On October 24, 2023, the Financial Conduct Authority (“FCA”) and Prudential Regulation Authority (“PRA”) announced the abolition of EU-era restrictions on bankers’ pay, with effect from October 31, 2023, after an earlier consultation. The move, which has been criticised by some, including the Trade Union Congress (TUC), puts banker pay back under the spotlight at a time of ongoing cost of living challenges in the UK.

The so-called ‘bonus cap’ had been in place since January 2014, with banks required under the EU Capital Rights Directive IV to limit variable pay relative to fixed pay at a ratio of 1:1, or 2:1 with shareholder approval. While it applies across Europe (and will continue to apply on the continent), the rule has been particularly controversial in the UK which launched a failed legal battle against the rules when first implemented. Opposition, partially driven by the concentration of financial institutions in the City of London, cited the different local remuneration practices relative to Europe and concerns that the cap would lead to an increase in fixed pay.

As shown below, the caps do appear to have exerted upward pressure on fixed remuneration levels, while reducing the share of remuneration at risk.

Current Pay Environment

At the UK’s five biggest banks – being HSBC Holdings plc; Lloyds Banking Group plc; Barclays plc; NatWest Group plc; and Standard Chartered plc – cash salaries have seen a marginal increase over the past 10 years, from FY2013 to FY2022 (being the most recent year with remuneration data available in full). Salaries were matched, however, by the introduction of share-based fixed pay, often called ‘fixed-pay allowances’, which are subject to deferral requirements but no performance conditions. More recently, Barclays and Standard Chartered amalgamated this share component of fixed pay into their definition of salary. Excluding benefits and pension, fixed pay has essentially doubled for these banks relative to pre-cap levels. Current stakeholder expectations around executive pension alignment with the wider workforce has; however, contributed to a significant reduction in pension contributions payable and thus marginally offset the increase in total fixed pay.

Of the big five, four immediately sought approval for a variable to fixed pay ratio of 2:1 in 2014 with NatWest (then, the Royal Bank of Scotland) notably electing to remain at the lower 1:1 ratio. Each bank has continued to tackle variable pay slightly differently, with some choosing to set maximum opportunities against base salary and others against fixed pay (some including pension and benefits and others not). Two banks, Lloyds and NatWest, have eschewed traditional performance-based long-term incentive plans in favour of restricted share plans, although Lloyds’ plan was retired in 2023 after one policy cycle and NatWest’s plan was only recently introduced in 2022.

Prior to the introduction of the bonus cap, the banks’ short-term incentive limits started at 200% of base salary and long-term incentive limits ranged between 300% and 600% of base salary. HSBC now features the highest limits of 215% of base salary for the short-term and 320% of base salary for the long-term (pre-2014: 300% and 600%, respectively). HSBC’s CEO’s cash salary has only increased by 6% over the period, although they also receive the highest share-based fixed pay allowance, £1,700,000 per annum.

At both a market and global level, UK bank pay packages (and those of their EU counterparts) conspicuously deviate from the generally expected concept of highly leveraged executive pay. Average UK banking pay marginally lagged European peers in FY2022 despite the average UK bank being larger on a market capitalisation and asset basis. It will come as no surprise that there are significant pay discrepancies between the UK banks and their peers on the other side of the Atlantic, which is noteworthy given several of the big UK banks have substantial U.S. operations.

Moving Away from the Cap

Given the UK’s opposition to the introduction of the bonus cap and its distortive impact on banker pay, one might expect the banks to adjust their pay packages now the cap is gone. But how easy is it to undo the 2014 changes?

For one thing, on a technical note, it remains unclear whether specific shareholder approval is required to remove the 2:1 cap – with the language used in the original 2014 proposals potentially prohibiting companies despite the relaxation of regulation. Further, after discussions with stakeholders in the market, a range of other concerns have been highlighted that make any radical changes to banker pay unlikely – at least in the short term.

Bankers lost swathes of potential variable pay in 2014 and were compensated with increased fixed pay. As such, it seems a reasonable starting point to expect any rebalancing to flip the other way. However, executive salaries are contractual – so any adjustment will require their consent – and it remains to be seen whether the typical banking executive would welcome the replacement of a portion of their guaranteed pay for at-risk incentives. Therefore, banks thinking about rebalancing pay packages will likely need to make the prospect attractive by offering higher potential pay to offset the greater risk.

The PRA and FCA’s consultation on the abolition of the cap also noted some concerns on the deferral periods required for banks in the UK. At the executive level, at least 40% or 60% (as is the case with the big five) of variable pay must be deferred for a total of seven years with no portion of the deferred award to vest earlier than the third anniversary. Some respondents suggested this may also force remuneration committees to increase total remuneration, where pay is rebalanced to favour variable components, to remain competitive in jurisdictions where there are lower deferral requirements.

But how will shareholders, and other stakeholders, view total pay increases when the current packages seem to be working? Each of the big five have well-supported and experienced executives with, for the most part, a few years in the bank under their belt. Moreover, if we consider retention risk, the UK’s EU neighbours continue to operate under the variable remuneration cap.

The remuneration committees of banks are likely mulling over these issues and planning their next moves. The first bank to propose any substantial policy changes may act as a litmus test for the others – if an overhaul of pay is well-supported by shareholders, the other banks’ interest may well be piqued. Alternatively, banks could adopt a slow-burn approach where they leave incumbents’ remuneration alone and bring any new appointees in on a more traditional package, a common approach with pension contribution alignment in recent years.

With the current market focus on wider workforce pay conditions and the many sensitivities around the banker pay discussion, the status quo will be an appealing alternative to change. In our proxy analysis, Glass Lewis will carefully review the strategic rationale for any rebalancing of bankers’ pay packages and will generally expect increases in variable incentive opportunity to be accompanied by an appropriate reduction in fixed pay. Further, we will continue to apply a holistic approach to analysing remuneration and view any changes in the context of the wider stakeholder experience, including employees and customers.