Before incentive programs can be determined, staffing needs are addressed and a succession plan is developed, a CEO needs to articulate a vision and communicate key priorities to his or her team. Gerry Cuddy, CEO of Beneficial Bank, Kent Ellert, CEO of Florida Community Bank and Chris Murphy, CEO of 1st Source Bank, explore what is capturing the attention and imaginations of bank CEOs today in this panel discussion from Bank Director’s 2016 Bank Executive & Board Compensation Conference, lead by Scott Petty, managing director, financial services at Chartwell Partners.
Highlights from this video:
Managing Talent in the Current Environment
Incentive Compensation After the Wells Fargo Scandal
New compensation and governance standards are impacting boards of directors in all industries, but even more so in banking, which has more regulatory requirements and is under greater scrutiny. The recent Wells Fargo & Co. $185 million settlement over alleged accounts opened without customer permission illustrates that even the most admired banks with seemingly solid risk management practices can succumb to these challenges. Scrutiny of board oversight, risk management processes and incentive plans will continue to increase.
Recently proposed Dodd-Frank Act incentive compensation rules seek to mandate specific incentive design features that regulators believe will mitigate risk taking. If finalized as proposed, incentive arrangements will require both financial and non-financial measures and be subject to increased controls, documentation, governance and oversight by boards of directors, most notably the compensation committee. Larger banks ($50 billion in assets or greater) will be required to defer compensation over multiple years and include forfeitures, risk adjustments and clawbacks for top executives and other employees defined as “significant risk takers.
Publicly traded banks face additional pressures and scrutiny from shareholders. Shareholder advisory votes on executive pay have influenced pay program designs and practices. Today, there is a greater focus on long-term compensation that aligns executives with shareholder interests. Pay and performance is more rigorously assessed and criticized. Proxy disclosure has shifted from basic compliance with Securities and Exchange (SEC) requirements to a “marketing-based approach” for companies to communicate the rationale and results of their pay programs. Engagement with shareholders also is increasing.
Below are some of the characteristics that will define the board’s role in this new era:
Reinforce Risk Culture: As highlighted by the Wells Fargo situation, everyone from the branch manager to the board of directors needs to embrace a culture of sound risk management practices. Boards need to help reinforce a culture of risk management, monitor compliance and ensure there are consequences for bad risk behavior at all levels of the organization. Whether it calls for termination of employee(s) or clawback/forfeiture of compensation, accountability should be meaningful. Significant compliance failures can put a spotlight on board oversight.
Challenge Status Quo: The recent focus on the age, tenure and diversity of board members reflects a perception of potential entrenchment among boards of directors. The real issue isn’t necessarily age or tenure but rather ensuring board members are willing to challenge the status quo, ask potentially unpopular questions and embrace different perspectives needed to ensure the bank continues to succeed in an increasingly competitive and complex environment. Incorporating this behavior in board evaluations can reinforce acceptance of diverse perspectives.
Proactively Recruit for Future Skills: As banks change their strategies on cyber risk, technology and product innovation, the composition of the board of directors must also evolve. The nominating committee should proactively define the future skills and experience needed on the board and strategically fill board positions (e.g. seek board candidates that meet multiple needs, such as someone with public company and technology expertise). In addition, ongoing board education should be formalized to ensure current members receive up-to-date information on industry trends and regulations.
Embrace Engagement: As their risk oversight role increases, board members can expect to have more discussions with regulators. Public company board members are also becoming more involved in shareholder engagement. For example, lead directors and/or compensation committee chairs are increasingly participating in discussions with shareholders. Boards should discuss the objectives, messages, roles and processes related to these discussions.
Drive Strategy Through Compensation: As banks continue to evolve their strategic plans to respond to the changing competitive landscape, it is equally as important to select incentive measures that reflect and support these goals. The compensation committee should ensure the portfolio of metrics used in the annual and long-term plans communicate to participants, regulators and shareholders how performance is measured and what will be rewarded. Without alignment between goals and strategic plan, the bank could be expending dollars inefficiently and potentially motivating the wrong behaviors.
These are just some of roles for the board in a post-financial crisis era. Use this list to start a dialogue on how your board’s composition, processes and oversight might need to change to adapt to the new environment.
A “lift-out” is often used to describe the hiring of a group of individuals from the same company who have worked well with each other and can make an immediate and long-term contribution. A successful lift-out can create financial gain or provide competitive advantage such as replacing or crowding out a competitor. It can help expand the bank’s geographic markets or solidify its existing footprint.
Lift-outs, however, are not without risk. Management that becomes too enamored with a team can overlook essential steps required to determine whether it would be accretive. Inadequate due diligence or simply “paying up” on compensation without having a reasonable understanding of the expected results can cause a myriad of issues. In order to mitigate the risk, bankers should follow a standardized process, as outlined below:
Stages of a Successful Lift-Out
Bank and team leader discuss potential market opportunities and competitive advantages.
Team leader gauges interest of other members, develops market projections and business plan for the bank’s review. Both sides investigate reputation, culture, resources and viability of a union.
Team joins bank and transfers client relationships in accordance with any contractual agreements. The bank plans for and announces the acquisition of the team internally and externally.
The team, which is now on the bank’s operational platform, becomes fully integrated and establishes relationships with other groups within the bank.
The compensation structure for the lift-out team should also support the four stages:
During the Initial Conversation stage, discuss high-level compensation expectations. Often, these conversations provide insight into the team’s current compensation levels and programs. It can help the bank determine whether the team can easily fit into the current compensation structure or whether additional compensation is required to entice the team to come onboard. If additional compensation is required, it is important to determine (i) how much?, (ii) in what form?, (iii) for how long?, and (iv) whether it will create any internal equity or pay compression issues for existing talent.
During the Due Diligence stage, the bank must determine compensation levels that are commensurate with the economic value of the lift-out. Understanding the amount and the timing of each team member’s individual production is essential. It can also help the bank make the determination about which team members are essential and truly accretive. Determining the expected production streams can help determine who needs a compensation package outside of the current structure and who within the team could readily be integrated into the current structure.
It may be helpful to create a program where the additional pay phases out over a period of time or is only paid if the individual (or team) meets the production expectations agreed on at the time of the lift-out. For example:
Special equity awards could vest based on the achievement certain levels of production within a specified period of time or could cliff vest (e.g., after 3 years) providing time to assess talent prior to vesting
Special bonuses could be paid if certain levels of production are achieved.
During the Team Transfer stage, care should be taken to address any internal equity concerns and ensure that non-competition/non-solicitation commitments are upheld.
Possible rationales for accepting differing levels of compensation among like positions could include the limited nature or timing of the differences or the financial impact of the additional revenue stream.
Revenue producing roles are increasingly subject to non-competition and non-solicitation agreements. To avoid litigation, it is extremely important to ask lift out team members for any documents that involve their interaction with clients or the solicitation of former employees. The bank should review these and seek the advice of legal counsel.
During the Cultural Integration Stage, the Bank should assess whether pay differences should (a) remain given the structure and/or economics of the team or (b) be discontinued.
Maintaining pay differences makes sense if the team continues to outperform or if the group is highly-sought after by other institutions. However, if the results are commensurate with those in similar roles, it may become increasingly divisive to maintain special programs. Integration into the existing pay programs is a more natural choice.
In summary, team lift-outs provide a way for banks to accelerate growth by acquiring, rather than developing, proven revenue producers. Thoughtful management of compensation during the stages of a lift-out ensures that individuals are enticed to move and are motivated to produce for the bank.
As the baby-boomer exodus from the workplace grows in the coming years, many banks will find themselves with a groundswell of leadership positions to fill. Yet a 2015 Crowe Horwath LLP survey of banks found that only about 23 percent of respondents have established a formal leadership program. Without a well designed internal development and succession plan, banks will be forced to scramble.
Building Versus Buying Talent With banks facing consolidation, regulatory expectations, and similar challenges, leadership planning hasn’t been a priority for many institutions. Twenty-one percent of respondents to Bank Director’s 2016 Compensation Survey say they have no long-term succession plan in place for the CEO, and another 16 percent say they have no plan for the other senior executives.
Some banks have been content to simply buy talent as needed, hiring experienced executives from outside of the organization, rather than take the time to build talent from within. It might seem like a luxury to put an individual in a management position as a development opportunity—better to keep experienced, productive people in their positions as long as possible and then look outside for equal experience when the time comes.
While understandable, this perspective is short-sighted. Promoting from within is far less costly and eliminates business continuity risk. Internal development also helps a bank maintain and reinforce its unique culture and makes it easier to retain high performers and those employees with high potential.
Of course, the board of directors also can present an obstacle to pursuing formal development and succession processes. Boards at banks frequently are populated by members of the traditionalist generation that precedes the baby boomers. They tend to believe that “the cream rises to the top” or in so-called “survival of the fittest”— in other words, those that deserve leadership positions will find their way to them without formal programs nurturing them. But regulators have begun impressing on bank boards the importance of approaching things like succession planning in a more formal way than has been done in the past.
The Role of Generational Differences Attracting talent and planning for succession is more challenging than ever. Banks that long have depended on the wisdom and work ethic of their senior teams now must attract, develop, and retain millennials (generally, those born after 1980), while engaging their Generation X employees (born 1965-1980), and adapting to the accelerating loss of boomers.
Banks might realize that the exit of boomers will produce a rash of leadership openings, but some don’t seem to grasp that a one-size-fits-all approach to recruiting, retention and leadership development is doomed to fail due to generational differences. For example, millennials have different expectations for their employers and careers than their boomer and Generation X colleagues. They often express a desire for jobs that allow them to help society and maintain a healthy work-life balance. To attract such workers, banks might need to emphasize their community involvement efforts, which could be of less interest to older employees.
Leadership development and succession planning processes also must recognize and reflect generational differences. Millennials, for instance, can be very open to receiving mentoring from their boomer colleagues because they’ve largely had close, positive relationships with their parents. Generation Xers, on the other hand, might have had rockier parental relationships. Gen X workers also came into the job market at a time of downsizing and outsourcing. As a result of these experiences, they can be more resistant to authority figures.
While research has found some distinct generational differences, similarities certainly exist, too. Strong management and leadership appeal to all generations. The good news is that these skills can be effectively taught, mentored and modeled with the assistance of formal processes.
Act Now A wave of leadership openings is on the horizon, and banks can’t afford to take a reactive stance—they need to plan for the transition to the next generation of leaders. Forming a succession plan and building a pipeline of talent requires time, so institutions should take the first steps now.
Banks today must adapt to a world where “digital”, “cyber risk” and “fintech” are the new business lexicon. As the bulk of the workforce shifts from baby boomer to millennial, there is an increased need to attract talent from outside traditional financial services. Below we highlight some changing and emerging roles and a few strategies banks can use to attract top talent.
Emerging Skills and Roles
Chief Technology Officer/Chief Digital Officer Banks today are pressured to enhance mobile capabilities and compete with fintech companies such as Lending Club, Square and Circle. These new competitors have disrupted traditional financial services offerings, which is forcing banks to adapt their product offering and service platforms to remain competitive. This new competition and technology focus have also led banks to reach outside their typical talent pool to attract candidates with new skills.
Chief Risk Officer/Chief Compliance Officer Since the financial crisis, regulators have significantly increased the requirements for banks to manage and mitigate risk practices. Add to that the increased threats of cyber risk and it is clear that risk and compliance officers are critical members of the senior leadership team.
Chief People Officer/Chief Culture Officer As a service related industry, people are a critical asset. And as more millennials enter the workforce, traditional banking environments may need to change. Talent development, succession planning and even culture will be differentiators and expand the traditional role of human resources.
Chief Strategy Officer/Chief Innovation Officer Part of the transition in the banking industry involves shifts in customer profile, competitors and new products. As banks emerge from the financial crisis and focus on growth and profitability, many are turning to innovators from outside the banking industry to help find creative M&A opportunities, new products and a new customer base.
Do’s and Don’ts
Attracting and retaining non-traditional banking talent can create both challenges and opportunities.
Think strategically: Assess the talent, skills and capabilities you need to execute your strategic plan (new regions, new products, new capabilities). What skill “gaps” need to be filled? Do you need to go outside or can you offer nontraditional career paths and transition current leadership into different roles? How should the leadership structure and team evolve? Create a leadership strategy that supports your business strategy.
Think outside the industry: Many of the roles discussed above are outside the norm for the traditional banking industry. Technology roles may be filled from start-ups or Silicon Valley firms and culture or innovation roles may be filled by ex-consultants or top talent from other industries. If you do recruit from outside of banking, you may need to access different sources of talent (e.g. recruiters) and different benchmark data than you typically use.
Be creative: If you fear you can’t “afford” talent from other industries, think beyond traditional compensation solutions. Compensation is only a part of a total rewards package and there are other important factors such as development and growth opportunities, as well as company culture and lifestyle. Be open to new work environments and career opportunities that will appeal to new (and current) staff.
Reward and retain: In the race to attract the “best” it can be tempting to offer large up-front compensation packages and buyouts of existing unvested awards to acknowledge that the executive is taking a risk to change jobs. While there are reasons to provide these usual pay components, if not designed right, they can be short-lived. A well-designed new hire package and ongoing compensation program should allow the bank to attract top talent, reward performance and create powerful retention.
Rely on compensation surveys: Many banks rely on established compensation surveys and/or peer group data to benchmark roles. However, such data for “hot jobs” is rare or far from perfect. Sample sizes may be small and data is often over a year old. Use multiple data perspectives/views and “triangulate” the information to determine fair and appropriate pay.
Over-focus on internal pay relationship: Respect and align with internal relationships but be flexible. In order to attract an executive in one of these “hot” areas, a bank may need to pay outside of the current compensation structure, but there should be a clear path to pay equity among the executive team over time.
Rush the process: It is important to undertake a thoughtful process when hiring a new executive, particularly those from other industries or non-traditional areas. The compensation committee should receive background information on the candidate(s) as well as detailed information on the compensation package, contractual arrangements and performance expectations.
Yesterday, John Smith, the president of ABC Bank, announced to the board of directors that he intended to resign to go work for XYZ Bank, a local competitor. Smith also intends to take some of the bank’s most important customers, and several top officers with him to XYZ Bank. Upset and panicked, the chair of the board contacted the bank’s employment attorney to determine what could be done to stop the president from leaving and taking customers and employees with him. “Send me a copy of John’s employment agreement,” the lawyer said. “Employment agreement? The board did not think John needed one. We never imagined he would quit.”
In today’s business environment, officers are heavily recruited by competitors, and these competitors offer opportunities for promotion and higher salaries and benefits. If a bank decides against entering into an employment agreement with its officers, it needs to ask: What are the legal ramifications of an officer departing to work for a competitor when he does not have an employment agreement?
One of the primary benefits of an employment agreement is that it provides for business continuity. Most employment agreements contain provisions for a term of employment, a notice provision regarding the desire to terminate employment (for both parties), and the grounds for termination. The employment agreement can protect the bank’s investment in time and money spent training high level officers and important personnel, and can limit the reasons that an employee can use to leave the financial institution. Of course, an employee cannot be forced to stay with the bank, but having an employment agreement can make an officer think twice before just walking out the door to a competitor, or attempting to start a competing business.
Another benefit to an employment agreement is that it can contain specific covenants that prevent officers from leaving to work for a competitor and taking the bank’s customers and employees. Having a non-compete agreement can prevent competitor institutions from attempting to poach your bank’s top talent. Your institution has a significant interest in protecting its goodwill, time and money spent in building customer relationships, and training employees.
A confidentiality clause is another provision that should be included in an employment agreement. The bank can prevent an officer from taking and using confidential information, such as customer lists and pricing information and disclosing that information to a new employer to the detriment of the bank. The provision can also require that the departing officer return all bank property, documents and information upon termination. Banks should also consider adding in a non-disparagement clause in an employment agreement, which can prohibit an officer from making negative public statements about the bank or its directors, investors and personnel upon departure.
Because the most likely ground for contention in the employment agreement is how the contract can be terminated, an employment agreement should spell out what reasons either party may have to terminate the agreement, and what financial ramifications follow. For instance, does there have to be “cause” to terminate the officer, and what exactly does “cause” mean? Does the officer need “good reason” to terminate the employment agreement, or can the officer just provide two weeks’ notice? If he does not have “good reason,” are severance provisions triggered? Employment agreements are a beneficial method to remove ambiguity and uncertainty surrounding these issues.
Even though our hypothetical bank president does not have an employment agreement, he still has some legal obligations to the bank as one of its officers. For example, he owes the bank a duty of loyalty. Accordingly, while employed by the bank, he is required to act primarily for the benefit of the bank in matters connected to his job. He cannot actively compete with ABC Bank while employed. However, it is important to note that he can prepare to compete while still employed by ABC Bank. Again, this is where having an employment agreement could possibly prohibit such actions.
Having an employment agreement with an officer and other key employees is advisable, as it is the easiest way to protect the bank’s interest when an officer departs. With proper planning and preparation, any financial institution can proactively prevent the disruptive event and potential loss of business that can be caused by the announcement of an officer’s resignation. A well-drafted employment agreement can limit the issues in dispute for both sides, minimize ambiguities, and cut down on potential litigation expenses.
*This video was originally published in Bank Director digital magazine in February, 2016.
U.S. Bank has a diverse workforce. It has a diverse board. But where it lacks diversity is the C-suite. U.S. Bank’s head of human resources, Jennie Carlson, talks about the bank’s strategy to change that.
U.S. Bank’s strategy for finding diverse candidates for the C-suite
U.S. Bancorp emerged from the financial crisis as a desirable workplace for talented employees, enabling the bank to better attract and retain talented employees. In this presentation, Jennie Carlson, executive vice president of human resources, outlines U.S. Bancorp’s transparent and analytical process to identify, reward and engage top employees. Millennials are changing how banks groom the next level of executive talent, which includes an increased commitment to diversity.