Vince Cable’s proposals for executive pay: bark or bite?

Royal Bank of Scotland (RBS) chief executive Stephen Hester may have bowed to public pressure and waived a £1 million bonus, but how much can executive pay really be reined in? Employment lawyer Emma Sanderson looks at Vince Cable’s proposals to limit boardroom bonuses

In 2008, the world went into financial meltdown. Financial institutions that had stood firm for generations collapsed; others were bailed out by the taxpayer and a global recession ensued that continues to be felt around the world. In the UK, there is continuing public anger at those deemed to have contributed to the crisis and increasing resentment at the pay gap between those at the top and bottom in businesses, particularly in struggling ones.

Emma Sanderson

Emma Sanderson, partner, Withers.

In this country, the latest development came with business secretary Vince Cable’s proposals on executive pay, announced in the House of Commons last week. These included:

  • Binding shareholder votes, possibly based on a 75% majority, on future pay policy for directors, as well as on lengthy notice periods and generous exit packages.
  • Greater transparency in remuneration reports, including less “data”, more “information”, for example explanations of how internal pay differentials and employee views have been taken into account in setting pay.
  • Greater diversity in the boardroom and remuneration committees, with Cable wanting “a couple of directors” on every board who have no previous boardroom experience. He also wants a requirement to report on boardroom diversity policy.
  • Consultation on requiring claw-backs of pay in all large public companies. Claw-backs are currently required only in parts of the financial sector, when performance has not lived up to expectations.

Cable did not, however, propose to put employees at the heart of the pay-setting process, despite calls to do so. Importantly, as with all new laws, the devil is in the detail. It is hard to see how some of these proposals will translate to workable legislation.

Rules on executive pay

It is important to remember that most of the UK’s laws and regulatory rules on executive pay are focused on publicly listed companies and the financial sector. There has been – and even with Cable’s proposals continues to be – little (if anything) that has a direct effect on other employers, particularly in the private sector. However, discontent among employees and unions, and increasing public pressure on those who appear to be enjoying the high life at the expense of others, add to the pressure on all employers to exercise restraint when it comes to executive pay.

Cable has admitted that no one of his proposed measures is a “silver bullet”, but he believes that they will help a necessary transformation to get underway and lead to a change in culture in boardrooms and companies across the country. This is an honourable intention, but will it work?

In theory, the idea of restraint with regard to executive pay should bring joy to shareholders: less money for directors, more for shareholders. However, it is not that simple. Cable believes that the pay expectations of executives are over-inflated and the idea that to compete in the global market requires ever-escalating pay is a myth. It appears he hopes that, with greater transparency and tighter shareholder control, we can lower expectations and stop the runaway train of pay increases. But he also accepts that “there is a legitimate role for high pay for exceptional talent and performance”. And therein lies one of the problems – how do you persuade an executive that he or she is not “exceptional”? And, in fact, do you want to?

“Utterly unacceptable” bonus award

Around the same time as Cable’s announcement, UK Financial Investments (UKFI), the company responsible for managing the Government’s shareholdings in the RBS Group and Lloyds Banking Group, saw fit to approve an annual bonus of £963,000 for RBS’s chief executive Stephen Hester. The decision to award this amount was described by unions as “utterly unacceptable” and condemned by many, yet the Government clearly thought that it was an appropriate reward for his contribution to the business during 2011. Hester waived that bonus yesterday, after a very public political spat, but he is still eligible to receive an annual long-term incentive award which is potentially worth far more than the bonus he has waived.

Companies don’t (or shouldn’t) set out to recruit “average” talent, especially at board level, and executives are well aware of their own marketability. If RBS does not pay Hester well, it is very possible he will go elsewhere (within or outside the financial sector) – a concern clearly in UKFI’s mind when it approved the 2011 bonus.

If publicly listed companies and financial institutions are not prepared to pay significant sums to directors who have proven track records of exceptional business performance, and who are exposed to ever-increasing legal liabilities, they may lose them to private companies that are prepared to do so.

Arguably, it not only takes all employers within the same sector, but in all sectors, to work in collaboration to lower the pay expectations of executives for this to really take hold. And that could take a very long time indeed.

Emma Sanderson is a partner at the law firm Withers

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