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Monday, 22 June 2009

A kick in the Hamptons for the tax payer

Three lessons that should have been learnt by the UK government and Royal Bank of Scotland have not been appreciated:

  1. Benchmarking against other banks is not always a good idea, particularly if you don’t have the same strategic objectives.
  2. Chasing profits to drive up the share price is more dangerous than building a sound banking business.
  3. You can’t always spend your way out of trouble.

But then we are talking about a Labour administration and RBS, so it is no surprise to hear that the bank will announce a £9.6m pay package for chief executive Stephen Hester. RBS chairman Sir Philip Hampton says he consulted some of the largest non-government shareholders. The package consists of £1.2m in salary, a projected £2m of annual non-cash bonus payments and close to £6.4m of long-term share and stock option awards, which is broadly in line with the deals available to some other UK bank chief executives.

Which is why it is wrong on both counts. The government owns 70% of the company. The other shareholders can go hang. It is the tax payers who own most of the company and keep Mr Hester in his job. UKFI supposedly manage the country’s interests in the bank, but appear to be a bunch of City patsies, foremost of which is UKFI chairman .... Sir Philip Hampton.

Hester’s package has been compared to that of Michael Geoghegan at HSBC, who earns a basic salary of £1.1m and a long-term incentive of £7.5m. But HSBC is a viable business that has not been propped up by government money. Hester is in effect a public servant at the moment. Sure enough, the tax payer would like to see a return on the money that was put into RBS, but more importantly it would just like to see the money paid back without any forseeable prospect that RBS would fall back into government ownership. Quite frankly the tax payer doesn’t care how profitable RBS may become or what heights their share price may reach, because the government shares will be sold as soon as the market shows enough demand to take them at a price that pays out the government.

The proposed long-term incentive plan relies on a mix of targets, including relative total shareholder return and absolute share price performance. All of which is largely irrelevant to the tax payer. How RBS performs compared to JP Morgan or Banco Santander is of little interest. Hester’s package encourages him to go for exactly the same short term profits that push up the share price, and which caused RBS to go under. A better set of performance measures would include benchmarks based on reduction of volatility, management of credit losses, widening of credit spreads, liquidity management and a whole list of metrics applicable to unhealthy banks, not some 1980’s style executive compensation scheme.

Let me be clear. I don't mind if hester is paid a lot of money while he is running RBS, but while he is running it mostly for the benefit of the government he should be rewarded for fixing problems, repairing the bank's balance sheet and returning capital to the government, not for engineering some go-go get rich quick scheme that ramps up the share price, and stuffing the bank with more unquantifiable off-balance sheet risk. The government may end up with a tidy profit, but it might just end up with a loss, and Mr Hester has a one-way option.

No doubt we will hear the usual tosh that this cosy arrangement aligns Hester’s interests with those of the tax payer. It doesn’t (because the tax payer’s upside is capped), but one person whose interests are aligned with Hester in having uncapped upside is the supposedly independent non-executive chairman of RBS, who unusually for someone in that position has been awarded £1.5 million of share options on top of his £750,000 salary.

Arise Sir Philip Hampton.


Demetrius said...

This is the Government's policy of egalitarianism at work. You pay the chap who mucks out the stables as much as the jockey who wins the Derby. And there is a huge amount of muck to clear after this horse bolted.

Alex said...

I don't mind aying him a lot f money, but it should be for a strategy of repairing the bank's balance sheet and returning capital to the government, not some go-go get rich quick scheme based on share price, which inevitably means stuffing the bank with more unquantifiable off-balance sheet risk.