CEO Evaluations: Providing Feedback that Makes a Difference

2-24-14-pearl-meyer.pngAs year-end numbers are released and the board wraps up items concerning the prior year, the task of conducting the CEO’s performance review moves higher on directors’ to-do lists. The review often is placed on an already jam-packed agenda, resulting in a process that leaves both directors and the CEO feeling the review was more a formality than an opportunity to provide meaningful feedback.

We have found that directors have greater success in capturing the feedback they really want to convey to the CEO if they define performance from a broader perspective and develop a more open-ended review process that involves dialogue around performance, rather than rating scales.

What Does CEO Performance Encompass?
Defining performance with the question, “Did we make our numbers?” does not ensure ongoing sustainability. CEOs play a very diverse role within a financial institution, ranging from setting the strategic vision of the business to meeting financial targets to navigating new channels to improve the customer experience.

To capture the multiple competencies required of a chief executive, we recommend that performance be assessed on the basis of seven distinct dimensions:

  1. Strategy and Vision – How well does the CEO convey the bank’s vision and develop a clear guide for current and future courses of action?
  2. Leadership – How well does the CEO motivate and energize employees to implement the business strategy and achieve the bank’s vision?
  3. Innovation/Technology – Does the CEO have a vision for the development of new/better products and services? Is there an IT strategy in place to improve the customer experience and assist in operational and risk management?
  4. Operating Metrics – Is the bank meeting its current financial objectives? Has progress been made in achieving mid- and long-term financial performance objectives?
  5. Risk Management – Is the bank adequately managing its risk and receiving satisfactory regulatory reviews?
  6. People Management – To what extent does the CEO take steps to improve and expand the capabilities of senior managers? Does the CEO’s management style convey a high level of ethics and respect for employees?
  7. External Relationships – How well does the CEO interact with shareholders, the board, customers, regulators, media and other stakeholders?

Establishing the Process
The key factors in a successful evaluation process are first, to ensure that the entire board has the opportunity to provide input and second, to have a designated committee that drives the process. Boards can tailor the steps in the process described below to their own bank’s culture and needs:

  1. The CEO conducts a self-assessment at the end of the fiscal year based on the seven performance dimensions described above, highlighting his/her achievement of the goals and directives established by the board for that year.
  2. The board committee designated to conduct the review discusses the CEO’s self-evaluation and its members’ own observations regarding performance around the seven dimensions. The focus should be on identifying both good performance and key areas for improvement, rather than on trying to cover every aspect of performance in detail. Directives for the upcoming year may also be established at this time.
  3. The committee’s discussion is documented, a process that is often handled by a trusted outside party who collects and organizes the group’s thoughts. Doing so in memo form, rather than using a rating scale, has the advantage of providing more detail on certain aspects of CEO performance, as well as allowing for examples of where performance over the past year was exceptional or fell short.
  4. The rest of the board reviews the committee’s preliminary evaluation and substantive comments are incorporated. The final evaluation is then submitted to the full board and reflected in the minutes.
  5. Designated directors meet with the CEO. It’s good practice to have two directors, such as the chairmen of the board and compensation committee, conduct the review.
  6. The CEO reports back to the board on key messages and preliminary ideas regarding directives. This ensures that the key points were heard and that actions are in place to address the objectives established by the board for the year at hand.

By broadening the definition of performance and having an established and more open-ended process, directors can get to the heart of the feedback they want to communicate to their CEO. The process above assists directors in identifying areas in which the CEO may need to focus, either because they are strengths that need further development or because they inhibit his/her ability to be effective in certain aspects of the role.

Expect CEO Pay to Rise in 2013

6-21-13_Moss_Adams.pngWestern bank CEOs and their direct-report executives should expect average salary increases in the 3 to 5 percent range during 2013, according to a survey by assurance, consulting and tax firm Moss Adams LLP. Also, the industry should expect a nearly 50 percent reduction compared to 2012 in the number of institutions that continue to subject their executive officers to a salary freeze.

According to the 2012 Community Bank Compensation Survey conducted with Western Independent Bankers, the executive compensation banks are providing continues to show a strong correlation with the institution’s operating performance. The survey found compensation strategies continue to favor incentive-based compensation over salaries in order to place a greater emphasis on variable costs for the retention of key executive officers. However, as the economic recession gives way to recovery and many more banks return to profitability, we’re beginning to see more focus and attention given to executive compensation programs, particularly with respect to incentive pay components.

We also found that operating performance objectives, return measures and top-line growth continue to be primary considerations in establishing annual incentive compensation levels, while executive retention strategies are becoming more of a factor. While these compensation-related measures remain consistent from previous years and from bank to bank, nearly 50 percent expect to raise performance hurdles for measuring overall incentive compensation available in 2013. Long-term incentive award levels are also trending up modestly in 2013, with the award packages still relying heavily on time-vested restricted stock but increasingly including performance-vested stock awards.

In addition to these salary and incentive-based compensation expectations, the survey identified a number of emerging trends.

Increased Incentive Pay
Executive compensation is increasingly being delivered through incentive pay. It’s evident that there is a greater alignment of pay and performance, and incentive pay programs have a greater focus on long-term performance and risk outcomes. Equity-based incentives that defer compensation through multiyear vesting and mitigate compensation risk appear to be gaining favor.

More Performance Factors
Boards of directors and their compensation committees are taking a broader view of relevant performance factors in setting incentive-based compensation. An entirely discretionary approach to incentive compensation payouts is giving way to a formulaic approach dependent, in many cases, on multiple measures. Earnings measures remain the prominent factor, although returns on equity, capital levels, credit quality, and asset growth represent alternative metrics that are also considered.

Increased Documentation
When discretionary measures are used as the primary determinant for executive incentive compensation payouts, increased rigor and documentation is expected. We expect regulators to be more probing about the structure surrounding discretionary payouts to ensure decisions are justified and consistent. We expect compensation committees to refine their approach to discretionary payouts through the use of scorecards that will reflect absolute goals moderated by some subjective judgment tied indirectly to specific metrics or goals. Clawback provisions for incentive-compensation payments continue to be limited in application and complicated to enforce.

More Long-Term Incentive Strategies
Multiple long-term incentive strategies are expected to emerge with an increased use of performance-based vesting and increased responsiveness to shareholder interests and market trends. While performance-based incentive programs increase in application, time-based awards are expected to remain, balancing the mix if poor risk outcomes materialize prior to vesting.

More Transparency
More transparency in compensation reporting will become the norm, as say-on-pay provisions and public company advisory votes on executive compensation have raised reporting expectations. Proxy disclosures related to how compensation decisions are made, how performance criteria were established and how performance results led to incentive payments are expected to improve reporting clarity.

As boards of directors and their compensation committees continue to explore business planning strategies, risk tolerance measures, executive goal setting and the use of defined metrics in performance measurement, they will be better equipped to make even more meaningful connections between expected business performance and executive compensation in the future.

The Moss Adams annual survey was conducted in 2012 with Western Independent Bankers. The compensation report includes responses from 123 institutions that range in size from less than $50 million in total assets to over $2 billion across the western United States.

When is the Right Time to Get Rid of the Wrong CEO?

fired.jpgWhen Citigroup’s chairman Mike O’Neill spoke on an investor conference call about the abrupt resignation of CEO Vikram Pandit, he said that the timing made sense because strategic planning was underway.

“And so, if we are going to hold [the new CEO] accountable for our performance, he clearly needs to have a role in setting the targets,’’ O’Neill said.

Citigroup Inc. has had a bad year. Make that a bad decade. The company’s stock price fell 89 percent during Pandit’s tenure. But the bank is hardly alone. Many of the more than 7,000 banks and thrifts in the country have problems of their own, so the question of whether you have the right CEO on the job, and if not, how to get rid of him or her, is one that many banks are trying to answer.

Courage is step one. Is the board independent enough from management to actually fire the CEO?

The Wall Street Journal reported last week that the “shake-up amounts to an extraordinary flexing of boardroom muscle at Citigroup, a company that until recently had a board stocked with directors handpicked by former CEO Sanford Weill who rarely challenged management decisions.”

Chairman O’Neill, a longtime banker and stellar CEO at the Bank of Hawaii, has only been there since April. Several other directors are recent appointees who signed on after regulators urged a board purge following the financial crisis, according to the Journal.

In fact, O’Neill had an office within 100 feet of Pandit, according to The New York Times. In his new job as chairman, O’Neill quickly got to work learning in the ins and outs of Citigroup and visiting the company’s various trading floors, according to news reports.

“The chairman of the board is critical,’’ says James McAlpin, a strategic planning expert and bank attorney at Bryan Cave LLP in Atlanta. “If you have the chairman and the CEO as the same person, that further complicates this. That makes it more difficult for the evaluation [of the CEO’s performance] to take place.”

If the board doesn’t want a non-executive chairman, a lead independent director who meets separately with other independent directors is key to maintaining independence.

It’s also important that the CEO be judged on how well he or she has executed the strategic plan. Tying the CEO’s performance to strategic goals with a formal annual evaluation is something that bank boards often don’t do.

As shocking as this might sound, banks are more likely to evaluate the performance of their tellers than their CEOs.

“There are a surprising number of banks where the CEO doesn’t see a performance review,’’ McAlpin says. “Particularly in community banks, it’s the exception rather than the rule. That makes it harder for the CEO to know how he is doing. Concern builds over time and suddenly the CEO finds himself in a very confrontational meeting with the board.”

Geri Forehand, national director of strategic services with Sheshunoff Consulting + Services, says that all CEOs should receive an annual performance review.

“When you hire a CEO, you have to have a way to evaluate the CEO, both quantitatively and qualitatively,’’ he says. “Every board should handle this in a formal matter. You should give your CEO an evaluation on an annual basis.”

He says the CEO should be fully informed of the metrics that will be used to measure performance and how they will be used, including how the board will factor in qualitative measures.

“I think the CEO wants to know what is expected of him or her,’’ Forehand says.

It’s not only good for the CEO, it’s good for the bank. A CEO who knows what he or she is supposed to achieve will be better able to actually achieve it.

When it’s time to make a tough decision, however, it works best for there to be a strong chairman or lead independent director. The full board needs to be involved in the discussions and the CEO needs to know the entire board has made a decision.

The board should also go through the process of identifying the next CEO far in advance of an actual resignation, which will make the transition easier, says Forehand.

The actual firing (or forced resignation), therefore, is part of a long, strategic process.

“It’s a very difficult conversation to have with a CEO,’’ McAlpin says. “[The CEO] wants to know the entire board has deliberated on this.”