Let me lay out a scenario for you:
Your top sales director is the day-to-day contact for your largest client. And by large, I mean 25-30 percent of your business sort of large. Over the course of a few months, the ball gets dropped by this person multiple times and the client ends up leaving because of it. It puts the company in serious trouble. Not only do they have to do aggressive layoffs but they are contemplating bankruptcy.
And while I think we can all imagine that the sales director got fired, what if you could clawback two years of pay because they didn’t do what they were supposed to?
Welcome to the new world of being a banking executive.
FDIC decides on clawback provisions
The Federal Deposit Insurance Corporation was granted some additional responsibilities under the Dodd-Frank financial reform measures passed last year. And as The Wall Street Journal reported, the FDIC recently adopted rules in accordance to that responsibility:
The rules, approved in a 5-0 vote, were required by the Dodd-Frank financial overhaul passed last year. They authorize the FDIC to recover two years worth of payments made to senior executives and directors who are deemed “substantially responsible” for a firm’s failure.
The FDIC gained the authority to dismantle large, faltering financial firms in the Dodd-Frank financial law as part of the government’s effort to end bailouts of so-called too-big-to-fail firms because the government lacked an orderly way to wind them down. The law establishes the FDIC as a receiver for companies if their failure would present a risk to the overall financial system.
Clawbacks aren’t entirely new. Sarbanes-Oxley allowed for them in certain situations, and the Dodd-Frank reform allows for clawback as far back as three years for certain incentive-based compensation.
This is a bit different (and if you want to read the entire rule, you can download the PDF). While other reforms have focused on those committing fraud or giving back incentive earnings based on restated financial statements, this reform aims to have you forfeit all of your earnings for two years if you’re held substantially responsible for the FDIC’s takeover of your failing financial firm.
Changes in executive compensation strategy?
In general, I have to believe Dodd-Frank will swing the pendulum away from stock options somewhat if they can be clawed back at publicly traded companies. That’s not necessarily a bad thing either. While boosting guaranteed executive pay may seem unattractive, it is a bit easier for stockholders and analysts to see how executives are compensated. It also could take some accounting tricks off the table which, while otherwise legal, would be a bit demoralizing to clawback from previous incentive pay.
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For banking in particular, it could be a much more difficult challenge. Banks have taken the brunt of the blame for the financial crisis, and rightly so. And it wasn’t like it was a easy, low stress job to begin with. While it may be hard sympathize with millionaire executives, it isn’t hard to sympathize with the HR organization that could struggle to keep valuable execs in place or executive recruiters that have to replace them.
Clawback in principle
What’s truly unique about this is that the totality of your compensation can be clawed back for poor performance. Not fraud. Not purposefully misstating earnings. Not manipulating your stock price. If you should have done better and you didn’t (and your firm falls into the hands of the FDIC), just hope you kept those millions saved up.
It is hard to describe how I feel about it. On one hand, I couldn’t imagine using salary clawback in many situations. Consider the scenario I laid out at the beginning of this post. Obviously the person messed up — but does that mean you get the last two years of their work for free?
In principle, there is something stunningly wrong with that. The hope is that being fired and having limited career mobility for a time would serve it’s lesson. Getting money back due to fraud? Yes. Poor performance? That’s a little less certain.
In this political climate though, some people want these banking executives in jail, much less worrying about whether they are being paid for their services. And given their impact, it is fine to be angry. This has as much to do with the fact that poor performing executives are given second, third and fourth chances at companies who both know better and lack imagination.
If this is what it takes to fix it, then so be it.