Remuneration of Chief Executives - Essay Example

? Remuneration of Chief Executives Remuneration of Chief Executives Introduction In the eraof the financial crisis, the banking sector has also been exposed to financial risks and the danger of getting bankrupted. In the period from 2007 to 2012, the financial crisis in the major global economies has taken serious hike, as a result of which more than 50 banks were either liquidated or merged with other banks in the US and the UK alone (Business Monitor International, 2012; Wearden et al., 2008). It was observed by several economists that for banks, one of the major reasons of not been able to survive during the financial crisis is the remuneration policies for the bank CEOs. Mcgarvey (2012) illustrates the fact that even in the era of financial instability of the world economy, salaries of CEOs is just climbing up without any adequate justification of such high salaries. This in-turn also exposes banks and other firms to higher risks without promising that the high paid CEO will turn away those risks coming in their way. Hence in the banking sector especially, it is important to devise polices, which ensures that CEOs are paid in the interest of the bank and not more than their potential and skills (Mcgarvey, 2012). Determining the Remuneration of Chief Executives 1. Maintaining Equilibrium between the bank’s profit and remunerations. The prime objective of any bank is to attract investors and get more capability to land money to others. Therefore, the shareholders have to make sure that the remuneration of the CEO is aligned with the bank’s profit. In the period of the financial crisis, if the bank is making a good profit, then paying high salary to the CEO is justified. However, in case the bank is losing its clients and the profit is shrinking, the salary of the CEO should also be reduced proportionally, to maintain equilibrium between the bank’s profits and expenditures (NCNB, 2006). 2. Skill Level Check Paying high salaries to CEOs of companies and banks have become a common practice and any person applying for the pot demands for a salary which might not be justified as per his or her skills. Also, on the other hand, there are several other employees working in banks who are more potential and skilful, but since they are not at any higher post they are paid inadequately. In this scenario, paying a CEO who is less talented and skilful can reduce the morale and passion of other employees of the bank. Therefore, it is a very important factor, especially during the financial crisis, to pay CEOs as per their skill, talent and ability to benefit the bank. In addition to this, it is also important to measure the contribution of each employee when the bank is progressing. If the salary of a CEO is increased, then salaries of other employees who have contributed in the bank’s progress should also be increased with a defined proportion (Gertler et al., 2011). 3. Market Research Directors of the bank have to be aware of the current market position and the maximum salary given by banks to their CEOs. In addition to this, owners of the bank should analyze the past records of the bank to find a relation between banks’ progress and CEO’s salaries. On the base of all rationales, directors and owners of the bank should come up with a remuneration plan, which is neither very low as compared to the market value of CEOs nor too high to expose banks to higher financial and employees’ dissatisfaction risks. The main step is in the recruiting of the CEO; if the salary is offered very high first up, then lowering it down if the bank’s profit decreases then it can further disappoint the CEO. This will ultimately be a drawback for the bank as if the CEO is not passionate with the job the entire bank structure will fall to desolation (Marshall, 2009). 4. Bonuses Incentives and bonuses are also an important part of the total remuneration given to the CEOs. It was observed by Calabria (2009) that many banks have a short term benefit approach and incentives are given to employees and CEOs on the basis of short term profits or achievements. It is often the case that if a major account is opened then in this situation a share of the profit is given to the concerned employee and also to their supervisors. Soon, the account is closed, before giving reasonable profits to banks. It thus decreases banks’ profits and the capability of holding on the big clients (Calabria, 2009). The Financial Survey Authority criticizes on the bonus strategy of banks. In their 2008 Bank Report, it states that the immediate cash incentives on a transaction drive the CEO in making short term benefit policies. In the long run, the probability of its adequate benefit to the bank or the shareholders is not certain, and therefore, the short term bonus schemes can be harmful especially when the bank is going through its crisis period. Therefore, bonuses to CEOs should be given if polices and schemes provide a lasting benefit to the bank and shareholders (Buhrer, 2010). 5. Reducing Severance Payments It is a culture in many banks that remuneration of CEOs is decided for a period of 1-3 years. Therefore, irrespective of the bank’s profit standing the salary of the CEO would remain the same. Geithner (2009) explains that large contracts and severance payments of CEO are not a suitable approach for banks in the age of the financial crisis (Geithner, 2009). It was suggested by the US Treasury Secretary that severance contracts encourage CEOs to take more risk bearing initiatives for the bank’s progress. Since, they are not directly affected by the impact of the risk, so they are liberal in taking decisions which might earn profits but involve greater risks. Hence, it is sensible to reduce the severance payments and extended contracts of CEOs, in order to ensure that their approach is more aligned with bank’s interests (Balachandran et al., 2011). Conclusion In a nutshell, it is evident that determining the remuneration of CEOs has a close link with banks’ profit and stock standing. Choosing an unsuitable remuneration policy can lead banks in paying their CEOs even with zero profit earning and that can contribute in bankrupting the bank. Therefore, directors and owners of banks have to understand the nature and position of their bank outline a remuneration structure that guarantees long term profits to the ban and the shareholders. List of References Balachandran, S., Kogut, B. & Harnal, H., 2011. The probability of default, excessive risk, and executive compensation: a study of financial services firms from 1995 to 2008. Research Report. Columbia: Columbia Business School Discussion Paper. Columbia Business School Discussion Paper. Buhrer, M., 2010. CEO and Chairperson Compensation: The Impact of the Financial Crisis. Research Report. St. Gallen: University of St. Gallen University of St. Gallen. Business Monitor International, 2012. United States: Commercial Banking. Quarterly Report. London: Business Monitor International. Calabria, M., 2009. Did Bank CEO Compensation Cause the Financial Crisis? [Online] Available at: [Accessed 11 March 2013]. Geithner, T., 2009. Statement by Treasury Secretary Tim Geithner on Compensation. Research Report. Harvard: Harvard University Press Harvard University. Gertler, M., Kiyotaki, N. & Queralto, A., 2011. Financial Crises, Bank Risk Exposure. Research Report. New York: N.Y.U. and Princeton Universty N.Y.U. and Princeton Universty. Marshall, J., 2009. Executive Remuneration in UK Banking. Research Report. Oxford : Financial Service Authority. Mcgarvey, C., 2012. CEO Pay: How Much Is Right? [Online] Available at: [Accessed 11 March 2013]. NCNB, 2006. Determining Executive Compensation. Research Report. Washington DC: The Grantsmanship Center National Center of Non-Profit Boards. Wearden, G., Teather, D. & Treanor, J., 2008. Banking crisis: Lehman Brothers files for bankruptcy protection. [Online] Available at: [Accessed 11 March 2013]. Read More