The future of executive compensation: where to from here?

This article considers the way in which executive compensation in the UK, France, Germany the US and Hong Kong has been affected by the financial crisis, and, more particularly, by the reforms to the banking industry's compensation and remuneration packages, and asks lawyers for their predictions for the future of executive compensation in the short and long term.

Aditi Mene, PLC Cross-border

Since the financial crisis and subsequent taxpayer-funded bank bail-out, the structure and amount of bankers’ remuneration has come under intense scrutiny. Press and public outrage over reckless risk taking incentivised by hefty bonuses for bankers has prompted swift reactions from governments and regulatory authorities. The scrutiny of the finance sector has had a knock-on effect on executive compensation and bonus packages for companies in non-financial sectors, and has prompted boards of directors around the globe to reassess their remuneration policies.

This article examines the ways in which executive pay in the UK, France, Germany, the US and Hong Kong has been affected by the banking sector’s compensation and bonus package reforms, and asks lawyers for their predictions about the future direction of executive compensation.


UK reforms to bankers' pay

In 2008, Lord Turner, chairman of the Financial Services Authority (FSA), the UK financial services regulator, was commissioned by Chancellor Alastair Darling to conduct an inquiry into the causes of the financial crisis, and to put forward recommendations for regulatory reform of the banking sector.

The Turner Review (Review), published in March 2009, noted that there was a "strong prima facie case that inappropriate incentive structures played a role in encouraging behaviour which contributed to the financial crisis" and that the activities which were being rewarded "seemed profit making at the time but subsequently proved harmful" (see The Turner Review, Chapter Two: What to do?, section 2.5 (ii), page 80,

The Review also noted that the FSA and bank regulators had previously paid little or no attention to pay and incentive structures and the way in which these encouraged risky behaviour.

As a result, the Review recommended that the FSA should be more mindful of the risks that remuneration policies can create, and that it should enforce key principles set out within a remuneration code. Consequently, the FSA published a draft remuneration code on 18 March 2009 (CP09/10) (see FSA consultation paper, Reforming remuneration practices in financial services,, which was open for consultation. The draft code included a general requirement that firms' remuneration policies should be consistent with effective risk management, and provided ten principles to support this.

A remuneration code

Following this consultation, the FSA published its final policy statement on remuneration practices on 12 August 2009 called "Reforming remuneration practices in financial services" (see FSA policy statement, Reforming remuneration practices in financial services, PS09/16, This document confirmed the general requirement that firms must make sure that their remuneration policies and procedures are in line with risk management. The document also set out a number of principles, in the form of a remuneration code, to support the general requirement, such as:

  • Remuneration committees should be independent, and be made up of mostly non-executive directors.

  • Remuneration should be set in a clear and documented way, by risk managers and compliance officers.

  • Risk managers’ and compliance officers’ remuneration should be set independently.

  • Calculations of bonuses should reflect profit and current and future risk.

  • Remuneration based on employee performance should reflect long term performance.

  • Measurement of employee performance for long term incentive plans should also be based on non-financial performance, such as adherence to risk management and compliance with regulatory requirements.

  • Bonuses which make up the majority, or at least two thirds, of an employee’s remuneration should be deferred, with a deferral period of at least three years. The deferred bonus should be linked to future performance of the firm as a whole.

  • The remuneration code applies to large banks, building societies and broker dealers. The code was implemented on 1 January 2010.

Within this document, the FSA also noted that remuneration concerns raised wider corporate governance issues, and therefore it ensured that the remuneration code was aligned with the Walker Review (a report from HM Treasury on corporate governance in banks). The Chief Executive of the FSA, Hector Sants, also considered the way in which the code might sit within the EU and international financial landscape, and conceded that there was not yet international consensus on the issue of compensation, but that this was certainly needed in all major financial centres to ensure consistency.

He stated that international discussions were expected to take place in this first half of 2010, and that the code might need some minor amendments as a result (see FSA press release, FSA confirms introduction or remuneration code of practice, 12 August 2009,

According to the document, firms that do not follow the remuneration code will face enforcement action by the FSA, which may also force them to hold more capital. The document also noted that the FSA planned to publish a statement during the third quarter of 2010, which would assess the code’s effectiveness.

The FSA was criticised in the press for watering down its original draft code. There was also criticism of the fact that only UK banks, building societies and brokers are caught within the code - foreign banks with branches in the UK are not covered. This led to suggestions that the code would affect UK banks’ competitiveness and London's viability as a financial centre, and would lead to increased pressure on the UK government to push for some sort of international consensus on bankers' pay.

Monica Kurnatowska, a partner from Baker & McKenzie in London, thinks that "a consistent approach from all major jurisdictions is important", but also comments that key financial centres such as Germany and the US have taken similar approaches to key parts of the remuneration code on long-term performance and the deferral of bonuses.

The bonus tax

Following the remuneration code, the UK government also announced its intention to introduce a one off 50% tax on discretionary bonuses over GB£25,000 (about US$37,800), known as the Bank Payroll Tax (BPT) (see box, The Bank Payroll Tax).

Industry response

Media reports claim that many of the banks' attitudes towards bonuses have not changed since the announcement of the BPT, and that they have opted to pay the tax rather than reduce the size of their bonus pools. A number of banks announced their bonus plans in early 2010, and several, such as Goldman Sachs, Barclays and JP Morgan, announced large profits and correspondingly large bonus pools. However, Barclays announced that it would be restructuring bankers’ pay, reducing bonus pools and deferring bonuses.

The three British banks that were rescued by taxpayer money, the Royal Bank of Scotland (RBS), Lloyds Banking Group (Lloyds) and Northern Rock, were scrutinised by a Treasury select committee to justify their continued payment of large bonuses. Other reports emerged of shareholder anger over HSBC's decision to increase salaries for its top executives by 40%. Following this, a number of banks’ chief executives, such as Stephen Hester from RBS, Lloyds' chief executive Eric Daniels, Barclays' heads John Varley and Bob Diamond, and Michael Geoghegan, chief executive of HSBC, announced that they would be forfeiting their bonuses, or donating them to charity, in a public display of contrition.

Effect on the financial sector

According to Kurnatowska, one of the effects of the bank bonus furore is that some employers are increasing base salaries for some individuals, to make up for the lower bonus and incentive payments.

Banks are concerned about the impact on employee retention, particularly in light of the FSA’s guideline that guaranteed bonuses should not be given for longer than one year. Kurnatowska thinks that banks are concerned that they might lose talented individuals to other jurisdictions where there is no bonus tax, or with less strict rules about deferrals, long term performance conditions and guarantees.

She notes that "there is also a concern that key individuals will want their employers to relocate them to other jurisdictions". Kurnatowska says that, without a consistent international approach, "employers might have to conduct a balancing act between meeting regulatory requirements in the UK and retaining key individuals. Some banks may come under pressure from staff to think about whether it is possible to employ them overseas". While Kurnatowska predicts that this will not happen on a large scale, it is something that banks are nevertheless closely watching.


The effect on general executive pay

Against the backdrop of criticism of bankers’ pay and bonus structures, a parallel debate regarding executive pay packages has been taking place among the shareholders of a number of non-financial sector public companies. Examples include shareholder anger over the pay packages of chief executives at Anglo-Dutch oil company Royal Dutch Shell, UK retailer Marks and Spencer (M&S), and UK residential landlord Grainger.

Non-financial sector companies are increasingly seeking legal advice on executive pay issues, and are structuring their pay awards accordingly. Janet Cooper, a partner from Linklaters in London, has seen "a lot more awareness and increased sensitivity" from non-financial sector clients on executive remuneration issues.

Non-financial companies are certainly feeling the effects of the furore over bankers' pay. Jeremy Edwards, a partner at Baker & McKenzie in London, says that companies are "reacting to the furore by taking even more care on how their executive remuneration packages, in particular share incentives and other bonus incentive plans, are perceived by investors". One result of this has been fewer new remuneration packages and new share plans in 2009. Edwards thinks that this is because "companies are being cautious and keeping their heads below the parapet. Remuneration committees and investors are asking a lot of searching questions at the moment".

Edwards further notes that companies are becoming more aware of the notion of not increasing risk through their executive remuneration programmes. He says, "This was flagged by the FSA in the context of bankers, and is feeding through into the remuneration of executives in other sectors".

The remuneration guidelines of the Association of British Insurers (ABI) have been influential in setting remuneration standards for companies that are listed on the London Stock Exchange (see Executive remuneration- ABI guidelines on policies and practices, 15 December 2009, There have been relatively few changes to the ABI Guidelines in recent years. The focus has been much more on how companies implement their remuneration packages in practice.

This process was reflected in the ABI sending leading companies’ remuneration committees a position paper on executive remuneration on 15 December 2009 “to help them understand how shareholders expect the ABI Guidelines to be implemented in current conditions and to encourage constructive dialogue between Remuneration Committees and shareholders on the delivery of core principles” (see Institutional Voting Information Service, Executive remuneration - ABI position paper, 15 December 2009,

Edwards says some of the content of the ABI position paper has come directly from the FSA remuneration code, and so non-financial companies are certainly feeling the effects of the furore over bankers' pay. The ABI position paper also warns companies to take care before implementing tax efficient schemes, and states that any such schemes "should take account of the need not to incur extra costs through higher overall payments".

The ABI also warns that "shareholders are alert to the potential damage to their and the company’s reputation from implementing schemes that are clearly aimed at tax avoidance". Edwards notes that it is possible that many listed companies will be exploring how their share plans are structured in the light of increasing tax rates, but it is likely that it will only be a brave few that will decide to implement plans that could be perceived as tax aggressive.

Cooper points out that companies are very wary of investor attention. They are careful to ensure that their remuneration strategies are in line with business needs, and that they are communicating effectively with shareholders. Cooper states that a number of her FTSE 100 clients are particularly aware of the importance of keeping their investors informed before they publish their remuneration reports, "especially if there are changes which may give rise to questions or sensitivities which need to be discussed".

Wider effects on non-financial sectors

The changes to executive remuneration packages have also created a number of other issues for companies in the UK.

Competition from other jurisdictions. According to Cooper, new remuneration practices and the UK tax regime may impact employee retention rates and competition from overseas jurisdictions for non-financial companies as well as financial sector companies, especially the FTSE 100: "Employees moving abroad is a real risk, particularly as many of the executives in the FTSE 100 companies are highly mobile and not necessarily of British origin. Therefore they do not need to be based in the UK, and if the CEO moves out of the head office in the UK, it is probable that the staff who report to the CEO will also move".

Cooper concludes that a continued high rate of income tax for executives may force companies to take long term decisions about where their head offices should be. Other than moving to avoid tax, Cooper does not predict that companies will adopt tax avoidance structures: "Few FTSE 100 companies will adopt very tax aggressive products. They have a good standing with HMRC and they do not want to jeopardise that". Instead, Cooper thinks that companies may take more commercially driven solutions, which may mean that they move out of the UK. "In these days of virtual working, they are likely to look at such options," she adds.

Claw back provisions. Companies may be more likely to use claw back provisions to recall bonuses when there has been reckless behaviour or impropriety. Although this has been discussed in the context of banks, it is likely to become a feature of all executive remuneration going forward. Cooper thinks it is wise for companies to adopt such provisions: "From a corporate governance point of view, claw back is a good feature. It focuses staff on appropriate behaviour and enhances responsibility within the organisation. Even if the company never has to exercise it, such provisions send out a clear message that corporate responsibility is important". Adopting this approach may require a culture change within the organisation.

Discrimination and equal pay. Kurnatowska comments that, aside from the regulatory changes in response to the financial crisis, executive compensation packages are also coming under scrutiny in the increasing numbers of discrimination and equal pay cases being commenced. She notes that these issues are particularly sensitive for companies in the UK, with political interest from all parties, and the Equality and Human Rights Commission investigating whether there is a link between executive compensation and bonus policies and pay discrimination. Kurnatowska also notes that although discrimination claims have historically not been very common in most European jurisdictions as yet, she is beginning to see signs that this is changing.

Bonus litigation. Another issue that might arise as a result of the changes to executive compensation could be litigation related to discretionary and contractual bonus payments. An example of this includes the recent cases of bankers who were made redundant from Dresdner Kleinwort, and who won a High Court case against the bank for contractual bonuses that were owed to them (Fish and another v Dresdner Kleinwort Ltd, Hatzistenfanis and others v Dresdner Kleinwort Ltd and another [2009] EWHC 2246 (QB)). (See PLC Employment, Legal update, Fiduciary duties do not extend to a duty to give up contractual rights, 3 August 2009 ( , and The Times, New Dresdner bonus claim in High Court, 28 November 2009).

Kurnatowska thinks this could be an area with increased action over the next few years. Over the past few years, the trend in UK case law has tended to favour employers, at least in relation to discretionary bonuses. This is not the case in the rest of Europe however; in many countries, there is more limited scope to vary bonus and incentive payments.

Long term changes?

It is still too early to say whether the increased spotlight on remuneration packages will lead to long term changes, or merely short term trends adopted in light of the current recession.

According to Cooper, trends in remuneration change very quickly, but "to a certain extent the spotlight will always be on executive compensation, because the tension in corporate governance between directors running companies and investors who own the company will always exist". On the one hand, the directors want freedom to run the company and decide on the level of pay through the remuneration committee, but on the other hand investors seek to ensure that rewards are appropriate because they want value for money. However, Cooper acknowledges that investors want top performers in the business to deliver returns on their investment, and are clearly prepared to pay for them. "That is where the tension is," she says, "have the executives delivered the returns that investors were expecting?"


Executive compensation in Germany and France

While the position in Germany and France is broadly similar to the UK, there are key differences in national laws on compensation packages. Both Germany and France have enacted new laws on executive compensation since the financial crisis. The European Parliament has also been debating whether to introduce new rules regarding remuneration in the banking sector (see box, EU developments).

Germany: taking a long term view

In Germany, the reaction to the financial crisis and the issue of bankers’ pay was first dealt with through the enactment of laws and regulations in 2009 to stop banks and companies from encouraging risky behaviour through financial incentive schemes. The Act on the Appropriateness of Management Board Remuneration (Gesetz zur Angemessenheit der Vorstandsvergütung (VorstAG)) (Act) applies to stock corporations. In December 2009, the Circulars of the Federal Financial Supervisory Authority (BaFin) provided additional requirements in relation to remuneration in the financial industry. These circulars were based on the Financial Stability Board (FSB) Implementation Standards dated 25 September 2009 (see Financial Stability Board, Principles for Sound Compensation Practices, Implementation Standard, 25 September 2009) and a European Commission recommendation from April 2009, on the remuneration of directors from listed companies (see Official Journal of the European Union, Commission Recommendation of 30 April 2009, 2009/385/EC).

According to Stefan Lingemann, a partner from Gleiss Lutz in Germany, the key word for these laws is "sustainability". By this he means that compensation for board members must now be based on the long term performance and sustainability of the company, rather than short-term and risky deals. The long term performance of a company, in practice, should be at least three years. Lingemann notes that "we will see a change in behaviour very soon. However, the financial outcome for the board members will only be seen after at least three years, where if the company does well, the bonus can get paid out". He also notes that, conversely, if the company makes a loss in the third year because of the risky behaviour, "there is usually a claw back clause where the bonus will not be paid, or will be reduced".

Jochen Lessmann and Ruediger Hopfe, lawyers from Freshfields Bruckhaus Deringer LLP in Frankfurt, comment that although the Act only applies to stock corporations and the specific requirements only apply to listed companies, most other companies will probably be affected by it, and will be expected to follow the principles of deferring payment based on performance of the company. Lessmann says that the Act, along with the G20’s FSB Implementation Standard issued in September 2009, will encourage all companies to adopt principles of reasonable long term decision-making when it comes to setting remuneration.

In addition, the Act has created other duties for stock corporations. Hopfe states that a "levelling exercise" has been adopted, where companies have to make a comparison of salaries in companies within the same industry and set comparable reasonable compensation in their own companies (horizontal levelling). In addition, the salaries within a company have to be levelled (vertical levelling).

Lingemann adds that companies are starting to think about fixed ratios between the top end of salaries and other average employees as a means of setting appropriate pay. He cites the examples of BMW in Munich, which has an average salary of around EUR40,000 (about US$54,630) for most employees, and EUR1 million (about US$1.4 million) for board members, so a fixed factor of 25 has been set as the maximum ratio between the lowest paid employee and the most senior board members. Lingemann says that more companies are beginning to take this new development into account in deciding on board members' remuneration.

Commenting further, Lessmann points out that large German companies have a dual board structure comprising of management and supervisory boards. The supervisory boards, particularly in large companies, are made up of an equal mixture of shareholder representatives and employee representatives. Lessmann states that the Act has put all members of the supervisory board in charge of deciding remuneration for the management board.

Reactions to and effects of the Act. Reactions to the Act from the business community have been mixed. According to Lingemann, some legal commentators do not think the Act has gone far enough, and that it is not precise enough in its wording. However, he notes that for the law to be properly judged as a success or failure it needs to be considered in three years’ time, when a number of the deferred bonuses will either be paid out or not.

Other effects of the law are still difficult to discern. Lessmann notes that some commentators claim the law is having the opposite effect to what it intends. By making the levels of remuneration of board members more open and transparent, and comparable to other companies, it could encourage managers to ask for higher pay as a result, based on what their competitors are being paid.

However, in contrast to concerns in the UK about companies and banks losing talented staff to other less regulated jurisdictions, lawyers do not think this will be an issue.

The Act may give rise to a potential difficulty to do with the board members’ contracts, which remain valid under the Act. Supervisory boards have had to renegotiate these contracts, and while in most cases the board members accept the changes, according to Lingemann there may be instances where board members do not want to change their contracts. Lingemann says that litigation on this issue is not an option since it would be difficult to pursue and take too long; instead, he thinks supervisory boards are more likely to go to the press and expose any board members who are reluctant to accept the new rules.

Bonus tax unlikely. The German government enacted the new law at a politically expedient time - just before an election - when voters wanted to see action being taken against irresponsible bankers and executives. Despite this, Lingemann notes that there are no plans to tax bonuses, and the only limit being placed on remuneration is that it must be appropriate. Lessmann remarks that the BPT implemented in the UK is perceived as a "punishment tax" in Germany, and although such a tax has been discussed, it is unlikely to proceed because it may not be enforceable under the German constitution, which contains strict rules regarding special taxes.

France: performance conditions, profitability and a bonus tax

Before the financial crisis, and as early as 2003 (and continuing until December 2008), the French business community, through the Association Française des Entreprises Privées (AFEP) and the Mouvement des Enterprises Françaises (MEDEF), was already discussing the role of senior corporate officers, the remuneration of executive directors, and the corporate governance of listed companies. This resulted in a code of governance for listed companies in France, where the responsibilities of boards of directors were set out, as well as guidelines for determining executive directors’ remuneration (see European Corporate Governance Institute, AFEP/ MEDEF, Corporate governance code of listed corporations, December 2008).

Following the financial crisis, in March 2009, issues relating to executive and bankers’ compensation began to hit the headlines. These included reports regarding executives from bailed out French bank Société Générale, and the departing head of a struggling auto parts supplier company, Valeo, receiving millions of Euros in stock option bonuses and severance payments.

After public and government pressure, the executives at Société Générale agreed to pay back their bonuses, and the French Finance Minister, Christine Lagarde, indicated that more government oversight of bonuses might be needed.

The French President, Nicolas Sarkozy, also announced that severance payments, or “golden parachutes”, such as those paid to the former head of Valeo, which had laid off thousands of its staff and had government investment in it, needed to be curtailed (see France 24, Sarkozy blasts ‘golden parachute payments’, 24 March 2009,

Following the G20 summit in September 2009, in November 2009, Lagarde announced to the international media that new rules were being introduced to stop guaranteed bonuses being paid to banking professionals (see CNN Money, French bankers bid adieu to guaranteed bonuses, 5 November 2009, and The Guardian, Christine Lagarde: French model on the world stage, 6 November 2009,

Lagarde also reported that bonuses were to be subject to profitability and performance conditions, with claw back provisions. The bonuses also had to be spread out over at least three years, and the majority of large bonuses had to be deferred for a number of years and were to be subject to the performance and profitability of the banks in those intervening years. The payment should also not simply be cash, but should additionally consist of equity, such as the granting of stock options or free shares.

She stated that new employees benefiting from guaranteed bonuses should have these bonuses limited to one year only. Banks must publish the size of their bonus pools, along with the number of awarded bonuses, as well as the proportion of staff getting fixed and variable bonuses.

These new rules were contained within a government decree, published on 3 November 2009, on the remuneration of professionals whose activities may affect the risk exposure of financial institutions (see Official Journal of the French Republic, Government decree, 3 November 2009,

These provisions mirror those of the UK and Germany, and aim to achieve the same outcome of less risky and short-term behaviour within banks. France is even mirroring the UK in introducing a 50% bonus tax on bonuses over EUR27,500 (about US$37,700) (see The Financial Times, France follows UK on bank bonus tax, 10 December 2009,

Gwen Senlanne, a partner from Freshfields Bruckhaus Deringer LLP in Paris, comments that, apart from the pre-existing duties on senior corporate officers in the corporate governance code for listed companies, he is unaware of a direct knock-on effect of the compensation rules imposed on the banking sector on non-financial companies. He says that "for the time being, those sectors and employees that are not within the financial sector and not within the scope of the regulation have generally not felt the need to amend their current compensation policies to reflect these regulatory changes".

As in Germany, any changes to compensation payments, such as bonus deferrals or part cash and part equity payments, must be reflected and amended in employees’ current contracts. Senlanne notes that employee consent is needed before changes can be made to their contracts: "Employees are very unlikely to agree to changes that they are not obliged to agree to under regulations, so those executives not within the financial sector may not experience any changes to their compensation packages at all."

Further, because other sectors’ bonuses are often much lower than those paid out in the banking sector, and because the emphasis is on risk management, a question that mainly concerns the banking sector, Senlanne thinks that the rules may not need to be extended outside the banking sector anyway. Despite this, Senlanne points out that "there is a general trend towards more transparency and clarity in the way bonuses are paid in all companies in all sectors, as shown by recent French case law on discretionary bonuses".


The US position: pay restrictions and increased disclosure

US banks that received funds from the Troubled Asset Relief Program (TARP) are subject to a number of restrictions on their corporate governance and remuneration policies. These restrictions include:

  • Limiting annual salaries.

  • Restricting bonuses.

  • Claw back provisions.

  • More emphasis on performance-based pay.

  • Restrictions on "golden parachute" payments.

A "pay tsar", Kenneth Feinberg, was appointed to vet the compensation packages of TARP recipients.

In addition to the TARP requirements, in the aftermath of the financial crisis a number of different proposals emerged, to begin to address the issue of executive pay. These included proposals for new legislation in Congress allowing shareholders to cast a non-binding vote on executive pay, new principles for setting executive pay from bank regulators and the Federal Reserve, as well as various comments on appropriate executive compensation practices from the Obama administration.

Further, in December 2009, the Securities and Exchange Commission (SEC) adopted new rules on compensation disclosure in public companies. These rules require risk assessments to be carried out for compensation policies and practices, and increased disclosure of compensation practices to investors (see Securities and Exchange Commission, Proxy Disclosure Enhancements, 16 December 2009). According to Alessandra Murata, counsel at Skadden Arps Slate Meagher & Flom LLP in New York, "The new SEC rules indicate a new found focus on transparency in executive remuneration. People are becoming more aware of the risks surrounding excessive compensation. It is a direct result of the public uproar over what are perceived as irresponsible pay structures at the troubled banks that encouraged risky behaviour".

Sandra Cohen, a partner at Osler, Hoskin & Harcourt LLP in New York believes that one of the key issues that companies and banks now face is maintaining the delicate balance between setting appropriate and competitive compensation levels that are linked to performance, while not encouraging the short term gains produced by risky behaviour. “The increased focus on risk management was a key issue in setting compensation levels in 2009, and will continue to be so in 2010. Companies must be prepared to analyse the risks that are inherent in their incentive programmes,” she adds.

The beginning of a long term change?

Some lawyers think that the TARP restrictions, SEC rules and other developments could be the beginning of a long term change in the way executive pay is structured in the US. (Others take an alternate view: see below, Or business as usual once the market revives?)

Maura Ann McBreen, a partner from Baker & McKenzie in Chicago, points out that, since the financial crisis, "there has been a fundamental shift in the thinking of many Americans towards pay, and much less tolerance for sky high pay for the very few. Going forward it is likely that there will be more analysis of the pay gap between the highest earners in a company, and the lowest".

According to McBreen, the TARP restrictions in the banking sector have the potential to become "best practice" in other sectors. Some companies’ board members are already following the TARP guidelines when deciding on their compensation policies.

Shareholders are also weighing in on the debate. McBreen notes that institutional investor and shareholder advisory services, such as Risk-Metrics, have gained strength in the US. "These groups advise institutional investors on whether they should vote to approve compensation programmes and pay resolutions, and whether the companies are following good corporate governance principles." Risk-Metrics has devised a list of best practice principles, similar to the TARP restrictions, which has enabled shareholders to have a stronger and more decisive voice in deciding pay deals. "Shareholder advisory groups are forcing companies to take compensation and pay issues seriously," McBreen adds.

Cohen is already seeing some evidence of the new trends being implemented. "In M&A transactions executive level severance payments are generally getting smaller and bonuses worth three times base salary are becoming rarer," she says. Cohen also notes that buyers are doing more due diligence on the target’s risk management or risk profile relating to employee incentive programmes. Retention bonuses are being set at a longer term and are more focused on performance.

A new mindset

Robert Mignin, a partner from Baker & McKenzie in Chicago, says that rethinking compensation practices from a short-term gain perspective to a more long-term perspective may require "a fundamental change in the employment relationship, and a change to the way people value their own worth and companies value the worth of their employees".

McBreen and Mignin note that this change in outlook is not going to be easy for everyone, and that reactions to reform have varied. On the one hand, McBreen notes that many companies' boards and shareholders are keen to embrace a new way of assessing compensation, because "there is a feeling that things were too lenient before and that companies had agreed to pay structures that, in hindsight, they should not have agreed to". McBreen thinks that boards are beginning to feel they need to perform better as guardians of the shareholders.

However, on the other hand, she notes that companies' management and executives are much more reluctant to embrace the new changes to pay "because they are the ones whose pay is affected and who are having to get used to this sudden shift in thinking". McBreen says that, despite their resistance, managers and executives are going to have to learn to accept the changes: "some argue that executives could leave the US for jobs in less regulated jurisdictions, but I have seen little evidence of this and it is unlikely to happen on a large scale. People just need to adjust their expectations and understand that it is a new day".

Mignin also cites a possible generational shift taking place. He says that a number of the current CEOs and executives "are from a generation that was raised in a culture that values and expects year after year increases to compensation packages. Their culture and values are therefore attached to those expectations". He thinks that the new, younger group of executives may be more conscious of issues concerning disparity in pay and compensation, issues associated with excessive pay packages and the broader duties owed by management to shareholders. McBreen adds that one of the strengths in the US corporate environment is the way in which it adapts to change very quickly.

Or business as usual once the market revives?

However, there is an alternate view. Murata thinks that while a short term change in attitude has occurred, this will not necessarily translate to a long term or seismic shift, "For the short term, public companies are mindful of the way in which they reward their executives, as their compensation structures are now open to scrutiny and subject to risk assessments, but they are still looking for ways to retain and pay their CEOs and management with competitive packages."

Murata predicts that high executive remuneration packages will once again become the norm in the future, once the market and economy have revived, and companies’ performance and profits become more predictable.

In fact, Murata considers that the SEC’s new transparency rules could mean that executives will be carefully looking at each other’s pay packets and comparing them, which could ultimately increase competition and push salaries higher. Further, Murata notes that those employees who do not need to disclose their salaries are also more likely to push for a more competitive salary. "In the context of a bank, you can have individuals who are not executive officers, who are making more money than executive officers. These individuals are more likely to be bold in terms of their demands because their compensation is not disclosed and not transparent," she adds.

As a result, banks and companies are becoming increasingly concerned about the threat of staff leaving, particularly those organisations who rely on a small group of people to generate their profits. According to Murata, "they are already taking steps to mitigate this threat by paying people enough and by using the justification that they are keeping the company on track".

Further, Murata has not yet witnessed any non-financial companies using the TARP restrictions as best practice guidelines for their compensation policies. She notes that "the only companies complying with those rather technical and specific rules are those that have to".


Hong Kong: a spotlight on pay but fewer effects felt

The intense scrutiny of executive compensation in the West has shone a spotlight on pay and bonuses in Asia too. However, according to Duncan Abate, a partner from Mayer Brown JSM in Hong Kong, the issues have not been as controversial or heavily debated as they have been elsewhere. Jennifer Van Dale, a partner from Baker & McKenzie in Hong Kong, takes a similar view: "While Asia is likely to feel some effects from the uproar regarding pay in the West, by the time measures are implemented in Hong Kong they will be filtered down and ultimately diluted".

Abate thinks that one of the reasons why Hong Kong has not felt the full force of anti-bonus sentiment is because it has not experienced the depths of recession in the same way as Europe and the US: "The economy in Hong Kong is pretty buoyant, and the amount of deals that are being done is incredible given what is going on in the rest of the world".

Further, according to Abate, "there is not the same huge pay disparity between CEOs and rank and file employees in Hong Kong as there is in the US". Even so, companies and employers’ organisations have been discussing this issue: "The Employers’ Federation of Hong Kong has recently focused on the gap between pay for junior employees and pay for senior executives, and expressed some concern at both its size and the rate at which it is increasing".

At the end of October 2009, the Hong Kong Monetary Authority (HKMA) issued draft principles for authorised institutions (banks and financial institutions), where they are expected to reward value rather than risk. The HKMA finalised these remuneration guidelines in March 2010. Van Dale says that these principles follow the FSB guidelines, and banks will be expected to comply with them by the end of 2010 (see HKMA guideline on a sound remuneration system, 19 March 2010 .

The HKMA principles echo those of other regulators around the world in stating that bonuses should be deferred and made up of a mixture of cash and equity, and that guaranteed bonuses should be limited. They also reiterate the principle that compensation should reward long term performance and value, rather than short term risky behaviour, and expect institutions to explain how they structure their compensation packages. Van Dale says the principles "have some teeth", but acknowledges that "in Hong Kong, there is never going to be the same sort of outrage as on Main Street in the US. Hong Kong prides itself on adhering to free market principles and would not limit executive pay in the way they have attempted to in the West, for example". She also thinks that measures such as the high taxation of bonuses would never really take hold in Hong Kong, because, as a rule, it is a low tax jurisdiction.

In terms of corporate governance and shareholder scrutiny of executive pay, Van Dale is seeing more focus on companies' pay structures, but not to the same extent as in the West. She thinks this is partly due to the history of companies in Hong Kong, and their long-standing connections to the founders of these companies, as well as Hong Kong’s unique corporate culture.

Abate agrees, and comments that in general there is not the same negative attitude towards bankers in Hong Kong that there might be in London or New York. Banks in Hong Kong are generally perceived as being fairly sensible.

Despite this, Van Dale acknowledges that Hong Kong is changing: "Bank and company executive pay structures in Hong Kong will eventually be more out in the open, with increased transparency and shareholders and the public wanting to know more".


Where next?

Although the global financial crisis has pushed many of the major jurisdictions to implement changes to the way in which bank and other executives are paid, it is not yet clear whether a long term change has occurred in executive compensation policies. Until the effects of the changes to the laws and regulation are felt, perhaps in a number of years, the fast-moving debate on executive and bank compensation will continue around the world, with the politically and commercially sensitive issue continuing to divide the public and business community.


The Bank Payroll Tax

The Bank Payroll Tax (BPT) applies to bonuses paid between 9 December 2009 and 5 April 2010, and does not need to be paid until 31 August 2010. The BPT only applies to UK and foreign banks trading in the UK, and to “regulated activities” such as dealing in investments as principal or agent, accepting deposits, arranging deals in investments, and safeguarding and administering investments.

The French government is also introducing a similar tax. However, other major jurisdictions, such as the US and Germany, have decided not to implement similar provisions (see main text, Executive compensation in Germany and France and The US position: pay restrictions and increased disclosure). It is expected that the UK Treasury will gain around GB£2.5 billion (about US$3.8 billion) from the BPT, which is much higher than was previously estimated (see The Financial Times, Supertax pulls in £2.5 billion for UK Treasury, 4 March 2010,


EU developments

Members of the European Parliament, including a British Labour MEP, Arlene McCarthy, have discussed the possibility of amending, for the third time, the Capital Requirements Directive (Directive 2006/48/EC and Directive 2006/49/EC) (CRD) to ensure a better balance is struck between bonuses and salaries, with no more than 50% of bankers’ salaries to be made up of bonuses. There have also been suggestions that 50% of bonuses should be paid in shares, and that 40% of the bonus, or 60% where the bonus is particularly large, should be deferred for at least three years. Another proposal is to increase banking regulators’ powers to impose financial penalties on banks and firms with risky remuneration policies.

There have also been discussions proposing that banks and companies still in receipt of state aid should not be allowed to pay out bonuses to directors. These proposals follow the guidelines of the Financial Stability Board (FSB) and the European Commission. The member states proposing the amended CRD are hoping it will form the basis of a minimum set of principles on bank compensation to be followed by all member states. These amendments have yet to voted on by the European Parliament, and by member states. (See The Financial Times, MEPs seek tougher curbs on bankers’ bonuses, 8 March 2010,

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