ESG: Walk Before You Run

Covid-19 and last year’s protests over racial injustice added to the mounting pressure corporations face to make progress on environmental, social and governance (ESG) issues — but banks may be further ahead than they believe.

“ESG took on a life of its own in 2020,” says Gayle Appelbaum, a partner at the consulting firm McLagan. Institutional investors have slowly turned up the heat on corporate America, along with community groups, proxy firms and ratings agencies, and regulators such as the Securities and Exchange Commission, which now mandates a human capital management disclosure in annual reports. Customers want to know where companies stand. Prospective employees want to know if a company shares their values. And President Joe Biden’s administration promises to focus more on social and environmental issues.

Big banks like Bank of America Corp. and JPMorgan Chase & Co. have been responding to these pressures, but now ESG is trending down through the industry. With the right approach, banks may find that these practices actually improve their operations. However, smaller community and regional banks can’t — and probably shouldn’t — merely copy the ESG practices of their larger brethren. “People have to think about what’s appropriate for their bank, given [its] size and location,” says Appelbaum. “What are they already doing that they could expand and beef up?”

That means banks shouldn’t feel pressured to go big or go home when it comes to ESG. Begin with the basics: Has your bank reduced waste by encouraging paperless statements? How many hours do employees spend volunteering in the community? “When you sit down and talk to bankers about this, it’s interesting to see [their] eyes open,” says Brandon Koeser, senior manager and financial services senior analyst at the consulting firm RSM. The pandemic shed light on how banks support their employees and communities. “The reality is, so much of what they’re doing is part of ESG.”

Robin Ferracone, CEO of the consultancy Farient Advisors, tells companies to think of ESG as a journey, one that keeps strategy at its core. “You need to walk before you run. If you try to bite [it] all off at once, you can get overwhelmed,” she says. Organizations should prioritize what’s important to their strategy and stakeholders. ESG objectives should be monitored, revisited and adjusted along the way.

Stakeholders are watching. Glacier Bancorp CEO Randall Chesler was surprised to learn just how closely in a conversation with one of the bank’s large investors two years ago.

“One of our investors asked us, ‘Have you looked at this? We see your score isn’t very good; are you aware of that? What are you going to do about it?’ And that was the first time that we started to dig into it and realized that we were being scored by ISS,” says Chesler. (Institutional Shareholder Services provides an ESG rating on companies, countries and bonds to inform investors.)

It turned out that $18.5 billion Glacier was doing a lot, particularly around the social and governance aspects of ESG. The Kalispell, Montana-based bank just wasn’t telling its story. This is a common ESG gap for community and regional banks.

Glacier worked with consultants to develop a program and put together a community and social responsibility report, which is available in the investor relations section of its website, along with other governance documents such as its code of ethics. This provided the right level of information to lift Glacier’s score. “Our benchmark was, we want to be at our peer-level scoring on ESG,” says Chesler. “[We] ended up actually better. And we continue to watch our scores.”

“Community banks have the social and governance aspects covered better than many industries because [banks are] heavily regulated,” says Joe Scott, a managing director at Kroll Bond Rating Agency. Where they likely lag, he says, is around the environment; most are just beginning to assess these risks to their business. And it’s important that banks get this right as stakeholders increasingly focus on ESG. “We’re hearing that, beyond equity and debt investors, larger depositors — particularly corporate depositors, institutional depositors, state treasurers’ officers [and] others like that — are incorporating ESG into their considerations on who they place large deposits with. That could be a theme over time— other kinds of stakeholders factoring in ESG more and more.”

A Guide to Getting CEO Transitions Right in 2020 and Beyond

Banks need to get CEO transitions right to provide continuity in leadership and successful execution of key priorities.

As the world evolves, so do the factors that banks must consider when turnover occurs in the CEO role. Here are some key items we’ve come across that bank boards should consider in the event of a CEO transition today.

Identifying a Successor

Banks should prepare for CEO transitions well in advance through ongoing succession planning. Capable successors can come from within or outside of the organization. Whether looking for a new CEO internally or externally, banks need to identify leaders that have the skills to lead the bank now and into the future.

Diversity in leadership:
Considering a diverse slate of candidates is crucial, so that the bank can benefit from different perspectives that come with diversity. This may be challenging in the banking industry, given the current composition of executive teams. The U.S. House Committee on Financial Services published a diversity and inclusion report in 2020 that found that executive teams at large U.S. banks are mostly white and male. CAP found that women only represent 30% of the executive team, on average, at 18 large U.S. banks.

Building a diverse talent pipeline takes time; however, it is critical to effective long-term succession planning. Citigroup recently announced that Jane Fraser, who currently serves as the head of Citi’s consumer bank, would serve as its next CEO, making her the first female CEO of a top 10 U.S. bank. As banks focus more on diversity and inclusion initiatives, we expect this to be a key tenet of succession plans.

Digital expertise:
The banking industry continues to evolve to focus more on digital channels and technology. The Covid-19 pandemic has placed greater emphasis on remote services, which furthered this evolution. As technology becomes more deeply integrated in the banking industry, banks will need to evaluate their strategies and determine how they fit into this new landscape. With increased focus on technology, banks must also keep up with leading cybersecurity practices to provide consumers with the best protection. Succession plans will need to prioritize the skills and foresight required to lead the organization through this digital transformation.

Environmental, Social and Governance (ESG) strategy:
Investors are increasingly focused on the ESG priorities and the potential impact on long-term value creation at banks. One area of focus is human capital management, and the ability to attract and retain the key talent that will help banks be leaders in their markets. CEO succession should consider candidates’ views on these evolving priorities.

Paying the Incoming and Outgoing CEOs

Incoming CEO:
The incoming CEO’s pay is driven by level of experience, whether the CEO was an internal or external hire, the former CEO’s compensation, market compensation and the bank’s compensation philosophy. In many cases, it is more expensive to hire a CEO externally. Companies often pay external hires at or above the market median, and may have to negotiate sign-on awards to recruit them. Companies generally pay internally promoted CEOs below market at first and move them to market median over two or three years based on their performance.

Outgoing CEO:
In some situations, the outgoing CEO may stay on as executive chair or senior advisor to help provide continuity during the transition. In this scenario, pay practices vary based on the expected length of time that the chair or senior advisor role will exist. It’s often lower than the amount the individual received as CEO, but likely includes salary and annual bonus opportunity and, in some cases, may include long-term incentives.

Retaining Key Executives

CEO transitions may have ripple effects throughout the bank’s executive team. Executives who were passed over for the top job may pose a retention risk. These executives may have deep institutional knowledge that will help the new CEO and are critical to the future success of the company. Boards may recognize these executives by expanding their roles or granting retention awards. These approaches can enhance engagement, mitigate retention risk and promote a smooth leadership transition.

As competition remains strong in the banking industry, it is more important than ever to have a seamless CEO transition. Unsuccessful CEO transitions are a distraction from a bank’s strategic objectives and harm performance. Boards will be better positioned if they have a strong succession plan to help them identify CEO candidates with the skills needed to grow and transform the bank, and if they effectively use compensation programs to attract and retain these candidates and the teams that support them.