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20% Bonus Cut: Do Pay-for-Performance Plans Really Work?
By Elyse Hoffmann
Published On November 1, 2024
By: Michael Blanchard, Matt Brei, Jeff Fairchild
Annually, Blanchard Consulting Group has numerous conversations with banks related to their incentive plan designs and payouts. During 2023 and 2024, these conversations often focused on how incentive plans were not likely to pay out at targeted levels of performance. This was primarily due to banks not meeting their annual budget and achieving results that were below typical performance achievement levels. A multitude of similar conversations about performance and incentives led us to conduct a pay versus performance analysis surrounding actual cash incentive payouts.
Once year-end financial performance and the associated cash incentive/bonus payouts were released in early 2024, Blanchard Consulting Group conducted an analysis of 177 CEO and 106 CFO positions from banks in our internal databases. We wanted to see if the actual cash incentive/bonus payments decreased in 2023 as compared to 2022 and 2021. For each of the CEO and CFO positions, we examined cash incentives/bonuses paid for 2023, 2022, and 2021 to see if there was a significant difference. In addition, we examined the year-end ROAA and ROAE for each of these banks to evaluate their annual performance.
What did we find out about CEO and CFO cash incentives/bonuses paid in 2023, 2022, and 2021?
For both the CEO and CFO positions, we found that the median value of cash incentive/bonus payouts decreased in 2023 as compared to 2022 by approximately 18% for the CEOs and by approximately 24% for the CFOs. **We examined various asset size ranges and found no significant differences in the results. The 2021 and 2022 cash incentives/bonuses were paid at very similar levels for the CFOs. The CEOs had a modest increase in their median cash incentive/bonuses paid from 2021 to 2022 before the dip in 2023.
What did we find out about ROAA and ROAE in 2023, 2022, and 2021?
We also conducted an analysis of year-end ROAA and ROAE performance for each bank associated with the CEO and CFO position incumbents. Our analysis found that ROAA and ROAE performance was correlated with the amount of cash incentive/bonus paid. The median 2023 ROAA for these banks decreased by approximately 17% compared to 2022 and 2021. Similar results were found with 2023 ROAE as compared to 2022. Overall, approximately 70% of banks saw their ROAA and ROAE decrease from 2022 to 2023.
CEO and CFO Median Cash Incentives/Bonuses Paid in 2023, 2022, and 2021
CEO and CFO Banks Median ROAA and ROAE in 2023, 2022, and 2021
Current Trends in Annual Incentive Plan Designs
As a result of economic conditions and reduced incentive payouts, some banks have made slight modifications to the goals utilized in their annual cash-based incentive plan scorecards. Examples of these modifications are listed below.
- Widen Payout/Goal Ranges: Since it has become more difficult to predict annual budgets, many banks have increased their payout/goal ranges in their annual incentive plan, especially at the lower end of the range. Historically, banks would set their threshold payout level (i.e. performance below budget where an incentive is still paid) at 90-95% of budget. This might result in a payout of approximately 50% of the target payout. Some banks have recently lowered this threshold performance level to 80-85% of budget and have decreased the associated payout to approximately 25% of the target payout amount.
2. Use of Strategic/Department Goals: Many banks have also started to include strategic or department goals (i.e. core deposit growth, loan growth, and credit quality) into their annual incentive plan design. These goals typically have a 10-25% weighting in the executive performance scorecard. This allows the bank to provide a payout based on a goal linked to the long-term viability of their bank instead of having all goals based on annual profitability metrics. This methodology is also considered a best practice in the Sound Incentive Compensation Guidelines that were released by all the regulatory agencies in 2010 and most recently in section 956 of the Dodd-Frank Act, which has been re-proposed in 2024.
3. Use of Discretion: Numerous banks have also incorporated a discretionary component into their annual performance-based cash incentive plan. This is where a portion of the cash incentive/bonus is determined based on Board or CEO discretion (typically capped at 10% to 25% of the total incentive award available). This discretionary payout can be used to reward an executive or key officer based on performance goals that are difficult to measure or might be linked to an individual’s performance evaluation. Discretion could also be used to reduce or eliminate an incentive if certain performance qualifiers are not met (i.e. satisfactory regulatory ratings, credit quality issues, or unsatisfactory performance reviews).
KEY TAKEAWAYS:
It appears cash incentives continue to remain prevalent in the banking industry as our 2024 Compensation Trends & Employee Benefits Survey showed that approximately 93% of banks paid a cash incentive or bonus for 2023 performance. It also appears that performance-based plans are showing a solid pay versus performance link. Our analysis showed that as profitability and financial performance declined in 2023, this resulted in lower cash incentives/bonuses being paid for the CEO and CFO positions. This is appropriate, and a good reminder that the purpose of performance-based annual incentive plans is to increase or decrease variable pay levels based on annual results.
Please contact Blanchard Consulting Group at info@blanchardc.com with any detailed questions about this study or to assist with compensation consulting needs at your bank.
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