Two documents focussing on remuneration and firm culture have been published:
- Financial Stability Board (FSB) Consultation for guidance on their 2009 Principles and Standards on Sound Compensation Practices; and
- Banking Standards Board (BSB) 2016/17 Annual Review
The theme of the two documents is focussing on firm culture and accountability.
The 2009 FSB Principles and Standards on Sound Compensation Practices established a range of compensation principles that were replicated in CRD III (and later, CRD IV) and other EU remuneration regulations.
The Principles and Standards require compensation to be adjusted for all risk types, emphasising that subdued or negative financial performance should generally lead to a considerable contraction of the firm’s total variable remuneration, taking into account both current compensation and reductions in payouts of amounts previously awarded, including through malus or clawback arrangements.
The FSB has prepared guidance setting out ‘best practice’ concerning the link between compensation and conduct, addressing:
- the full range of responsibility for conduct issues arising from firm culture and commitment to ethical conduct, including ultimate responsibility of the board;
- integration of non-financial considerations relating to conduct in a balanced approach to performance assessment and compensation;
- alignment of compensation incentives over longer periods to allow any misconduct risk to materialise;
- the use of transparent, consistent and fair compensation policies and procedures that establish clear expectations and accountability for conduct; and
- supervisory expectations for supervisors to monitor and assess the effectiveness of firms’ compensation policies and procedures in managing misconduct risk.
The FSB is seeking responses by 30 August 2017, after which formal guidance will be produced.
The FSB Principles set out the basic structure replicated by many of the remuneration regulations impacting firms operating within the EU, as well as similar regulatory structures outside of the EU. The guidance does not set out additional Principles or Standards, but instead provides ‘best practice’ recommendations that firms should consider.
The focus on non-financial measures, full range of responsibility for conduct and culture and alignment of compensation over longer periods is in line most of the existing EU regulations and is particularly in line with the UK regulators’ approach.
For those firms already complying with the relevant EU regulations, we do not expect the additional guidance to require any major changes but we recommend that you compare your existing policies and practices against the recommendations to identify any potential gaps against the FSB’s ‘best practice’ approach.
UK’s BSB Annual Review 2016/2017
The BSB was set up in the UK to work with its member firms to build trustworthiness in the sector. 22 banks, both UK and overseas are members. The BSB has published their first annual review painting a picture of the banking sector based on views from more than 28,000 people working in banks operating in the UK and UK building societies. The review focusses, in part, on creating a culture of responsibility and accountability within firms, rather than a culture of blame.
Many participant firms have worked to link the remuneration process strongly to behaviours in line with the firms values, including:
- removal of sales targets from frontline employees;
- the use of balanced scorecards; and/or
- taking into account behavioural objectives, as well as business targets.
Employees welcomed the greater importance of behavioural objectives in performance review and remuneration, and thought that this resulted in better behaviour, but said they find it more difficult to assess and measure success in this way.
In a small number of firms, focus group participants said that sales targets remained implicit through the retention of business targets for their managers.
Employees, executives and board members (including Remuneration Committee Chairmen) across many firms described remuneration policies at their firm and across the sector as too complex, with employees in several firms describing their firms’ remuneration and reward policies as confusing and over-engineered. In particular, the links between different elements of performance assessment, fixed pay and variable pay was found to be confusing.
The BSB will focus on the topics covered in the report over the next year, including the alignment of values an strategy and issues relating to remuneration and reward, picking up themes that emerged around sales targets and incentives.
We also understand that the 2017 review is currently taking place.
BSB’s Annual Review does not establish rules or guidance but illustrates the renewed regulatory and industry focus on firm culture. The recent PRA Remuneration Supervisory Statement, the MiFID II remuneration regulations and the FSB Guidance noted above have elements which focus on culture. There is a particular focus on the accountability of the management body – in most banks, the board of directors – for culture as the body ultimately responsible for the oversight and approval of remuneration policies. In relation to PRA firms there is a drive for the extension of malus and clawback from culpable individuals to those individuals responsible for those culpable individuals and to individuals responsible for setting firm culture. While this is first BSB Annual Review, future documents will be useful for identifying trends in firm culture over the next few years.
If you would like to discuss either of these documents, please do contact us.
Janet and Matthew