If the suggested primary objective of organisations is to make decisions which maximise value for its owners – the shareholders, then could companies who are indulging themselves in lavish bonuses potentially be in trouble?
Barclays for example have been in the spotlight recently as investors warn they will not tolerate lavish bonuses for the company’s executive directors. As the backlash from the public continues the board is being urged to end the company’s excessive bonus culture. It has been claimed by a top 10 investor in the firm that ‘if the bank doesn’t exercise real restraint then it faces a shareholder rebellion.’ (Financial Times, 2012) So is this right?
The company’s share price over the past year has fell below both the FTSE all share and the banking industry, is this a sign that the shareholders will not stand for the company’s practices any longer?
Contractual theory leaves shareholders, despite arguably being the most important for corporate success, with incomplete contracts. This means that if they feel the company is not acting in their best interests they can walk away and sell shares whenever they want. Our capitalist market system means they are then free to invest in a company which might prioritise the shareholders needs over other factors.
Many people adopt the view that since investors have took the risk to invest in the company and showed support for their strategies that any left over capital should be directed their way. However, some people may have the opinion that directing funds elsewhere is perfectly fair… Can shareholders really be so angry with a company’s financial decisions when from the start they were characterised as the residual risk takers? The company stated from the onset that they have no obligation to pay out, after all wasn’t it the shareholders personal choice to invest their savings in the company knowing this?
Another example is former Lloyds boss Eric Daniels; he was the man behind the company’s disastrous HBOS takeover. Yet he received a salary of £1.1million plus bonuses of £1.45million in 2010 (Mail Online, 2011). He was ousted from the company in early 2011 however remained on the payroll until September 2011 racking up hundreds of thousands a month – Of shareholders money!! This is an example of ‘managerialism’ and how individuals within companies can be out to indulge their interests rather than those of the shareholders.
It also displays how mergers and acquisitions if not managed carefully can lead to shareholder value destruction. This can happen relatively quickly in comparison to the many years taken to create value. Lloyds TSBs £12.2billion takeover of Halifax Bank of Scotland (HBOS) led to Lloyds share price declining 17.7% to 253p (BBC, 2008).
So, with all this in mind should we avoid too much focus on incentive schemes for CEO’s? If companies did this we could risk losing some of our countries most talented and knowledgeable directors, who may be poached by firms who will offer them the financial incentives they feel entitled to! An alternative could be to offer share option schemes to managers therefore aligning the objectives of both the company and its shareholders. It could also help reduce the effects of short-termism and help managers focus on long term prospects of the company.
To round up, it clearly doesn’t seem right that in current market conditions such huge bonuses are still being received... Shouldn’t pay schemes be adapted to fit in with the current financial conditions? In the case of Lloyds especially, who received government bail-outs to support them through the financial crisis, how can these huge pay outs to executives be justified?! Does their commitment and quality of work justify this or are these managers just plain greedy!
If Barclays cuts its bonuses to its directors then won't other companies poach these directors for themselves? Also if they cut bonuses and manage to retain their directors, they won't stay forever and then Barclays has the problem of hiring new staff to do a job that other banks and companies will pay a higher reward rate for, so if investors won't tolerate lavish bonuses how to do they expect to retain their management or get new talent?
ReplyDeleteI agree that potentially losing directors would be a major concern for the company in cutting its bonuses so I suggest an alternative scheme perhaps offering share options in order to align the goals of both the directors and the shareholders, helping to retain staff and therefore avoid cost implications of the recruitment process… But as the lavish bonus culture is predominant in many companies within this industry, could this be an industry wide problem which Barclay’s competitors will also have to consider, for this reason maybe the only way it can be tackled is at industry level?
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