could lead to legislative changes in other jurisdictions.

The companies noted that use of malus and clawback may have a negative impact on the future careers of employees. As such, careful consideration is given in terms of governance processes, which are inevitably time-consuming. Separately, the length of deferral could be extended, given new analysis has revealed the time it takes for misconduct to emerge.

6. Competition for talent

The financial industry may have lost its previous lustre and prestige as an employer of choice. Increasingly, potential employees weigh factors another than compensation more heavily when considering jobs. Some of these factors include ESG factors, culture and company purpose. Technological advances have led financial companies to hire from outside the sector more. This presents further challenges, not least in Australia. Non-financial sectors are not as heavily regulated as the finance industry, and as such, have pay structures that are not always compliant with the regulation imposed on financial companies. One side effect of deferral of elements of pay for prospective employees is to increase fixed and/or total compensation to match the cash heavy incentives offered by employers in other industries.

For more on the workshop, see HERE.

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