Pandemic Complicates CEO Evaluations

One of a board’s most important responsibilities is ensuring that the bank has effective leadership at the helm. This oversight role should include a regular evaluation of the chief executive’s performance.

Yet, 21% of the directors and CEOs responding to Bank Director’s 2021 Governance Best Practices Survey say their board doesn’t regularly evaluate the CEO. Further, conducting a regular CEO evaluation is a less frequent exercise at smaller banks — just 56% of respondents representing banks below $500 million in assets say their CEO’s performance is reviewed annually.

But even for boards that regularly assess the performance of their top executive, conducting this evaluation proved tricky following an unprecedented 2020. And evaluating performance for 2021 won’t be much easier, as challenges related to the Covid-19 pandemic have remained through the first half of the year. Boards may want to reassess their process — and measurements — as a result.

The biggest challenge [for] 2021 is trying to be reasonable about changes from 2020,” says Rick Hays, chair at $1.3 billion Eagle Bancorp Montana in Helena, Montana. He cites the outsized demand for Paycheck Protection Program loans as an example. And 2021 has had its own idiosyncrasies so far, so it may not be appropriate to gauge performance through comparison to pre-pandemic outcomes.

Eagle Bancorp Montana’s board conducts an annual evaluation of its CEO, Pete Johnson. “It’s a fairly straightforward, deliberative process,” says Hays. The board’s independent members regularly convene in March to review Johnson’s performance based on the strategic goals set the previous year. At that time, they compile a consensus evaluation, which factors into compensation decisions for the year. Hays, as chair, reviews and discusses the evaluation in a one-on-one conversation with Johnson.

The assessment incorporates qualitative and quantitative data points; efficiency and return on average assets are among the metrics reviewed. “The board decided a few years ago that those were going to be our overarching goals,” says Hays, “and the executive team agreed wholeheartedly, so we’ve proceeded down that road.”

More than three-quarters of the executives and board members responding to Bank Director’s 2021 Compensation Survey indicated that CEO compensation is tied to performance metrics, with income growth (56%), return on assets (53%) and asset quality (46%) the most commonly used.

Hays and the board were pleasantly surprised with the bank’s financial performance for the year, given its challenges, which they believed were important to factor into Johnson’s evaluation. “[Covid-19] impacted everything we did, everything he did,” he says. Targets were achieved — all while taking extra precautions and steps to care for employees and customers in a crisis. “It wasn’t just meeting needs; it was meeting them in a different way for a lot of 2020. So, it had to be factored into the evaluation, to be able to achieve the results achieved, particularly given the environment in which they were achieved.”

A quarter of the respondents to the 2021 Compensation Survey said that their board exercised more discretion and/or relied more heavily on qualitative factors in examining CEO performance for 2020.

While Eagle Bancorp Montana’s CEO evaluation process is now an annual one, the board conducted a mid-year review when Hays was new to his role as chair. This created transparency in the process and ensured everyone was on the same page. “I wanted to make sure that [Johnson] was comfortable with how I was viewing things,” he explains. “The main objective in my mind about any performance evaluation is to eliminate any surprises when you finish up the year [and] create the written performance evaluation.”

At Southside Bancshares in Tyler, Texas, the annual CEO evaluation process begins in the compensation committee, which is chaired by Patti Callan. Several qualitative factors are considered in the board’s examination of the CEO’s performance. These factors are “soft skills that are important [to] being the leader of the company,” says Callan, and include developing the company’s culture, innovation, regulatory management, ethics and integrity, community outreach, customer service, shareholder relationships, board communications and leadership.

More than half of respondents in the 2021 Compensation Survey said that they measure CEO performance based on strategic goals; 38% don’t tie CEO performance to any qualitative factors.

According to Southside’s most recent proxy statement, the board also examined performance measures such as growth in earnings per share, loan growth, return on average equity, the efficiency ratio and nonperforming assets as a percentage of total assets.

Strategic planning occurs in the fall, with the CEO evaluation generally following in January. The strategic plan guides the goals that the board will lay out for the year; these are outlined at the end of the evaluation.

Strategic goals typically have a one- to five-year time horizon, says Callan, “so it’s very difficult to put a definite value on goals so far into the future, particularly in these uncertain times. Building a plan with a performance range that includes a threshold, target and maximum payout gives us the opportunity to determine whether we are on the high or low side of performance.” This year, the board ensured that not only were these goals outlined, but they also clarified how they’d measure progress toward achieving them by tying metrics to specific measurements. “It’s well worth the time and the effort to complete this process, as it makes the determination of the degree that each goal was achieved at year end very quantitative,” she says.

“Your strategic plan should provide a roadmap,” said Bryan Cave Leighton Paisner Partner James McAlpin Jr. earlier this year in an interview with Bank Director Editor at Large Jack Milligan. “What are your goals with respect to loan growth, with respect to efficiency, with respect to net interest margin [and] overall profitability? So that there’s some measure, and then [they’ll] perhaps take stock halfway through the year and then again at the end of the year, so there’s some objective criteria on which to base an evaluation.”

Southside CEO Lee Gibson III completes a self-assessment based on metrics outlined at the beginning of the year. Concurrently, the compensation committee, board chair and vice chair complete their own assessment, blending the reviews into one document. The comprehensive feedback identifies areas where Gibson can improve his performance and by extension, that of the $7 billion bank. “[I]f there is an area that we excel in, we’re quickly able to identify and build on those areas. Conversely, if there is an area that requires improvement, it is clearly obvious. The process not only measures and improves current programs within the bank but can also result in the development of new programs, which gives us an opportunity to establish new metrics for the next year,” says Callan.

Southside Chair Bob Garrett points out that banks didn’t only face a pandemic in 2020. There was also the adoption by many financial institutions — including Southside — of the current expected credit loss (CECL) accounting standard, and a changing administration in Washington. And the uncertainty didn’t abate on Dec. 31, 2020 — Covid-19 continued to impact communities in the first half of 2021.

On top of all that, Southside and other Texas banks weathered plummeting energy prices. “Although our bank doesn’t have a heavy portfolio in oil and gas, it has a profound impact on the economics of our entire state,” Garrett says. And a mid-February snowstorm further devastated the state. “We [are] not set up for subfreezing temperatures over a seven-day period here in our part of the world. In many respects that event challenged us even more than the pandemic,” he says. The accumulation of snow and ice resulted in the failure of the Texas power grid and the loss of other utilities. “It was an absolute mess, but we were able to make good decisions,” Garrett says.

Forecasting for 2021 — and evaluating the CEO’s execution of those goals in early 2022— could prove just as challenging for bank boards as they did earlier this year.

Last summer, Callan and the rest of the compensation committee gathered via Zoom to discuss how to adjust the CEO evaluation process, which they believed wouldn’t accurately reflect performance in this more dynamic environment. First off, the previous plan reported measurements as a percentage of the maximum opportunity, and the committee believed those results didn’t accurately reflect the hard work put in by executives, she says. “That made us uncomfortable. We were also uncomfortable with our ability to predict what was going to happen by the end of the [2020],” Callan further explains. “When you have metrics that are geared specifically for certain results — but may not have taken into consideration the enormous amount of time and skills it takes to maintain your current customer base during such turbulent times — even though [executives are] working harder than they’ve ever worked before, they may or may not be getting compensated appropriately under our previous structure. This was during a time when keeping our key employees was critical. We needed to make sure they were recognized and rewarded for their hard work, but we also needed to assure the individualized quantitative goals were being accomplished.”

Southside worked with a consultant to restructure its program, shifting how the board reviews qualitative and quantitative factors. “It allows for a targeted range with a base, midrange and maximum opportunity so that executives’ production or performance fit within the appropriate range to achieve some bonus categories,” Callan says. The evaluation process includes an individual scorecard as well as documentation that provides more detail. These are tailored per role, beginning with the CEO.

Updating the compensation plan on the heels of a global pandemic proved to be a “wise move” by the compensation committee, Callan believes. “We didn’t know at the time that our bank was going to have the best year in our 60-year history. We really felt the need to be focused on and prepared for ‘the worst thing that could happen,’ which thankfully didn’t occur,” she says.

Bank Director’s 2021 Compensation Survey, sponsored by Newcleus Compensation Advisors, surveyed 282 independent directors, chief executive officers, human resources officers and other senior executives of U.S. banks below $50 billion in assets to understand talent trends, cultural shifts, CEO performance and pay, and director compensation. The survey was conducted in March and April 2021.

Bank Director’s 2021 Governance Best Practices Survey, sponsored by Bryan Cave Leighton Paisner LLP, surveyed 217 independent directors, chairs and chief executives of U.S. banks below $50 billion in assets. The survey was conducted in February and March 2021, and explores the fundamentals of board performance, including strategic planning, working with the management team and enhancing the board’s composition.

Bank Director also conducts an Executive Performance Survey that is available as part of its membership program.

Getting a Return on Relationship Profitability

profitability-7-8-19.pngHow profitable are your bank’s commercial relationships?

That may seem like a strange question, given that banks are in the relationship business. But relationship profitability is a complex issue that many banks struggle to master. A bank’s ability to accurately measure the profitability of its relationships may determine whether it’s a market leader or a stagnant institution just trying to survive. In my experience, the market leaders use the right profitability metrics, measure it at the right time and distribute that information to the right people.

Should Your Bank Use ROE or ROA? Yes.
Many banks use return on assets, or ROA, to measure their portfolio’s overall profitability. It’s a great way to compare a bank’s performance relative to others, but it can disguise credit issues hidden within the portfolio. To address that concern, the best-performing banks combine an ROA review with a more precise discussion on return on equity, or ROE. While ROA gives executives a view from above, ROE helps banks understand the value, and risk, associated with each deal.

ROA and ROE both begin with the same numerator: net income. But the denominator for ROA is the average balance; ROE considers the equity, or capital that is employed by the loan.

If your bank applies an average equity position to every booked loan, then this approach may not be for you. But banks that strive to apply a true risk-based approach that allocates more capital for riskier deals and less capital for stronger credits should consider how they could use this approach to help them calculate relationship profitability.

Take a $500,000 interest-only loan that will generate $5,000 of net income. The ROA on this deal will be 1 percent [$5,000 of net income divided by the $500,000 average balance]. The interest-only repayment helps simplify the outstanding balance discussion and replicates the same principles in amortizing deals.

You can assume there is a personal guarantee that can be added. It’s not enough to change the risk rating of the deal, but that additional coverage is always desirable. The addition of the guarantee does not reduce the outstanding balance, so the ROA calculation remains unchanged. The math says there is no value that comes from adding the additional protection.

That changes when a bank uses ROE.

Let’s say a bank initially allocated $50,000 of capital to support this deal, generating a 10 percent ROE [$5,000 of net income divided by the $50,000 capital].

The new guarantee changes the potential loss given default. A $1,000 reduction in the capital required to support this deal, because of the guarantee, increases ROE 20 basis points, to 10.20 percent [$5,000 of net income divided by the $49,000 of capital]. The additional guarantee reduced risk and improved returns on equity.

The ROA calculation is unchanged by a reduction in risk; ROE paints a more accurate picture of the deal’s profitability.

The Case for Strategic Value
Assume your bank won that deal and three years have now passed. When calculating that relationship’s profitability, knowing what you’ve earned to-date has a purpose; however, your competitors care only about what that deal looks like today and if they can win away that customer and all those future payments.

That’s why the best-performing banks consider what’s in front of them to lose, not what has been earned up to this point. This is called the relationship’s “strategic value.” It’s the value your competition understands.

When assessing a relationship’s strategic value, banks may identify vulnerable deals that they preemptively reprice on terms that are more favorable to the customer. That sounds heretical, but if your bank’s not making that offer, rest assured your competitors will.

The Right Information, to the Right People, at the Right Time
Once your bank has decided how it will measure profitability, you then need to consider who should get that information—and when. Banks often have good discussions about pricing tactics during exception request reviews, but by then the terms of the deal are usually set. It can be difficult to go back to ask for more.

The best-positioned banks use technology systems that can provide easily digestible profitability data to their relationship managers in a timely fashion. Relationship managers receive these insights as they negotiate the terms of the deal, not after they’ve asked for an exception.

Arming relationship managers with a clear understanding of both the loan and relationship profitability allows them to better price, and win, a deal that provides genuine value for the bank.

Then you can start answering other questions, like “What’s the secret to your bank’s success?”

Incentive Plans: Who Makes the Cut?

incentive-pay-1-11-16.pngBanks frequently ask the question: Who should be included in their various performance-based incentive plans? Of course the answer to this question isn’t clear cut. This article attempts to put some clarity—and statistics—behind this decision for both cash-based and equity-based incentive plans.

Cash-Based Incentive Plans
The eligibility for performance-based annual cash incentive plans ranges from zero employees to all employees. Yes, some banks still use a completely discretionary cash incentive or bonus program. The discretionary approach is not best practice, but is still prevalent. Today’s employees want to know what they need to do in order to receive a bonus, and companies are better served by giving these employees some clarity.

Budgeting for performance-based cash incentives can be relatively easy. Start by determining how much you are willing to share and what you can afford to share. It is recommended that you establish a minimum profit amount, or income trigger, that must be achieved before any cash incentive is paid. This gives you some cushion and protects your company and shareholders from paying bonuses it can’t afford. Once you have built in the cushion, run some cost estimates based on your eligible employees and their potential incentive awards.

The truly difficult part for performance-based cash incentive plans is the goal setting. Identifying overall company goals should not be complicated (lean on your strategic plan), but the individual and department goals may be challenging. It’s easiest to establish goals and track performance for production-focused positions. However, for operations-focused positions, companies sometimes decide to either base these positions’ annual incentive solely on corporate goals or “throw their hands up” and move to discretionary goals. It’s not easy, but banks should work to establish objective goals. You may not get it perfect the first time, but keep working on it. Goal setting is a process that you get better at over time.

So who should participate? Our Blanchard Consulting Group 2015 Bank Compensation Survey (which included 124 public and private banks and 140 positions) gathered data on bonus payments, incentive award opportunity levels, and the prevalence of performance-based incentive plans. The survey showed that the use of performance-based incentive plans increases with the size of the organization (from 41 percent prevalence in banks below $500 million in assets to 72 percent prevalence in banks above $1 billion in assets). The target award opportunity levels generally ranged from approximately 30 percent of salary for executives down to 2 percent of salary for entry level positions. One interesting finding from the survey was that every position had cash bonus/incentive amounts being paid. This doesn’t mean every bank paid bonuses to everyone, or that they were all based on performance, but it does mean there were at least a number of banks that paid bonuses all the way throughout the organization. Ultimately, the decision is up to each bank, but it is recommended that all full-time positions be eligible to participate in the cash incentive plan.

Equity-Based Incentive Plans
The days of having stock-option plans that include all employees in the bank are long gone. Equity-based plans are far more prevalent in the executive and officer group than other employees. However, some banks are still using equity at lower levels in the organization. The Blanchard Consulting Group 2015 Bank Compensation Survey gathered data on equity plan prevalence, employee eligibility in banks with a plan, and grant prevalence over a multi-year period, from 2012 to 2015.

The findings showed that much like cash incentive plans, the prevalence of equity-based plans increases with the size of the organization: 26 percent of banks below $500 million in assets have equity-based plans and 55 percent of banks above $1 billion in assets have them. The most interesting findings from our equity review surrounded the eligibility data. Not surprisingly, 70 percent of executive level positions had equity plans. These numbers dropped to below 10 percent for some entry level positions, but surprisingly, the mid-level positions showed eligibility in the 20 percent to 40 percent range. The actual grant prevalence data over a multi-year period was generally above 75 percent for executives and stayed above 40 percent for many mid-level positions. This shows that banks with an equity plan are using it well below the executive level.

In summary, it seems clear that banks are leaning towards including more of their employee base in their cash and equity-based incentive plans when they have these programs. This requires extra work in administration and communication, but hopefully is creating an engaged staff that is driving towards the success of the bank in a unified way.

Keeping Your Compensation Committee On Track During the Busy Winter Season

executive-compensation-11-11-15.pngThe Dodd-Frank Act, regulatory guidelines on compensation risk and shareholder advisory votes on executive compensation have all contributed to an increase in the compensation committee’s responsibilities and time requirements. That pressure is compounded this time of year as committees enter their “busy season.” The fourth quarter is the start of many critical and often scrutinized committee activities: reviewing performance, approving 2015 incentive awards and developing 2016 performance incentive plans.  This article provides a sample full year committee calendar and a checklist of activities and actions compensation committees should be focusing on during Q4 2015 and Q1 2016.

It is best practice for compensation committees to define and schedule their annual activities for the year in advance. A well-defined calendar helps members better plan and prepare for the critical, and often timely, decisions that are required. There are three key cycles to the annual calendar: Assessment, Program Design and Pay Decisions.

Assessment occurs during the more “quiet” months following the prior year’s performance cycle where pay decisions are made, but before the start of the next performance cycle when a new program starts. For companies whose fiscal year follows the calendar year, this typically occurs between June and October (following most public company annual meetings). While there may be less pressure to approve and take action during this time, the analysis conducted during this phase will be critical for decisions made later in the year. Compensation committees should use this time to reflect on the pay program and decisions of the prior year and assess peer, market and regulatory trends that might influence programs in the coming year. This is a perfect time to conduct robust tally sheets, assess the pay and performance of your company relative to peers, conduct peer/competitive benchmarking, and if you are a public company, review say-on-pay results and conduct shareholder outreach. Information reviewed during this phase provides the foundational knowledge needed for the upcoming design and decision cycles.

Program Design typically occurs in the late fall and early winter (e.g. November–January), when compensation committees review the assessment phase results and begin defining total pay opportunities and programs for the upcoming year (i.e. base salary, annual and long-term incentive opportunities and performance goals). Compensation committees should pay careful attention to performance metric selection and goal setting to ensure proper pay-performance alignment. It is also critical to ensure the incentive plans support sound risk management practices. Many banks will complete their annual incentive risk review at this time. This is also an opportune time to consider implementing or revising compensation policies or practices, perhaps in light of shareholder feedback.

Pay Decisions occur in the late winter (e.g. January–April). During this phase, performance evaluations are conducted and decisions are made related to incentive payouts. Pay opportunities for the new year are also set, including annual incentive opportunities and long-term incentive grants. All banks should have conducted their risk assessment review by this time as well. Once Section 956 of the Dodd-Frank Act is finalized, banks will be required to provide documentation of their risk review to regulators. For companies whose fiscal year ends at the end of the year, this will occur during the same timeframe, in the late winter or early spring. This is also a very busy time for public companies that are required to document the prior year’s pay decisions in the proxy in preparation for shareholder review. Many committees spend several meetings discussing these issues.

Periodic activities include, but are not limited to: executive and board succession planning, incentive risk assessment, board and committee evaluations, consultant evaluations, benefit plan review, employment agreement/severance arrangement review and shareholder engagement.

Ongoing updates throughout the year include incentive payout projections and regulatory updates.

Below is an illustration of a typical compensation committee annual cycle with a check list of key activities for Q4 and Q1:

Today’s environment of increased scrutiny on executive compensation and governance requires compensation committees to spend more time fulfilling their responsibilities. Having a well-planned calendar, with a heightened focus on the “off season” assessment activities, can help committees be better prepared for the many critical year-end decisions.

*Section 162(m) of the Internal Revenue Code allows public companies to deduct performance-based compensation above $1 million if it meets specific requirements.

Top Five Ways Mergers Will Achieve the Needed Economies of Scale (Because Most Don’t)

Achieving economies of scale is one of the key strategic reasons behind a bank merger. The thinking is that a larger institution can spread costs such as investments and regulatory burdens across a larger customer and revenue base. Plus, for banks with $10 billion and more in assets, a merger offsets the lower interchange revenue from the Durbin Amendment and higher regulatory requirements.

Data from the Cornerstone Performance Report shows that the necessary improvements to productivity often fall short of the economies of scale that make a merged bank more competitive. In the report, Cornerstone compares “assets per employee” for banks of two broad asset size ranges.

  Banks $5B-$10B Banks $10B-$20B
  Peer Median 75th Percentile Peer Median 75th Percentile
Assets per employee $4,433,255 $5,500,897 $5,642,144 $7,229,156
Return on average assets 0.80% 1.07% 0.99% 1.11%

A median performer in the $5 billion to $10 billion group needs to achieve a 24 percent productivity improvement to become a 75th percentile performer and a 27 percent productivity increase to be a median performer once it breaks the $10 billion barrier. However, most merger cost savings usually target 20 to 30 percent of expenses—with 50 to 60 percent of those savings being people-related. In other words, a bank’s cost-save targets may enable it to achieve 75th percentile productivity temporarily but it will revert back to the “average” as the bank grows. Clearly, banks do not pursue mergers to sustain mediocrity. A bank that is a median performer today in the $10 billion to $20 billion asset category would need to improve by 63 percent to achieve and sustain high productivity performance.

So, how can banks turbo-charge their merger efforts to achieve high-performer economies of scale and productivity improvements? Here are five ways:

  1. Ensure that the bank is performing an integration and not just a conversion. The terms “integration” and “conversion” are often used interchangeably. However, they are very different. Integration includes conversion (i.e., getting all customers and employees on common technology platforms) and a rigorous evaluation and streamlining of the bank’s operating processes and organization. Conversions do contribute to productivity saves and scale but not to the extent that integration does. In the race to convert their core, Internet banking and other systems, many banks will not perform any significant redesign. Serial acquirers often fall into this trap as they want to convert quickly and move on to the next deal. Nine times out of 10, the serial acquirer’s processes are geared to a much smaller institution and eventually break down, requiring the bank to stop and truly integrate.
  2. Ensure that metrics related to scale benefits (both bank-wide and in key functions) are included in any merger reporting. Management and board reporting typically include progress based on achieving milestones, which usually just measures conversion priority. Tracking benefits such as productivity improvements is as important as integration costs and cost-saves. Managing conversion risk is a critical responsibility for the board and management, but so is managing the strategic risks of not being competitive because the bank is less productive than its competitors.
  3. Engage and empower younger managers in the integration process. Banks that pursue true integration often fall short of full success due to an inability to change. Senior managers 1) feel comfortable with what they do and are reluctant to change, and 2) want to change but don’t know how (i.e., don’t know what they don’t know). This occurs most often when a transaction or series of transactions increases the bank’s assets by 30 to 50 percent in a short period of time—when real change is required. Fresh perspectives in the form of newer and younger managers who are free of a “we’ve always done it that way” mindset can help drive new ways to do business that better leverage technology and/or streamline processes.
  4. Discourage “Phase 2.” Banks sometimes approach productivity savings by planning a Phase 2 after conversion to optimize processes, better leverage technology, and so forth. Phase 2 almost never happens, especially with serial acquirers because other priorities or opportunities arise, causing banks to leave money on the table. If the bank insists on a Phase 2, ensure the initiative is continually monitored and measured as part of ongoing merger reporting.
  5. Integrate to what the bank will look like in the future—not just what it will look like after a transaction. Determine the performance levels (and metrics) for a much larger institution and plan the integration efforts to achieve them.

Higher Salaries, Tougher Performance Metrics Mark Pay Trends for 2015

12-19-14-Pearl.pngAs banks look ahead to 2015, compensation committees are entrusted with the task of determining executive pay for the upcoming year. The goal is to ensure an optimal balance between providing fair compensation for the job and motivation to meet and exceed business objectives.

Based on Pearl Meyer & Partners’ recent survey, Looking Ahead to Executive Pay Practices in 2015 – Banking Edition, there are five trends that compensation committees should consider as they make decisions for the upcoming year.

Banks of all sizes are facing the same pay challenges.
Regardless of size, the study indicates that banks are facing the same top three pressing issues:

  1. Alignment of incentives with business strategy and objectives;
  2. Assuring compensation plans ultimately result in pay/performance alignment; and
  3. Attraction and retention of key executives.

Implications: The ongoing quest to align pay programs with business strategies requires specificity. Boards should define “what is success?” in enough detail that incentive plan metrics can be chosen that have a direct linkage to realizing that success.

Compensation committees should also consider the definition of pay being used as they analyze pay-for-performance. Pay realized or realizable by the executive may offer the best insight into the relationship between compensation and financial results.

More banks are increasing CEO and direct report base salaries.
The overall number of institutions in 2015 that expect to increase CEO base pay between 2 percent and 4 percent is 41 percent, up from 26 percent in 2014. Increases in the 4 percent to 6 percent range are also on the rise versus the previous year.

CEO direct report base salaries are also rising modestly with 59 percent of banks anticipating increases between 2 percent and 4 percent, an improvement of 9 percentage points over the previous year.

Implications: As banks return to profitability, more are reinstituting modest base salary increases. Significant gains in executive compensation are more likely to come through incentive compensation and in particular, long-term awards as compensation committees seek to strengthen the pay-for-performance relationship.

Annual incentive program payout levels are expected to be strong.
Thirty-three percent of banks anticipate that bonuses will be somewhat higher for 2014 performance, with 32 percent expecting bonuses to exceed 100 percent of target. In particular, larger banks with more than $3 billion in assets expect strong payouts, with 47 percent indicating bonuses above 100 percent of target. Another 33 percent expect bonus payouts similar to the prior year.

Implications: Annual incentive plan payouts are an indication that many banks have recovered from the worst of the financial crisis. Compensation committees should align payout levels with strengthening bank financials and the economy as our next trend suggests.

Incentive program performance goals are expected to get tougher.
Perhaps as a sign of continued economic recovery and greater scrutiny on pay-for-performance, 48 percent of banks are planning to increase the difficulty of their performance goals in 2015. This again is most pronounced among institutions with more than $3 billion in assets, where 67 percent expect to increase goal difficulty.

Implications: Goal difficulty should be tested using both internal and external benchmarks to ensure performance levels employ an appropriate level of stretch goals while being realistic and achievable. Comparisons to historical performance, budget, analyst forecasts and peer group performance may prove useful.

Long-term incentive values are steady and growing. Performance shares are gaining in prevalence.
As banks consider shareholder alignment and regulator encouragement to link rewards to the time horizon for risk, 44 percent of banks predict equity award values will remain at current levels, while 38 percent of all respondents are expecting either somewhat or considerably higher value in 2015.

Banks continue to adopt performance shares, which are prevalent in other industries. Currently, only 18 percent of banks use performance-based vesting versus 33 percent in other industries; however, more than 15 percent of bank participants are planning to use performance-based awards for the first time in 2015.

Implications: The data indicates that banks may be shifting the executive compensation mix to be more long-term through the use of equity awards. As stock option usage declines and there is greater pressure to link pay and financial performance, banks often are adding performance vesting to restricted stock (or restricted stock units) in order to achieve the objectives of shareholder alignment, stock ownership and executive retention.

As banks address the same pay challenges across asset sizes, compensation committees are seeking ways in which to improve the pay-for-performance relationship. Based on the results of the study, boards are doing this by increasing the difficulty of annual incentive plan goals, placing emphasis on long-term incentive compensation and granting performance-based equity. Combining these actions with a review of performance to realized/realizable pay and testing incentive plan goal difficulty can assist the committee in making appropriate compensations decisions for 2015.