The NAB vote was particularly interesting because chairman Ken Henry and his board had redesigned the group’s incentive scheme in response to the airings of the bank’s (and its peers’) dirty linen before the commission.
According to Henry, about a third of the “against” votes at NAB’s AGM were a protest over the fact that the design of the scheme had changed. The rest were related to the amounts of remuneration, details of the scheme’s design and how it had been applied by the board.
There are two major influences behind institutional shareholder opposition to the bank remuneration schemes. One is the payment of bonuses in circumstances where the business has clearly performed poorly, and the other is the use of non-financial metrics to determine remuneration outcomes.
It’s hard to argue with the first, although it should be noted (as Westpac’s Lindsay Maxsted bravely did) that the damaging matters aired at the royal commission were based on material misconduct, or conduct over the previous decade which didn’t meet community standards, that the banks themselves submitted.
Many of the bank executives and directors being held accountable for the treatment of customers that may have occurred as long as a decade ago wouldn’t have been in their positions when the misconduct occurred.
Maxsted also made the point that the royal commission was an inquiry into misconduct, not conduct generally. By definition, it was only ever going to provide a narrow and extremely damaging view of the activities of financial service businesses, without a wider context or perspective.
Nevertheless, it is understandable that shareholders will revolt if they see large bonuses being paid even as the value of their own investments is being ravaged, particularly when the incentives are assessed even partly on measures other than those directly linked to shareholder returns.
Whatever the redesigned NAB scheme might look like, shareholders will have to get used to the notion that “soft” metrics like conduct and compliance and customer satisfaction are going to be a permanent feature of the banks’ remuneration, and that the short-term returns to shareholders will have reduced importance.
ANZ’s David Gonski conceded that his bank had at times been too focused on short term earnings rather than the long-term sustainability of its relationships and obligations to all stakeholders.
He isn’t alone in making that concession, with the royal commission elevating discussion in big business generally about social licences. The big banks’ predicament provides a graphic example of what happens when financially successful organisations damage their social licences to operate.
Companies are under real pressure to deliver returns in the short term to institutional investors whose own business models require short-term performance.
NAB Chairman Henry was criticised for his comments (and demeanour) at the royal commission because he referred to a capitalist model under which businesses had no responsibility other than to maximise profits to shareholders and in which customers are seen as “instruments”.
He described NAB’s revised purpose of maximising customer outcomes as a “profound distinction” and a “monumental shift”.
There is no conflict between treating customers and other non-shareholder stakeholders decently and fairly and elevating those outcomes above that of maximising short-term profitability and returns to shareholders.
Directors, contrary to popular wisdom, don’t owe their duty to shareholders. They owe it to their company. The complication is that their position on the board, and their retention of it, is determined by shareholders.
It’s that tension between the long-term interests of the company and the short demands of shareholders – and executives – that directors have to manage.
The big financial service firms got it wrong at times over the past decade by focusing too much on their immediate financials and, to be fair, their balance sheet strength in the post-crisis period – and not enough on their customers and the deficiencies in their incentive structure and compliance systems.
They have no choice in the immediate future but to respond by investing more heavily in the customer experience and emphasising customer outcomes – and linking executive rewards to them — over the maximisation of short-term shareholder returns.
There’ll be shareholders – and executives — who don’t like that, but the boards won’t have – and none of the royal commission, their regulators or the community will allow them – any choice.
Stephen is one of Australia’s most respected business journalists. He was most recently co-founder and associate editor of the Business Spectator website and an associate editor and senior columnist at The Australian.