Sunday, 29 January 2012

The battle of the bonus

The argument about Stephen Hester's share award has been going on for the best part of a week now. Whilst many people will, with some justification, consider that one person's remuneration is being given far too much attention there are important issues underlying the argument.

First up, let's be fair to the Government. This was always going to be a very difficult issue. It is clearly in everyone's interest that RBS is run by a good team and turned around as quickly as possible. Should the Government apply political considerations even if this meant it might damage the bank? It was always, to steal from Galbraith, a choice between the unpalatable and the disastrous, as most political decisions are. The thing is it's also often not clear which is which.

But the Government has not covered itself in glory through its actions. For one it has changed its line on Hester's award several times. First up the implication was cleary that Cameron wanted a bonus of less than £1m. Coincidentally the share award RBS hit on came in at just under that level. The line shifted though. Some in the Government (Nick Clegg for example) tried to deny that they had any choice, and that there was some kind of contractual obligation to make an award. This was blamed on Labour. This is patently dishonest for several reasons. Directors' contracts typically say you are entitled to participate in a bonus scheme, not that you are entitled to a bonus. In addition, if the bonus was a contractual obligation it is a massive coincidence that the award came in under Cameron's red line. Finally, if the contracts were a problem, why not try and unpick them? This Government has been in power for almost a third of a term. Or alternatively why not vote against the RBS remuneration report last year? UKFI did it in 2009 remember.

Latterly the line has shifted again. Today IDS acknowledged that the contract left it up to the board to decide what to do. Similarly the PM's spokesman has been quoted in a few places admitting that there is no contractual obligation. Now the argument, made by Danny Alexander and IDS, is that whilst the Government could veto the bonus to do so would risk the loss of talent that would in turn damage company. This is more honest, but does of course raise the question of just who is charge - the Government or the bankers. (You might even pose it as 'who governs?').

One thing the Government has not really tried to do is defend the bonus on its own terms - that Hester hit some targets and as such he was perfectly entitled to the award. This is important, because from one perspective that is a valid argument. In corporate governance terms the award isn't that bad. Hester got was offered certain rewards on certain conditions which he met. In fact this is a share award, not a cash bonus, so it achieves 'alignment'. What's the problem? That the Government doesn't try this argument demonstrates the awareness that this goes beyond governance. They know that the public don't buy the argument that a public sector employee (particularly one running a largely nationalised bank) deserves a £1m bonus on top of an already large salary. It is just too easy to make the leap to 'Schools n hospitals' and 'how many nurses would that buy us'?

Clearly the Government recognises that defending the award in terms of being in the interests of the state as shareholder doesn't work well with the public. This is probably because of the context - public sector pay freeze, job losses, 'we're all in this together', possible 'double dip' etc). Hence the overall impression is that the Government would ideally like it if Hester didn't take the award, and would really like it to not be made, but it feels powerless to act. It looks a bit weak, but presumably the Government considers that it would be 'disastrous' to try and tough it out.

The short-term effect of this is that the Government will take a lot of flak. But the RBS case should also make it pretty clear what the limitations are of shareholder engagement when dealing with executive reward in sensitive situations. If it is too difficult for the Prime Minister, with over three quarters of the ownership of RBS in his pocket, to dictate terms to a bank board, then don't expect those with a more traditional (ie dispersed) ownership structure to feel much compulsion to fall into line. This is especially so when most mainstream shareholders don't really buy the argument that the pay and conditions of employees within the business, let alone in the economy at large, are relevant when determining executive remuneration.

So the RBS case demonstrates the problem of conflating mainstream corporate governance reform with action on top pay generally. They are not the same thing. What might be acceptable to shareholders may not be acceptable to the wider public. In the case of RBS the difference is made much sharper because the public own the bank in large part. But same problem is likely to persist at PLCs more generally. The exec pay reforms floated by Vince Cable are good, in corporate governance terms, but they are not likely to tackle the pay gap between boardroom and shopfloor. Which would be fine, had the Prime Minister not sort to portray them as part of a 'responsible capitalism' crusade.

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