Allissa Kline: (
Thank you. And welcome to this Leader's episode. My name is Allissa Kline and I'm a reporter for American Banker. I cover large and … regional banks and commercial and retail banking trends. With me today are Kelly Malafis and Sean Bisman from Compensation Advisory Partners, otherwise known as CAP. And we're going to spend some time today talking about trends in executive compensation at banks. Kelly is a founding partner of CAP with more than 20 years of experience in executive compensation consulting. Her areas of expertise include compensation strategy development, annual and long-term incentive plan design, compensation program governance and board of director compensation. Kelly has advised large and small publicly traded companies in several industries, including financial services. She has also provided advice on compensation issues for privately-held companies and companies with special circumstances, such as IPOs and spinoffs.
Allissa Kline: (
Sean is a principal at CAP with about 15 years of experience as a consultant to management and compensation committees. Sean provides, compensation consulting services to both public- and privately-held companies, assisting with corporate governance, peer group development, performance measurement, pay for performance validation, incentive plan design, and director compensation. With that, welcome to both of you and thank you for being here today. Kelly, let's get started with a brief overview of CAP. Can you talk a little bit about what CAP provides to financial services firms and the approach that CAP takes when it comes to advising banks on executive compensation?
Kelly Malafis: (
Sure, Allissa, thank you. We at CAP focus on the banking industry because we have a lot of clients in this area. And so as part of our offering to compensation committees and senior management teams, we track the trends and pay levels, incentive plan design and governance at banks, so that we can keep our clients informed of what's happening in this industry, in the market. And for 2022 specifically, we conducted a study of companies in banking that had at least $10 billion in assets and that filed their proxy statement by the end of April. And we came up with a sample of about 60 banks and we tracked for them pay and performance, focusing on CEO pay to get a sense of pay levels. And we looked at financial and stock price performance so that we can assess the relationship between pay and performance, but also looked at the use of ESG -- environmental, social and governance -- metrics and incentive plans, and also the use of retention awards for this year.
Allissa Kline: (
Great. Thank you so much. Sean, I know this is at least the second year that you all have looked at executive compensation trends when it comes to banks. Um, can you talk a little bit about why the firm is interested in looking at these trends and what the process is in terms of how you dive into that information?
Shaun Bisman: (
Sure. So as Kelly mentioned, we really focus on CEO pay levels and are the pay levels aligned with the financial performance and the stock performance of the company? And when you read headlines, companies or reporters typically focus on summary compensation table pay, and that's a bit misleading because there's a time disconnect in terms of when equity is awarded and when it needs to be recorded in the proxy statement. So for example, what we do is we look at, for 2021 for example, we'll look at the annual incentive payout for 2021 performance. And then we'll also look at the 2022 long-term incentive grants that are based off of 2021 performance. And the proxy doesn't necessarily pick up those 2022 grants until the following year. So we provide a more clear picture on CEO pay and how it tracked with CEO performance. And as Kelly mentioned, we look at trends that we're observing in the industry. So if you look at 2020, for example, a lot of companies made changes to their incentive plan design due to COVID. They made adjustments to their bonuses. Some companies made adjustments to the long-term incentive plans. So that was a key trend that we saw in 2020. In 2021, we focused more on retention awards, just given the war for talent.
Allissa Kline: (
Right. I want to talk more about those retention words in a little bit because that was, um, some interesting data that came out of your research this year. Um, I'm hoping that we can move onto or move into a question about, um, looking at 2020 data versus 2021 data in terms of what you found. Um, 2020, we all know, created a lot of volatility in the marketplace that was reflected, uh, in large part in bank CEO compensation packages, as we saw some bank boards and, um, compensation committees rely less on numbers, um, and formulas and more on their perceptions of how well bank CEOs led their banks, uh, through that phase of the pandemic. Um, so I'm wondering if you can, if you can talk a little bit about, um, expectations going into 2021 in terms of CEO pay versus what everybody had just experienced in 2020.
Kelly Malafis: (
Yeah, absolutely. 2020 was, was a very challenging year for all the reasons that you mentioned, Allissa. If we just think back to the timing of when incentive plans are established and when goals are set, part of the reason why companies in 2020 had to move away from the formulas and the numbers and use more of a rationale as to why payments should be made is because incentive plan goals and targets are typically set in the first quarter of the year. So when those goals were set in 2020, the, um, impact of the pandemic was not yet known and it evolved over the course of the year and therefore companies did have to step away from looking at their formulas and say, well, how did we manage through this? How did we treat our customers, our employees, our communities, et cetera, to determine what incentives should look like.
Kelly Malafis: (
So going into 2021, um, companies did not want to abandon using a goal-attainment or a formula-based approach for 2021 given that there was a little bit more certainty than the beginning of 2020. But there were also some lessons learned from the prior year, right? So companies wanted to make sure they had the right metrics in place. So we saw a review of what are the metrics we're using, which ones are more predictable, which ones are still uncertain in the 2021 environment. We also saw companies increasing the use of relative performance assessments in incentive plan designs because, if we're all facing the same challenges, how did we deal with them relative to our peers? In terms of the targets and the thresholds and the maximums, how we set our goals, how difficult they are or what's the minimum level of performance. We saw companies look at that range and say, is there enough flexibility on the upside and the downside to accommodate for uncertainty? And finally, we did see some organizations formalize the use of discretion or qualitative judgment in their incentive plan decisions. They used it in 2020, but probably it wasn't baked into the programs. For 2021, we did see a few more companies putting it as part of the overall program upfront.
Allissa Kline: (
Great. Thank you. Um, let's talk about some of the big picture findings that came out of the research that you did this spring with those proxy statements. Um, let's see, CAP's research shows that total direct compensation rose, um, 21.5% in 2021 to those bank CEOs that you analyzed. That's compared to 5% the previous year. Um, Sean, maybe you can talk a little bit about what some of the key factors are that drove that double digit, year-over-year increase.
Shaun Bisman: (
Sure. So this is really the time for banks to increase compensation, just given the strong financial performance banks had in 2021. So specifically banks were extremely profitable from an earnings perspective, returns were high year over year, strong basis points improvement and also stock price performance was very strong on a one-year basis for, uh, 2021. So between the financial performance, the war for talent and really the executives leading the banks through COVID -- surviving, implementing the PPP and other government stimulus plans -- compensation committees really wanted to reward these executives for the financial performance and the hard work in 2021. And specifically, if you dive into some of the numbers, the bonuses were up significantly year over year and so were long-term incentives, which really drove the increases year over year. And then if you look at 2020, as Kelly mentioned, you know, goals were set in the beginning of 2020 pre-pandemic. So those goals were thrown out the window and companies' compensation committees were really reluctant to really pay above target and increase incentives in 2020. So we saw companies really take the reverse approach and increase pay levels in 2021.
Allissa Kline: (
Right. So it was the time to do it, given all of the circumstances in the marketplace. I want to drill down and focus on two of those, um, executive pay compensation components that you just mentioned, um, bonuses and long-term incentive pay. Can you talk about whether those, uh, dig a little deeper into whether those were up or down for 2021 and and why they might have been up or down?
Kelly Malafis: (
Sure. Um, when we look at those two components specifically, we found that the vast majority of companies in the sample did make increases to both the annual and the long-term. So 80% of the companies had increases. But what was really interesting was the annual incentives, the cash incentives, were up 46% and the long-term incentives were up 10% and the increase in the annual incentives was supported by the improvement in financial performance that many of the banks saw in 2021 versus 2020. When we look at companies that have what we call a "goal attainment plan," so if you achieve your target performance, you receive 100% of your target bonus, we found at median that the banks paid 140% of target. That's compared to the median in last year's study of 95% of target. So a big increase in performance, a big increase in payouts and part of the reason, um, the performance was up was just a faster economic recovery than many anticipated.
Kelly Malafis: (
Again, I think going into 2021, it was still unclear how the year would play out, but also in banking the numbers were increased because of provision releases. Um, so 2022 may look a little bit different, you know we're still halfway through the year, but it was really the strong financial performance supported the increased payouts on the cash side and the long-term incentives tend to be more of a steady increase. Um, you know, last year when we looked at LTI, long-term incentive increases, they were single digits up because that tends to focus around what market levels are. So we're not surprised that there was that vast difference based on performance between the annual and the long-term.
Allissa Kline: (
Great. Um, I'm curious, were there any differences in, um, CEO pay trends when you looked at large banks versus smaller banks?
Shaun Bisman: (
Yeah. So the larger banks in our sample, and we could categorize those banks as greater than $50 billion in assets, their compensation increased about 23% year over year versus smaller banks with, uh, less than $50 billion in assets. They were about 19 or 20% year over year. And that was really driven by the larger banks had stronger financial performance in 2021 verses 2020 compared to the smaller banks. And the larger banks are more significantly impacted by, uh, provisioning as Kelly mentioned, which impacted their financial performance in 2020. But another factor that, um, correlates to why the larger banks had higher pay levels in 2021 versus 2020 versus smaller banks is really by the different incentive models. The larger banks, or really the Wall Street banks, have a one-incentive discretionary incentive model, which essentially means that there's one component and based on performance, the incentives are allocated to a cash and a long-term incentive.
Shaun Bisman: (
So that really leads to more volatility year over year in payouts, where some of the smaller banks, as Kelly mentioned, they have a goal attainment plan for the annual plan. So formulaic tied to, um, qualitative and quantitative goals. And then their long-term incentive is generally market-driven. So performance really doesn't factor into the long-term incentive decisions year over year. It's really driven by the market median or what's competitive. What are our peers paying? So even if you have a poor year financially, you still may get that competitive market median long-term incentive, whereas the larger Wall Street banks, or the one-incentive model, that long-term incentive could decrease significantly year over year, if the bank has a bad year.
Allissa Kline: (
Right. Interesting. Um, I want to go back to something I think Kelly mentioned earlier, uh, retention awards. Um, that was one of the most interesting things to come out of the research this year and retention awards are exactly, uh, what they sound like. They're meant to keep people around by promising a financial reward. Um, let's see, your research this year showed that I think about 14 of the 59 banks that you analyzed paid out some sort of retention award for 2021 performance. Can you talk about, um, what those awards are, what form they were distributed in and why some banks may have felt the need to make those grants this year for 2021.
Kelly Malafis: (
Absolutely. So as you mentioned, Allissa, retention awards are granted to keep key talent around and they're meant to be a one-time award. They're not built into the core incentive compensation program. It's a message that, um, if you, if you stick around, we'll pay you for it. And we have seen an increased use of retention awards in the banking industry across all levels. The statistics that you cited are at the CEO level, um, the executive level and those came in the form most often in stock with a vesting criteria. Some of the companies also had performance criteria added to the vesting criteria and we also saw a few doing deferred cash. Um, part of the reason why companies would add performance criteria to a retention award is that, um, investors and proxy advisory firms view awards with performance to be more palatable than time-vested awards. Proxy advisory firms generally do not like these one-time awards.
Kelly Malafis: (
So companies will sometimes add performance measures, um, because it's better received in the market. But why they would do it at the senior executive levels on top of the core package, a couple of things have been happening. One, as we've talked about, the performance -- both the financial and the stock price performance in 2021 -- was very strong and when performance is strong, the desire to compensate, motivate and retain is higher. And just everything that companies have gone through with the pandemic work environment, the tight labor market, companies wanted to get ahead of these issues and have stability in their leadership, and so granted retention awards to recognize the strong performance in this very challenging environment and keep stability in the leadership team as they move forward. That's what we have seen why the most senior executives are getting some of these awards.
Allissa Kline: (
Do you have any sense that we'll see similar awards granted for 2022 performance or was, uh, 2021 an outlier?
Shaun Bisman: (
Yeah, I would say I think 2021 is an outlier. If you look at stock price performance to date for banks, stocks are down generally about 20%, consistent with the S&P 500. Banks aren't as profitable year-to-date compared to 2021. So it's really tough for compensation committees and management teams to justify some of these retention awards. So I don't expect as many banks to make these retention awards in 2022. However, uh, last Friday, PNC Financial filed an 8-K and they granted three retention awards to three, um, named executive officers, ranging from about $5 to $11 million. So I was a bit surprised probably that, um, the magnitude of the awards, but I don't expect as many companies or really banks to be granting retention awards in 2022.
Allissa Kline: (
Hmm. Okay. Um, I know we're only halfway through the year and a lot can happen between now and next January, but do either you feel comfortable making any predictions on what we'll see in 2022, in terms of bank CEO pay or other general compensation trends?
Kelly Malafis: (
Sure. Um, you're right, Allissa. We can predict, but we can't guarantee that what we say is going to come to fruition. But if we had to think about pay levels and how those will play out, um, I would think that the long-term incentives would continue to be in the single digits, up to 10% potentially. Um, we don't expect that to drop significantly or increase significantly. The annual incentives will be correlated to the financial performance. It's a part of the way financial services tends to work, that when you're performing, you know, you pay up, but when you're not, um, we do see that variation. So depending on how the financials come out, we think that the annual incentives will fluctuate with that. You know, when we think about pay design, the financial metrics, the stock price metrics that companies are using, I think will continue to be important and prominent. But the trend that we're seeing in the use of ESG metrics in incentive plans, I also think more and more companies will include it in some form, even if it's just part of an individual component, just given the focus that the financial services industry has on ESG and human capital in particular.
Kelly Malafis: (
I think we'll see more of that. Sean, is there anything you want to add to that?
Shaun Bisman: (
I think outside maybe the top-of-the-house or the executive level companies are really focusing on the employee value proposition. So what does it mean to work for an organization? What do employees value? So other than, say, the compensation. So salary, we're gonna see probably increases higher than the 3% that we typically see year over year. Um, outside the bonus plans, we may see bonuses or one-time bonuses awarded deeper down in the organization. Long-term incentives, expanding the eligibility to non-eligible participants. And then putting again the money aside, more perquisites and benefits, sabbatical, time off to care for a pet or someone that passed away, more hybrid or flexible work environment. So really what's important to the person. So maybe the compensation is what gets you in the door, but culture is what keeps you. So I think companies are really gonna focus really on the employees and maybe it's not going to make it into the proxy statement. But at least at all the compensation committee meetings that Kelly and I are attending this year, committees management are really looking at the total rewards perspective at the entire organization.
Allissa Kline: (
Right, right. I think you're right. I think we'll see that, um, across more than just financial services, right? That'll be something that goes across all industries in terms of looking at the total package. Great. Thank you both so much. This was an interesting conversation and I really look forward to your analysis next spring when you look at companies again. Thank you, Sean and Kelly, for your time today. I appreciate it.