Shareholders should control bank bosses’ pay better

The best-paid football manager in the world is paid 2.5 times that of the 10th ranked, but the best-paid bank chief executive is paid over five times more than his peers.

This dispersion seems counterintuitive: football managers’ pay is highly opaque and usually negotiated in private deals with one or two owners, but bank chief executive pay is decided by a mass of shareholders in the public forum of the annual general meeting.

Nor are football club owners famous for thinking in terms of shareholder value when it comes to managers’ wages. This would suggest that bank shareholders are relatively poor at exerting control over chief executives’ pay.

Part of the explanation lies in the fact that although the leading US and European banks compete head to head globally, their shareholders seem to vote on pay locally.

The highest-paid bank chief executive in the US gets just over two times more than the lowest-paid chief executive of a big US bank; pretty similar to the world’s football managers.

Similarly, the highest-paid bank chief executive in Europe receives 2.8 times more than the lowest paid.

So the gap says more about the US versus Europe pay dispersion (an average of $20m versus $8m for the big bank chief executives) than it does about individuals.

This gap has always existed, although post-crisis limits on bonuses in the EU have exacerbated the trend.

In fact, this difference in headline pay is not the most important consideration for shareholders. JPMorgan, the US bank, and French rival BNP Paribas are peers who compete in many businesses globally. Yet JPMorgan’s chief executive was paid $28m in 2016, while BNP’s was paid $5m.

It is hard to say which of these two individuals is more motivated to do a good job for shareholders simply on the basis of absolute remuneration. Other factors can be more important than pay in such prestigious roles.

Moreover, both numbers represent tiny percentages of the banks’ annual profits — 0.13 per cent at JPMorgan and 0.07 per cent at BNP — so would shareholders be that much better off if the chief executives’ pay were cut by, say, 20 per cent?

The more important point is the need to align bank chief executive pay with shareholders’ interests. Fortunately a consensus seems to be emerging that longer-term incentive plans (LTIPs) are better aligned with shareholders’ interests than annual bonuses.

Around 60 per cent of the variable remuneration for the chief executives of big US and European banks is now paid in LTIPs. These typically pay out only if certain performance thresholds are met over a three-year period. Chief executives are therefore required to re-earn a large proportion of their annual bonuses.

However, here too shareholders seem to be failing to exert appropriately demanding influence on bank chief executives’ remuneration schemes. The types of thresholds vary too widely, as do the ambition of performance targets.

In terms of the type of thresholds, almost half of the leading US and European banks’ LTIP schemes use total shareholder return, a measure of share price appreciation plus dividends, as a significant factor in determining chief executive pay.

Yet TSR simply measures shareholder returns after the event, rather than contributing towards generating these returns.

Likewise there is significant dispersion in the calibration of LTIP payout targets. UBS has a stated return on equity target of 15 per cent, yet the LTIP for its chief executive pays out fully if an 8 per cent ROE is achieved.

Citigroup has a stated 10 per cent ROE target, but its chief executive only gets paid the maximum bonus if an ROE of 14 per cent is achieved. Similar targets, but very different levels of ambition.

AGM season at many of the world’s largest banks plays out over the next month. A shareholder revolt is looming at Credit Suisse, and new remuneration plans are up for approval at both Barclays and Deutsche Bank.

These events will generate lots of headlines, and therefore suggest that shareholders are exerting a strong influence on bank chief executive pay. But the facts — in terms of dispersion in pay, variance in compensation scheme design and calibration — would suggest that there is much more that shareholders can achieve if they think globally rather than locally.

Stuart Graham is the chief executive of Autonomous Research, an independent research provider

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