BEARing a poisoned fruit

Well-intentioned reforms on bank executive compensation will likely cause more problems than they solve.

Commonwealth Bank's (ASX:CBA) alleged infringements of anti-money laundering laws have had the expected result. Like with any scandal, a scapegoat had to be found and excoriated and, given he is ultimately responsible, chief executive Ian Narev has ‘retired' effective next year.

However, although two board members have also retired, chairman Catherine Livingstone and the rest of the Board remain. Yet if Ian Narev ‘retired' because he allegedly didn't ensure his subordinates did their jobs, based on the same logic shouldn't the Board as a whole – and the chairman in particular – also ‘retire' because they didn't do their jobs of keeping the chief executive himself accountable?

BEAR reforms

In any case, unfortunately this debacle has given the government added impetus to rush through well-intentioned but, in my view, misguided reforms on bank executives and their compensation.

These reforms are the Banking Executive Accountability Regime (BEAR).

Among the main requirements of BEAR is that at least 40% of variable or incentive pay – and up to 60% for chief executives – must be deferred for at least four years. While the big banks typically defer 50% or more of annual and long-term incentives, they usually do so for shorter periods.  

While it makes sense to encourage executives to take a longer-term perspective, requiring even longer deferral periods will actually reduce the value of incentive or variable compensation.

So I'd expect these reforms to actually increase the level of variable or incentive compensation required to attract executives. This probably won't go down well with a political class and general public that thinks bank executives are already overpaid.  

If anything, though, BEAR will just encourage chief executives and their banks' remuneration committees to increase the level of fixed pay, achieving precisely the opposite of what the BEAR regime hopes to accomplish.

And although the proposed reforms give APRA the power to require banks to adjust their remuneration policies if APRA believes they aren't appropriate, what qualifies as appropriate is anyone's guess.

UnBEARable

Amongst other things, banks are also required to register their executives with APRA and first inform APRA of any proposed appointments in case ASIC disapproves of the proposed appointment.

So let's assume you're a candidate to become the chief executive of either CBA or BHP (ASX:BHP). If you know you're going to be subject to the BEAR regime, while also being subject to continuing rancour from a hostile political class and media, why on Earth would you choose CBA?

And even if you were a glutton for punishment, wouldn't you require more combined pay than you'd receive at BHP to compensate?

Despite all the supposed outrage about the widening gap between the pay of chief executives and lower-ranked employees, in reality there's a very limited number of men and women who can successfully run large companies. The BEAR reforms will further limit that talent pool, which is surely a poor result, espeically given that the big banks will likely be bailed out by taxpayers should things turn south.

So what's my solution?

Like a lot of things in life, unfortunately there isn't an ideal solution. But passing yet another law to deal with a problem – and doing so extremely hastily – is probably the worst solution of all (I'm looking at you Sarbanes Oxley).

Like the poor, bad actors will always be with us, in banking and elsewhere.

So I'd back increased expectations of bank executive behaviour and board oversight, along with some pressure from large shareholders and proxy advisors from time to time, over the BEAR reforms any day.

Disclosure: The author doesn't own any shares in the big banks (or any bank, for that matter). 

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