Currently, there’s a greater focus by politicians and the public on income inequality, environmental issues, and diversity and inclusion, said Alan Johnson, managing partner at compensation consulting firm Johnson Associates. “I think those are not necessarily the traditional bank risk measures, but for a large, visible financial institution, they are going to be under more scrutiny, and it won’t be the traditional [risk issues such as] solvency.”

Rather than focusing on whether banks are lending to the wrong people or taking on unsustainable balance sheet risks, politicians are more likely to dig in on reputational risk and societal impact, Johnson said.

He expects a greater share of companies to introduce environmental, social and governance metrics, and particularly metrics having to do with diversity and inclusion, into their incentive plans for 2022. He said many companies are ascribing between 10% and 20% of annual bonuses to ESG.

Meanwhile, under rules by the Securities and Exchange Commission coming out of the 2007-2008 financial crisis, boards are required to probe compensation plans under their oversight duties with respect to enterprise risk management. For a large financial institution, most formal ERM reviews regarding compensation look at traditional balance sheet risk issues and the design of various incentive plans within the bank, Johnson said.

“The reputational risk is more at the executive level, and I think firms are trying to do that,” Johnson said. “The problem is, it’s a moving target…”

According to Johnson, well-designed incentive plans offer boards wide latitude to alter their course in the case of unexpected circumstances such as the pandemic, or reduce payouts when warranted. “If senior management messes up badly, they have the flexibility to pay dramatically less or fire them,” he said.

Agenda / September 20, 2021