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Who Regulates the Regulators? Government Stepping in on Executive Compensation for the Financial Industry

| Wednesday November 4th, 2009 | 0 Comments

Regulated MoneyBy John Comberiate

As we observe the anniversary of the financial crisis, taxpayers and executives have their eyes equally fixed on the government’s plans to regulate executive compensation in the financial industry.  Their decision, after such a catastrophic event with such far reaching consequences, will have to be just as complex in order to placate the opinions of all the parties involved.

So where do they begin?

In case you’ve been under a rock, you may want to catch up on what’s been happening in the financial industry for the past two years.  Part of the government’s response to the financial collapse was creation of the role of ‘Special Master for Compensation’ (aka, the “Pay Czar”) and appointment of Kenneth Feinberg.  Congress passed a law saying that the Pay Czar will determine individual compensation for the top 25 individuals in the seven TARP companies, design compensation structures for individuals twenty six through one hundred and gives him the right to clawback, or recoup, compensation dolled out in the past.  Feinberg’s team set to work and has now put together the executive compensation totals for the top 25 individuals and is working on the compensation plans for the top 26 through 100.

How did they do it?

In determining the compensation plans, Feinberg was given specific statutes to prioritize his focus:

  • Make sure the firms can remain competitive
  • Make sure the firms can retain their talent
  • Make sure the firms can be successful in the future

With this in mind, Feinberg’s team designed the new compensation plans to remove upfront and short term guarantees, replacing them with performance and loyalty based compensation.  In this new design, executives are no longer incentivized to take on copious amounts of risk that could parlay into high short term reward with a long tail of potential disaster for the future of the firm.  The team accomplished this by removing signing bonuses, cutting out a large percentage of the cash salary for executives and introducing a vesting period greater than a year on stock options.

Sounds good but what does it mean?

With guidelines and objectives in place, the real issue was turning the policy and theory into dollars and cents totals.  Not an easy task by anyone’s imagination.  They collaborated with the firms to collect data that would help them measure performance and compare individuals between firms.  Rather than just taking the firm’s word for it though, they also put together a team of independent analysts to collect their own data and run their own metrics.  The data gathered and reviewed, they met with other regulatory agencies to prioritize the importance of the various collected variables and finally came up with real numbers.

When the government starts setting executive compensation, does that mean we are sitting on a slippery slope in terms of capped income levels and government control?  Experts are arguing that we remain vigilant, ever weary of the precedent being set, as we seem to pave the way for the corporate world to end, not as a bang, but a whimper.  Whatever actions end up being taken, one thing is sure.  Everyone is watching.

John Comberiate is a first year MBA student in the Accelerated Part-Time track at the University of Maryland Robert H. Smith School.  Working as a blogger and as member of Toastmasters International, he is developing the skills needed to spread the word about Social Value creation occurring in the world and how people can get involved.


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