Posts Tagged ‘Compensation’

The Wells Fargo incentive pay problem is at least as old as Matthews, Young; and we’ve been advising the banking industry on performance-based incentive compensation for over 40 years.  Decades ago when we discussed design of incentive plans, we would half-joke about avoiding the creation of an employee mindset of “open an account and get a new toaster; open three new accounts and get three toasters”.

Our experience tells us that a cardinal rule of incentives is that you get what you pay for – in terms of employee behavior and results.  If your bank sets new account goals without incorporating a balancing measure like branch customer satisfaction, you are sending a problematic message:  account growth matters and gets rewarded and customer satisfaction does not.  If your incentives are driven by Net Income growth without corresponding Return on Assets / Equity measures, you are telling management that it’s okay to inflate the balance sheet for that extra dollar of profits.   If loan growth is the key to incentive earnings without corresponding credit quality requirements . . . well, we all know where that got us in the recent past!

Business news reports of the Wells Fargo problem indicate that another cardinal rule of incentives may have been violated:  employees must have a reasonable chance of achieving goals and not fear losing their jobs for failing to achieve what they perceive as unobtainable results.  Such a situation will cause some employees to quit trying and others to start their search for different employment.  Or in the Wells Fargo case, employees will find a way to achieve goals even when they know their behavior is inconsistent with customer interests and, ultimately, shareholder return.

We also believe that Wells Fargo’s decision to cancel incentive plans is an over-reaction.  Well-designed incentive plans are an effective management tool to:

  • focus attention and action plans on key results
  • motivate individual effort and teamwork
  • link company and employee success

The Wells Fargo story will fade in the press, but we believe it should be a wakeup call for banks to take a fresh look at incentive plans.  With the new year approaching, now is the time to ask the tough questions:  Are performance measures balanced with respect to growth, profitability, soundness, and customer satisfaction?  Are expectations reasonably obtainable and do employees have the proper tools and training to perform at their best?  Are payout levels competitive but reasonable compared to base pay (e.g., are high incentives necessary for cash compensation to be competitive)?  Are we supporting our incentives plans with effective employee communications that explain expectations for results and behavior?

Matthews, Young has been advising banks, thrifts, and credit unions for over four decades on the use of sound incentive compensation.  We are experienced in the design of new plans as well as the review of existing plans.  Contact us at: Info@MatthewsYoung.com.

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Finding the time and resources for board and committee development is an ongoing challenge.  But enhancing the effectiveness of your Compensation Committee can be done with a few key actions.  This blog and ones that follow will address:

  • Setting a workable Committee calendarCompensation Committee Calendar
  • Selecting membership
  • Continuing education on executive compensation

The beginning of the year is a great time to update or set up a calendar for your Compensation Committee.  Committee responsibilities and activities need to

be spelled out in advance and scheduled throughout the year to:

  • Balance the Committee’s workload
  • Allow sufficient time for review before decisions are required
  • Ensure that decisions are well-timed for effectiveness as well as meeting any regulatory requirements

The first step in building the calendar is listing and grouping activities.  You may be surprised at how many issues need to be addressed when you write them all down.  Our basic categorized list includes:

  • Compensation Philosophy Statement
    • This roadmap for guiding Committee decisions should be reviewed at least annually.
    • If you don’t have one, you would be surprised how helpful having written principles can be.
    • Market and Peer Group Review
      • Update the peer group for relevancy.
      • Gather compensation data from surveys and proxies.
      • Monitor performance versus peers.
      • Performance and Salary Review
        • Board/Committee review of CEO performance; and CEO review and report on other senior officers.
        • Committee review of CEO salary and adjust based on market/peer pay levels and executive job performance.
        • Committee review of CEO recommendations for other senior officers.
        • Annual Incentive Plan
          • Update plan in terms of participation, payout ranges, objectives, weights, and performance ranges.
          • Review performance and potential payout levels at mid-year.
          • Complete end-of-year review and approve payouts.
          • Long Term Incentive Plan (if you use stock)
            • Review existing grants and remaining share reserve.
            • Determine any need for updating plan and/or share reserve.
            • Determine new grant (type of grant, total shares, terms, CEO allocation).
            • Review and approve CEO recommendation for grants to other officers.
  • Compensation Risk Assessment
    • Conduct at least annually – ideally just after the end of the year so the Committee can look back at the prior year and plan for the year just beginning.
    • Director Compensation
      • Determine frequency of review (we recommend an annual review; but at least every third year as a minimum).
      • Conduct review and recommend changes to Board.

Of course, companies participating in government programs like TARP or those who are required to report to the SEC have a number of other requirements and activities that we won’t try to cover here.  Suffice it to say that these requirements are a significant expansion of the previous list.

Filling out the calendar is best done using a grid with the major categories of work down the left side of the calendar, and the months across the top.  This approach allows you to schedule the items in each category in logical order as well as look at the volume of Committee work in each month.

Finally, this is a task best completed by the Committee Chair, CEO, and outside compensation consultant if you have one.  You may also want your CFO and Chief Human Resources Officer involved if they interact directly with the Committee.

Please add comments below, and if you want to know more about how we can help, call me at 919-644-6962 or ask us to contact you at http://matthewsyoung.com/contact.htm.

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For years, larger companies have routinely budgeted to increase base salaries of employees by a few percent based on what everybody else is doing. Then, the annual increase is usually spread among employees based on where they are paid in their job’s policy salary range and, hopefully, based on a merit performance score. There is a good deal of logic in such a process, but it is worth rethinking given the realities of today’s labor market.

payrollWhy does an annual increase in the guaranteed base salary make sense? The fact that it is routinely done at the same time each year gives employees a sense of security and if your strategy emphasizes low risk, steady growth with retention of a stable staff, then this approach to base salary management makes sense. On the other hand, if your organization’s strategy is for more risky growth where high levels of performance can make a big difference, perhaps a different approach to base pay would make better sense.

Maybe some of the base should be shifted over time to incentive pay. Perhaps base salary reviews should be done less often with bigger increase potentials when salary increases are eventually granted. How you mix pay between the guaranteed portion and the at-risk portion is a matter of strategy and to be effective, your pay strategy must support your business strategy. We hear HR professionals worrying about the annual 2% to 4% increase having become an entitlement. However, management of companies that have had depressed revenues during the recent economic recession have little patience for any entitlement attitude. HR professionals need to think about how their office can better support the organization’s strategy. Rethinking the annual base pay increase entitlement is a good place to start.

Of course, every organization is unique and there is no one-size-fits-all solution to managing base salaries and overall compensation. Having worked with hundreds of organizations, for-profit and not-for-profit, fast growing and declining, risk-averse and risk-tolerant, we understand the need for a custom solution. As the economy slowly improves, this is a good time to step back and question your organization’s compensation management. We would appreciate your thoughts. Please email, call or comment below.

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The short answer is that Salary Surveys provide the necessary market data to build competitive pay structures for your organization.  While there are many objectives to a properly formulated compensation strategy, the two most commonly referenced are:

  1. Ensuring our plans are internally equitable, and
  2. Ensuring our plans are externally competitive.

Meeting both of these criteria enables your organization to attract, retain and motivate the right numbers of the right kinds of employees.  Good Salary Survey data (i.e.  from competitive sources like your State Bankers’ Association’s Salary Survey) provides you with the information needed to ensure your bank’s compensation plan is competitive.

Comparing roles to Salary Survey market data is important, but it’s not the only step to creating a competitive compensation program.  First, before you can tailor a compensation strategy to your organization, you should have an understanding of your organization’s compensation philosophy and strategy (How do we want to pay?).

Second, you should clearly define the key roles within your organization including current and accurate Job Descriptions for each position.  Accurate job description detail facilitates the comparison of market data to how you’re currently paying your people (Pay Practices vs. Market).

Taking this information into consideration, you can build one or more salary structures, as appropriate, with grades and control points (Grade Minimum, Midpoints and Maximums) customized to our unique organization’s needs.   By combining your salary structure(s) with performance management ratings, you can pay for performance delivered as well as accurately anticipate, budget and plan for total compensation costs.

Because building an effective compensation strategy is a nuanced process with varied approaches that depend on your organization’s unique priorities, Matthews, Young Consulting is offering a new Learning Lunch Compensation Webinar Series this fall to help you turn salary data into insight and ensure your organization attracts and retains the staff necessary to achieve your goals.  The topics and dates are listed below:

  • September 7th – Using Survey Data to Value Jobs
  • September 13th – Building Effective Job Descriptions
  • September 21st – The Compensation Audit: Do your pay practices match market and your intent?
  • October 5th – Using Job Values to Build Salary Structures
  • October 19th – Principles of Merit Pay
  • November 2nd – Merit Pay Budgeting

All webinars will start at Noon and last for about an hour.

We’re currently discussing the topics on Twitter; send us your questions and suggestions @MatthewsYoung!

Members of the GBA, NCBA, SCBA, TBA or VBA can receive a complimentary invitation by emailing me at W.LaFontaine@MatthewsYoung.com.  If you are not a member of the State Bankers Associations listed above but would like to attend the webinars, the fee is $300 per session and you can register at http://matthewsyoung.com/WebinarRegister3.htm.  We look forward to working with you to craft a current, competitive and most importantly effective  compensation strategy!

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The SEC, US Treasury and jointly for banks the Federal Reserve, OCC and FDIC in a joint agency statement have made risks in compensation plans a high priority and point of emphasis.  Furthermore, SEC proxy disclosure requirements for 2010 require an explanation of the relation between compensation plans (primarily incentive compensation) and risks that may be more encouraged due to motivations caused by such compensation plans.  Specifically, these regulatory agencies want to identify and eliminate compensation plans that “create risks that are reasonably likely to have a material adverse effect on the company.”

Matthews, Young – Management Consulting has worked with several clients assisting them with the necessary process and review of Compensation Policy and Plans, including a number of community banks participating in the TARP program who must comply with similar regulatory requirements.  Randy McGraw, a Senior Consultant with our Firm, collaborated with me to layout the specifics of Compensation Plan Risk reviews.

Scope and Timing of our Review

Our assessment of compensation programs requires a review of all compensation plans and practices (with emphasis on incentive compensation) to ensure that they do not encourage participants:

  • To take unnecessary and excessive risks which threaten the value of the company.
  • To manipulate reported earnings to enhance compensation.
  • To focus attention exclusively on short-term results at the expense of longer term performance that adds value to the institution.
  • For organizations taking TARP funds from the Treasury, at least every six months, the Committee and Senior Risk Officer (SRO) review all employee compensation plans related to excessive risk, manipulation of earnings, and short-term over long-term results.  The Committee is required to limit and/or eliminate any plan features that encourage such behavior.
  • For TARP recipients, SEC reporting companies, and all financial institutions, at least once every fiscal year, the Committee and SRO, in addition to review, discuss results and prepare a narrative description of findings and actions taken on any adverse findings in review.
  • For TARP recipients, within the first 120 days of the end of the fiscal year, the Committee prepares a narrative report describing Committee meetings, discussions, and actions.  The report must be submitted to both U.S. Treasury and primary regulator  For SEC reporting companies, results of review are reported in the proxy statement.

Key Elements of our Analysis

We will look at an overview of total compensation to ensure that:

  • There is a balanced mix of pay elements (base salary, annual cash incentives, long-term equity award incentives)
  • Base salaries are sufficiently competitive to avoid undue emphasis on earning incentives in order to earn reasonable cash compensation.
  • Potential incentive levels achieved from short-term and long-term plans are balanced to ensure sufficient focus on long-term results.

For short term incentive compensation, our review will be focused to ensure:

  • Reasonable number of participants.
  • Maximum incentives are capped and potential incentives are reasonable.
  • Performance measures require a balance between earnings, return, revenue or asset growth, operating efficiency, and asset quality or other risks.
  • Performance measures support achievement of operating as well as strategic goals.
  • Performance measures strengthen teamwork as well as match a participant’s areas of accountability.
  • Incentives do not create a conflict of interest for officers with compliance and audit responsibility.
  • Whether plans contain a claw-back provision which has been communicated to participants.

For long term incentive compensation (as applicable), our review will be focused to ensure:

  • Reasonable number and category of participants.
  • Stock overhang and run rate are in line with prevailing market practice.
  • There is balance between appreciation-oriented (options) and full-value (restricted stock) grants; as well as balance in full-value grants between time-vested and performance-based grants.
  • Option grant exercise price is at or above fair market value; and re-pricing is prohibited.
  • Vesting and performance periods are sufficient to emphasize multi-year service and performance.

Review Methodology

Bank regulations require that the Compensation Committee meet with the Bank’s designated Senior Risk Officer (SRO) to discuss relevant issues; and suggest using an outside compensation advisor to facilitate the compensation review.  This approach is also recommended for other types of organizations.  Our recommended methodology is as follows:

  • Matthews, Young – Management Consulting will assess compensation plans and practices based on information provided by client.
  • Matthews, Young – Management Consulting will draft a letter that describes our review and findings along with any recommendations for change and provide this letter to the SRO.  With client’s input, we prepare a table summarizing key terms of all incentive compensation plans specifically Plan Name, Plan Purpose, Participant List, Administrative Responsibility, Performance Measures and Incentive Payout Potentials.
  • SRO reviews our letter; assesses the potential risk created by compensation in the following risk areas: Credit, Market, Liquidity, Operational, Legal, Compliance, and Reputation.
  • SRO then prepares their own letter to the Committee summarizing the review process and findings.
  • Compensation Committee meets with outside consultant and SRO, reviews both letter and reports, identifies any actions required to modify plans, and documents meeting activities.

We are currently offering a free telephone consultation to further discuss the regulatory requirements and risk review process.  Please contact us if you would like to discuss your compensation plans and an assessment of the risks they may pose to your company.  Call 919-644-6962 and ask for David Jones, Randy McGraw or Tim O’Rourke.  You can also complete the request form at http://matthewsyoung.com/risk_review_contact_landing.htm.

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In a recent blog, we talked about taking a broader perspective when planning salary increases for 2011.  We were also waiting for better forecasts for 2011.  More comprehensive reports are now available and suggest the following:

  • We are seeing a clear increase in the percent of employers and banks granting pay raises.  While two-thirds of employers gave increases in 2009, nearly 85% gave increases in 2010.  And we expect this percentage to increase for 2011.
  • U.S. employers report they are budgeting  average raises of 3.0% in 2011, as are banks and other financial institutions.
  • The middle 50% of employers report  2011 salary increase budgets between 2.6% and 3.5%.
    • Again, financial institutions are very similar – ranging from 2.5% to 3.2%.
  • History shows some fluctuation between forecast and actual increases among general industry as well as financial institutions:


2008 Actual

2009 Forecast

2009 Actual

2010 Forecast

2010 Actual

2011 Forecast















If this fluctuation between projected and actual continues, banks may give less than 3% in actual raises in 2011.

In addition to the broader questions we raised in our previous blog, budgeting for pay raises eventually comes down to practical questions:

  • What’s your best estimate of what the competitive market will do?
  • How long has it been since your last round of raises?
  • What can you afford to do, considering your expected financial performance?
  • And as we pointed out in an earlier blog, how do your overall salary levels stack up against current market salaries?  If you haven’t checked the market lately (perhaps because you didn’t grant raises), then you lack important information on competitiveness and whether (a) you are still paying competitive rates or (b) a gap has opened between your organization’s salary levels and the market.

We have also seen a couple of other techniques to mitigate the cost of salary raises:

  • Postpone the effective date of raises until later in the year.  Granting raises on July 1 rather than December 1 saves half the expense for the calendar year.
  • Grant merit pay in a lump-sum to employees high in their salary ranges but performing at a superior level.   While the lump-sum payment is a current expense, it does not increase the employee’s future pay rate.

These are challenging times for compensation planning.  If we can be of help, please don’t hesitate to contact the firm at (919) 644-6962 or me direct at (404) 435-6993.

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We have talked to lots of banks, credit unions and other organizations that chose to forgo or greatly reduce salary increases in 2009 and 2010 due to significantly lower company earnings.   While it’s only common sense that you can’t raise salaries if there isn’t the money to pay for them, the risk of your best talent seeking other jobs grows as time passes without seeing a raise.

To add to the challenge, data on actual raises in 2010 and early forecasts for 2011 paint a blurred picture at best.  So what do you do when there isn’t much useful market or competitor data to guide you?  The best approach in these trying times isn’t really different from what it’s always been – only more challenging.  Instead of thinking of your salary increase budget in a vacuum, think in terms of broad salary planning for your anticipated workforce.  For example, ask yourself the following questions:

  • Are you experiencing turnover in positions that you can afford not to fill?  Lower headcount could free up some salary expense that could fund raises for others.
  • If you are filling vacant positions, will you be able to recruit qualified candidates at salary levels below those paid to employees that left?  This may be especially true in cases where turnover was due to retirement of long service employees.
  • Do you expect revenue growth that can be generated without headcount increases?  Will this revenue growth be profitable growth evidenced by increased earnings?
  • Are there underperforming employees that should have raises postponed  while you work with them to improve performance?
  • Are there employees already paid well above market rates that might not qualify for a raise or might have their raise postponed?
  • And perhaps most importantly, how do your overall salary levels stack up against current market salaries?  If you haven’t checked the market lately (perhaps because you didn’t grant raises), then you lack important information on competitiveness that can tell you whether you are still paying competitive rates or that a gap has opened between your organization’s salary levels and the market.

Truly effective salary planning takes into account all relevant factors – only one component of which is the amount budgeted for raises.  And knowing how your salaries stack up against the market is a critical step which Matthews, Young can help with.

So, it’s not too early to start this review.  And as we gather more intelligence on projected raises for 2011, we will get back to you.

David Jones, Principal and Executive Compensation Practice Leader

Matthews, Young – Management Consulting

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