Financial Services Authority (UK) Update: new rules released on bank bonuses

I have written earlier about the U.K. government regulating banking bonuses. Then, Prime Minister Brown announced support for a proposal to withhold banker bonuses for up to a period of five years. Yesterday, the Financial Services Authority ("FSA") published new rules on banker pay, forfeiting both the proposed withholding period and the concept of tying bonuses to bank performance. What the new rules do achieve: prohibition of guaranteed multi-year bonuses, and encouragement of senior level employees’ bonuses being spread over periods of two and three years (that’s right – the second achievement is not a rule as much it is an aspirational objective).

Rules apply to financial institutions head-quartered in Britain. Non-British firms are exempt (unless they have capital in excess of $ 1.6 billion). Firms must submit a remuneration policy statement to the FSA by October. Bank failure to comply results in a fine or a forced higher capital requirement (as the award of larger bonuses suggests more risk-taking). The new rules come into affect January 2010.

Interesting. Bankers in the U.K. are using the same whine as bankers in the U.S.: if you curb our bonuses, we will go. So where are these other financial centers all these immigrating bankers are headed to? Those locales don't have pols at the podium talking legislation on compensation? And if it was so easy to pick-up and go to an other locale, why haven't these bankers done so yet?

Toothless? This seems a pretty meager effort at best, or perhaps a pacifying gesture (as expectations from the G20 meeting in April required participants to do something)? Although I have to applaud the higher capital requirement banks would be subject to if they fail to come into compliance. This seems a novel approach to the boogeyman identified by governments around the world: excessive risk-taking. In fact, it addresses it squarely by indicating those firms which choose a riskier business strategy must retain a larger cushion to break any fall. Too, the threat of a higher capital requirement leaves the ultimate compensation decision to the bank; the board and compensation committees (or remuneration committees in the U.K.) can determine what the give-and-take is to retain top talent, but then have less liquidity available for that talent to turnover into profits.

U.K. Say-On-Pay and Shareholder Empowerment

There has been some significant movement in executive pay this week: the House voted Friday to pass the say-on-pay bill that was produced by its Financial Services Committee. In light of the successful vote, I wanted to briefly follow-up with discussion of say-on-pay, as legislated in the U.K.

The Directors’ Remuneration Report Regulations came into affect in 2002, requiring among other things, that shareholders be afforded a non-binding vote on executive compensation. Only U.K. corporations listed in “major” stock exchanges are required to make public an executive compensation report. The report, then, is subject to vote at the annual shareholder meeting. Compensation data disclosed includes salary, equity compensation, and severance payments.

The results of the U.K. legislation have been scrutinized by critics as mixed. It has frequently been reported as effective in instances such as Glaxo Smith Kline in 2003. There, shareholders voted by simple majority to reject a substantial severance package for an executive who had widely been regarded as unsuccessful in recent years. However, the trend in U.K. executive salary shows continued increases over the seven year period following enactment.

Several thoughts come to mind in light of this criticism. Among them, say-on-pay is frequently advocated as a shareholder empowerment tool; permitting shareholders a more potent voice in interacting with the corporation’s board on matters of the corporation’s resources and an executive’s performance. To strictly treat it as a means of ensuring low executive pay disregards the potential for improvement in shareholder interaction and cooperation. So statistics that merely tell me that U.K. executive pay increased over a period years confuses me. Is that an accurate measurement of the success of the legislation? Has anyone asked if the shareholders felt more empowered – both over the issue of executive compensation and as a matter of ownership within the corporate structure? Was corporate governance improved as result of the enhanced interaction? Too, presumably these statistical increases have taken into account inflationary factors, as well as the culture of the years preceding our current economic crisis (for if I recall correctly, everyone was making a lot of money at the time, and no one had a problem with it – shareholders or executives).

A recent Time’s article discussed Aflac’s supporting the idea of shareholder empowerment. Not as a means to limit executive pay, per se, but as a means to specifically improve shareholder relations. The counter argument, and frequent defense, is that shareholders already are empowered with tools to counter any problems they may have with the compensation packages awarded. That is, they can vote-off any director from the board that they disagree with, including decisions concerning executive compensation. Too, data reveals that despite the current drama engendered by the say-on-pay movement, among the nearly two dozen American corporations that have voluntarily empowered say-on-pay votes, none have experienced a successful shareholder rejection of an executive compensation package.

Out of interest, it should be noted that American say-on-pay legislation is not as strict as it could be. Similar legislation adopted in the Netherlands (2004), Sweden (2006), Norway (2007), Spain (2008), and France (2009) all require a binding shareholder vote on compensation packages.

(Photo courtesy of Petre Kratochvil).

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Executive compensation passé? United Kingdom doesn't think so.

Last week AIG announced it was making bonus payments for various employees' 2008 performance. Treasury spokespeople commented about Compensation Czar Feinberg's approach to the matter, but given his 2009 appointment, any intervention he may attempt would be considered retroactive and inappropriate. AIG's announcement garnered little attention, as did the news of Goldman Sachs' intention to pay higher executive compensation in light of the firm's recent earnings release.

And so Politico wonders, "Where's the outrage?" In the United Kingdom, apparently. United Kingdom Prime Minister Gordon Brown has announced the U.K. government will adopt laws that will withhold bonuses paid to traders and executives, for a period of up to five years. In fairness, the move does echo public statements made by U.S. Treasury Secretary Tim Geithner and House Financial Services Committee Chair Barney Frank (D - Mass): alter the incentivizing structure of finance professionals to temper their risk-taking; to promote a more long-term approach to finance. It is also reported Brown supports proposals to limit trader compensation to amounts earned by the bank's board members, and to compel banks to publicly disclose trader compensation (though in anonymous "bands"). Although the U.K. committed public funds to assist a handful of financial actors in the recent economic snap - $ 2.3 trillion - the laws and proposals would be applicable to all financial institutions based in the U.K., as well as foreign-owned firms with operations in Britain.

The proposals are contained in a report commissioned by the U.K. government and written by former executive director of the Bank of England, Sir David Walker. Among the internal governance suggestions Walker makes: change the culture of the banking industry by promoting non-executive directors. These non-executive directors, screened by the British regulator (FSA), would chair the banks' risk committees and be a counter weight - in American parlance, a check and balance - to the banks' CEOs.

Walker will continue his investigation and analysis through the summer and fall, submitting a final November 2009 report. There is no reported timeline for Brown's anticipated bonus hold-back legislation.