Analysis: The Walker Review

The Walker Review was published in its final form on 26 November.

Its recommendations follow a 10-month independent review by former Morgan Stanley chairman and Bank of England director Sir David Walker into corporate governance and remuneration issues for listed banks and other financial institutions in the UK. They also cover Financial Services Authority (FSA)-authorised banks that are UK subsidiaries of foreign entities.

The Financial Reporting Council (FRC) and the FSA have been tasked with implementing the recommendations. There have been various recommendations and proposals at a domestic, continental and international level in the area of financial services industry remuneration, and the Walker Review aimed to bring these threads together.

Walker’s main recommendations concern variable pay, and disclosure requirements relating to board and high-end employees. Regarding variable pay, the review states that short-term bonuses should be paid over three years, with no more than one-third payable in the first year. At least 50% of the variable pay for each year should be in the form of a long-term incentive award, subject to performance conditions, with half of the award vesting after not less than three years, and the remainder after five years.

Walker also states that claw-back should be used to reclaim amounts in limited circumstances of “misstatement and misconduct”. However, it does not expand on this at all, and therefore question marks remain as to how such mechanisms might work in practice, from a drafting and legal perspective. The most common form of claw-back is simply to state that awards only vest in tranches after a specified period of time, and must satisfy conditions at that point in time. But, where an incentive plan has not been drafted in that way, and the award which is due to be paid does not satisfy Walker’s recommendations, it remains to be seen how firms might seek to amend the payment terms.

One solution for affected firms would be to seek FSA guidance on this. The new Financial Services Bill, which was announced in draft form in the Queen’s Speech on 18 November, envisages giving the FSA the power to make non-compliant contracts void and to require claw-back. Crucially, there is no power to alter contracts already in place, and so we await the implementation of the Financial Services Bill (which is expected before June 2010) as it is from this, we expect, that most of the reform will stem.

The review also stated that from the 2010 accounting year, there will be a requirement for remuneration committees to disclose the total remuneration for all high-end employees earning £1m or more a year. Many critics have been disappointed at these proposals as the changes will not be implemented until 2011 at the earliest.

Disclosure will not be on a named basis, however, and the requirement will only be to set out the business activity in which the relevant employees work “to the extent possible”, to address concerns from affected employees who want to remain anonymous. As details are to be kept anonymous, it is unlikely that legal challenges will be brought by affected employees.

The disclosure bands are £1m to £2.5m, £2.5m to £5m, and then in successive £5m bands thereafter, indicating the types of remuneration that make up this total. Walker also recommends that foreign banks with UK subsidiaries disclose pay received outside the UK to avoid non-compliance.

High-end employees are executive directors and all non-board member employees who perform a “significant influence function” or whose activities have, or could have, a “material impact on the risk profile of the firm”. “Significant influence function” is defined in the FSA Handbook as those individuals who hold a “controlled function”, and is deemed to cover various specified roles within an FSA-registered firm.

What can we expect in the future? The review said that once its recommendations have been adopted, this will create “a more demanding regime than that currently in place in any other major jurisdiction”. But it also anticipates that the rules in other jurisdictions will change in 2010 to bring them more in line with the UK’s position.

Chris Hitchins, partner and Ashley Brown, associate, Morgan Lewis

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