Executive compensation

2011 2007 2003

Total CEO compensation ( + / Unch. / - ) 8 / 0 / 16 20 / 0 / 3

Base salary ( + / Unch. / - ) 13 / 2 / 9 13 / 5 / 5

Cash bonus ( + / Unch. / - ) 3 / 2 / 19 16 / 2 / 5

Option and stock awards ( + / Unch. / - ) 12 / 1 / 11 15 / 5 / 3

Base salary as share of total 32,6% 23,5% 31,9%

Cash bonus as share of total 12,5% 37,2% 35,1%

Stock and options as share of total 44,7% 29,9% 29,0%

Deferred as share of total 49,4% 31,1% 25,1%

Clawback provisions (Y/N) 17 / 7 0 / 24 0 / 23

Executive compensation is not only subject to close public scrutiny; it is often well disclosed within the financial sector and the types of incentives used are relatively homogenous across the industry.

Therefore, we have been able to gather a rich set of data, and the comparability is not compromised despite a high level of detail. The dataset shows interesting tendencies over time and to avoid issues related to fixed effects, we have chosen to base the entire discussion on relative increases and composition rather than absolute levels. Thereby, we avoid the issue of currency conversion and national differences. In essence, we assume the level as a given and focus on how the compensation is composed and how the amount of compensation in each individual institution has developed over time²¹.

21 None of the banks changed reporting currency between 2003 and 2011.

52 First, we note that most bank executives (20 out of 23) saw their total compensation increase between 2003 and 2007, but that a large share received less after the outburst of the financial crisis (16 out of 24 saw their total compensation fall between 2007 and 2011). Interestingly, this clear tendency is not reflected in the base salary (13 out of 23 increasing between 2003 and 2007 compared to 13 out of 24 between 2007 and 2011) which arguably is unrelated to the executive’s achievements and the firm performance. As a consequence, the composition of executive pay packages appears to have changed in a meaningful way between 2003 and 2011.

Beginning with cash compensation, we have distinguished two key components: base compensation and cash bonus. The common trait for these two is that both are receivable in cash. The former is fixed while the latter is directly tied to how the bank has performed. Looking at average figures, we note that the fixed base salary as a share of the total compensation package fell from 31,9% in 2003 to 23,5% in 2007 but that it increased again in 2011 to 32,6%. The cash bonus, on the other hand, was similar in 2003 and 2007 at 35,1% and 37,2%, respectively, but fell sharply in 2011 to 12,5%.

Interestingly, the cash bonus did not make up more than 36,0% in any of the sample banks in 2011 (to be compared with maximum values of 68,9% and 84,8% respectively in 2007 and 2003). This is particularly interesting in the light of peer benchmarking. Since we are considering all systemically important banks, we should encompass the full peer group that compensation committees benchmark against when setting the performance based compensation. Therefore, it is unlikely that the lower cash bonus (as a share of total compensation) is a coincidental result of sub-par performance on a relative basis.

0%

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100%

2003 2007 2011

Chart 1: Average Composition of Total Compensation Package

Base salary Cash bonus Option and stock grants

53 The negative change in cash compensation coincides with an increase in equity based compensation.

In 2003 and 2007 the fair value of share and option grants made up around 30% of the total compensation package. However, the number increased to 44,7% in 2011, which ties up well with that we observe in the median figure (increasing from 23,3% in 2003 to 30,0% and 50,1% in 2007 and 2011). This shift should not be interpreted as a parallel shift among all sample banks towards a more heavily equity-related compensation structure. Rather, it seems that banks are moderating their compensation structure and converging towards a common practice composition. When we consider the development of max and min values of equity compensation as a share of the total pay package, along with first and third quartiles, the most apparent tendency is a narrower range within the most extreme positive and negative values. The first quartile observation jumped from 5,8% in 2003 and 1,8% in 2007 to 24,8% in 2011, which reflects a more widespread and significant use of equity related incentive instruments. The third quartile observation was also similar in 2003 and 2007 at 46,9% and 45,2%, respectively, but increased to 68,6% in 2011 (see Chart 2 above). In summary, the first second and third quartile share of compensation granted in equity and equity instruments seem to have increased after the financial crisis after having remained steady between 2003 and 2007. The maximum observation, however, gradually fell over time and the trend did not change direction after the financial crisis. We therefore see indicative results of the moderation, reflected in lower variability within the sample, occurring at the same time that more banks bolster their focus on equity incentives.

While equity compensation typically is granted to align managerial interests with those of the shareholders²², additional powers can be given the board to retrospectively adjust the compensation for unnoticed wrongdoings. We have considered two mechanisms which this is done through: (1) deferred compensation which is contingent upon future performance of the firm, and (2) clawback provisions

22 Assuming share price reflects future growth and earnings potential, is equity compensation is forward looking and reflects how well the company is positioned to remain competitive.

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2003 2007 2011

Chart 2: Distibution of Equity-related Share of Total Compensation Package

Min Q1 Median Average Q3 Max

54 agreed on in connection with initial compensation grants. It is worth highlighting that the basic rationale behind both is similar: to tie compensation to factors that cannot be evaluated at the point in time of the grant.

The information on deferred compensation is incomplete as we lack observations for Société Générale and Unicredit in 2003 and 2007. However, considering the remaining dataset, we observe an uptick in the average deferred compensation as a share of the total compensation package. The average in 2003 and 2007 was 25,1% and 31,1%, respectively, and the 2011 figure is just below 50% (49,4%). The tendency is even stronger if we consider median figures, where the observations for 2003 and 2007 were 21,1% and 27,5% while the 2011 median is above 50% (51,3%). If we use the same panel in each of the years and disregard the observations we gathered for Société Générale and Unicredit also in 2011, the average share paid in deferred compensation is 51,2% and the median observation is 56,9%.

Considering clawback provisions, we observe a complete absence within the sample group compensation agreements in both 2003 and 2007. However, in 2011, 17 out of the 24 banks (71%) commented in their annual reports of SEC filings that part of the executive compensation package was subject to adherence to certain conduct and could be clawed back in cases where violation had taken place.

In brief, whether retroactive or deferred, our results give an indication that the long term focus has become more central in determining executive compensation. The variable cash compensation component is downplayed in favour of a stronger equity beta of the total compensation mix. Also, shareholder democracy has been extended to directly encompass executive compensation as a larger share of banks make the compensation committee suggestion conditional to shareholder approval via say-on-pay provisions. However, one issue with our results throughout the compensation data section is the high variability among the banks. While many factors have converged (reflected in a narrower max-min range), the spread remains significant.

5.4 Ownership structure