APRA yesterday released its long-awaited draft principles on remuneration, with the regulator producing a draft Prudential Practice Guide and updates to its Prudential Standards on governance. The APRA rules apply to deposit-taking institutions (such as banks) as well as life and general insurers. APRA will be seeking submissions on its draft proposals by 24 July this year and expects final standards will be released in September 2009.
In reality, whatever standards APRA devises will be little more than lip service to the insatiable remuneration packages enjoyed by executives at the large banks. While the principles outlined by APRA make reasonable sense, they deal specifically with risk-adjusted remuneration levels and do not address specific quantum received by financial services employees.
In its draft Prudential Practice Guide (which provides background and explanation to the draft Standards), APRA stated that:
Current practice often fails to adjust for risk when setting performance targets and measuring actual performance for remuneration purposes…measuring performance by some version of profit or earnings may be appropriate in many cases but effective remuneration calculations will include adjustments for risk, including future risks not adequately captured by accounting profits.
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APRA later noted that:
Equity options … have their place but need to be considered carefully because they have the potential to generate more extreme incentives than an equivalent dollar amount of ordinary shares. They generally represent a one-sided incentive that can generate very high payments to executives when share prices rise, representing a geared return relative to shareholders. On the other hand, when share prices fall and the option becomes zero, shareholders may suffer losses whereas the executive granted options may have no downside risk.
APRA’s Prudential Standards also specified that companies must appoint a remuneration committee consisting only of independent directors. This is a logical recommendation — currently, CEOs (such as Leighton boss Wal King or former Babcock & Brown chief, Phil Green) are able to sit on remuneration committees.
APRA’s arguments are well-made. The only problem is that the Standards do not constitute black letter rules, but rather a set of fairly vague guidelines which remuneration consultants and lawyers will be able to easily circumvent. APRA notes as much, stating that the “Prudential Standard sets out minimum foundations for good governance of regulated institutions. It aims to ensure that regulated institutions are managed in a sound and prudent manner.”
Most importantly, APRA’s standards do not have any bearing the quantum of remuneration paid to executives or senior employees (the key element of the draft proposals is to the link between remuneration and risk taking, not the level of remuneration paid). The guidelines do not specifically consider the actual amount fixed salary or discretionary ‘short term’ bonuses paid to senior executives. While the likes of Macquarie Bank are slowly converting to a longer-term, deferred remuneration structure, most large financial institutions pay their senior executives fixed salaries of more than $2 million (and a similar quantum of cash bonus payments), regardless of the performance of the business.
Under the draft Standards, so long as the employee is not undertaking “risky” activities, then there would be nothing to prevent him or her from being paid fixed remuneration of $10 million or more. In this regard, an APRA spokesperson told Crikey that “the framework is less prescriptive … to enable entities to develop policies, procedure and practices that meet individual needs.” The Spokesperson added that it is “difficult to develop standards in this area as a ‘one size fits all’ requirement”, largely due to regulated entities being of varying size, operations and complexity.
While if adopted, the APRA guidelines may restrict a bank’s ability to pay a trader a multi-million annual bonus for undertaking risky derivative bets, they would have little or no bearing on the quantum of remuneration received by senior executives.
It appears therefore that the draft APRA Standards, much like the Productivity Commission review currently occurring, is little more than a means for the Federal Government to appear to be doing something about executive pay, without actually having to do anything at all.
Meanwhile, Australia’s former richest man, Andrew “Twiggy” Forrest , told the Securities & Derivatives Industry Association yesterday that Treasurer Wayne Swan had “backed the wrong horse” with regards to the proposed changes to the taxation of employee share schemes. The Financial Review reported Forrest’s claims that “46 percent of Fortescue was owned by directors and employees and the company was reviewing the scheme.”
It is not without irony that Forrest is doling out advice to the Federal Government about matters of corporate law and taxation.
The Fortescue CEO is currently defending a claim brought by ASIC for misleading and deceptive conduct with regards to statements made regarding alleged binding contracts with Chinese buyers of iron ore. If found guilty, Forrest faces being banned from being a company director and may be liable for fines of more than $4 million.
Forrest is also in a dispute with the ATO regarding a $3.5 million donation made to a children’s charity in 2001. The ATO alleges that Forrest is liable to pay income tax on the $3.5 million amount, which was actually a termination payment that he received from the laterite nickel miner. The donation was later used by the charity to acquire four million Anaconda shares from Forrest. The matter was heard by the Federal Court in February this year after Forrest appealed an adverse finding from the Administrative Appeals Tribunal in April 2008.