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Remuneration and regulation: driving positive culture

Sylvia Ashley Sylvia Ashley

Firms must consider how they can incorporate the latest changes to the Senior Managers and Certifications Regime (SMCR) regulation into their culture. Sylvia Ashley looks at it's role and explains how firms can use remuneration schemes to strengthen it.

The latest version of SMCR regulation outlines a focus on accountability within organisations based on developing a culture from the top down, as well as building robust models of remuneration to ensure senior managers are reaching their targets.

SMCR aims to reduce harm for consumers and enhance market integrity by raising the standards of people who work in financial services and create a regime that holds managers accountable for meeting best practice. SMCR has been a core focus of UK regulators, with an aim to push personal accountability and improve the transparency of businesses.

Meeting this standard requires that senior managers are approved by regulators and follow their code of conduct to establish an accountability framework within the firm. Meeting best practice requires firms to look at their current structure and ensure clear oversight over employees to meet cultural expectations.

SMCR and remuneration

Regulators have taken a holistic viewpoint on leaders within firms and want to ensure that individuals in this position are using their role to foster a good culture and instil values that align to the firm's cultural expectations. The FCA is engaging firms to review their current model and embed a regime that incorporates senior managers, MRTs, and all other conduct employees in line with the SMCR regulation. The FCA has stated that:

“The SM&CR is a catalyst for change – an opportunity to establish healthy cultures and effective governance in firms by encouraging greater individual accountability and setting a new standard of personal conduct.”    

Tracking liability for a firm’s employees is most effectively obtained with a remuneration scheme, which aims to manage the risk and reward of meeting targets. The purpose of the scheme is to develop a practice that's focused on driving a strong culture and is consistent from the top down to demand that the values of the firm are being met. Updated regulation has highlighted ESG, D&I, and MRTs as the key elements to implement into remuneration to ensure that best practice is being met. Meeting these principles should result in compensation benefits for members of a firm based on individual targets and ensuring that there's a comparative model for collecting data.

Assessing impact of material risk takers (MRTs)

Meeting SMCR standards requires assessing MRTs within the organisation. MRTs are integral to the financial undertaking of a firm’s offerings and need to be assessed to enforce accountability measures and ensure that remuneration is being assessed fairly based on the impact of employees who have a material effect on a firm’s risk profile.

Achieving this assessment requires obtaining accurate data on your firm’s senior individuals and should be reflective of the company’s principles. This standard measures individual progress, as well as ensuring that compensation is distributed correctly, and targets are being met by the leaders of an organisation.  

However, gathering an accurate assessment of MRTs is a complex and rigorous task, involving a long-term process of performance reviews. Identifying the material impact of senior individuals will be critical to meet the requirements of the remuneration scheme. Reaching the standard set out in SMCR regulation will involve meeting the qualitative criteria and the quantitative criteria of the remuneration scheme and ensuring that both set of targets are achieved. 

Qualitative criteria are judged on the material impact that the individual is having on the firm’s overall risk profile and is based on their individual performance towards the goals of the organisation.

Similarly, quantitative criteria is measured based on the employees total financial offering to the firm and the material benefit they are providing towards the company – unless there's clear evidence to show that their professional activity has no significant impact on the material components of the company, which could fluctuate based on their role within the firm.

To clarify these criteria, the PRA has laid out a structure to identify MRTs within its updated regulation. The main areas they highlight are:

• key definitions: business unit, control functions, core business line, managerial responsibility, material business unit

  • calculating fixed and variable remuneration: reference year for variable remuneration, significant impact on risk profile of MBU
  • qualitative criteria; + deemed MRTs: managerial responsibility for business areas including legal affairs, human resources, IT; other circumstances including decision-making powers
  • quantitative criteria and exclusion process for deemed MRTs meeting certain remuneration thresholds. 

These definitions have been highlighted by the PRA to help firms decide who qualifies as an MRT. By following these guidelines, incorporating a remuneration scheme should become more streamlined and allow for a robust method of rewarding employees in line with the culture of the firm and SMCR regulation.

Additionally, it's important to note that the PRA has proposed to review the current quantitative criteria and increase the clarity around how material risk is measured. Due to these ongoing changes, it's still recommended that firms implement their own analysis to confirm that employees are correctly being rewarded based on the company’s own goals.

Focusing on diversity and inclusion (D&I)

The latest changes from regulators also take a closer look at the role of leaders in establishing strong D&I measures. We're seeing both the FCA and PRA addressing the topic of diversity and inclusion in the work place, with a focus on ensuring that this is being prioritised and actioned by senior managers in the updated regulation.

Regulators will also begin to consider senior manager performance against D&I metrics to be shown in remuneration schemes, and they will assess how managers can embrace a larger role in establishing a more inclusive culture under these guidelines. Establishing D&I metrics is shown to have a positive effect on firms, so it's important that they review their current operations and put more emphasis on establishing a diverse and equal work culture.

ESG goals and executive pay

Regulators are also emphasising the need for senior managers to prioritise their ESG goals. Firms have been responding to increased pressures from the UK government to meet their sustainability targets – they're being assessed partly based on their key performance indicators (KPIs) of their employees to ensure that ESG targets are being measured in performance reviews. The PRA has pushed this point further with a letter to organisations ensuring that they focus on incorporating climate risk in their business models and strategy to meet the government climate goals.

Remuneration pay will be beneficial in helping reach these targets and will require establishing internal and external targets for managers to meet ESG goals and establish this among their team. Internal targets are measures that firms use to benchmark themselves against, and is the measure used to assess employee activity and ensure that's it leads to positive stakeholder outcomes. Output targets refer to the external goals of the firms instead, with a focus on stakeholder impacts and the overall material benefits of a firm.

To meet these aims, both sets of targets will need to be aligned to the company’s strategy, and firms should oversee how these targets are being met by leaders and ensure they're being implemented effectively.

Monitoring the priority targets will be necessary to confirm that deadlines are being met accordingly by the firm and that employees have a clear time frame to work from. Individual targets should be separated into short-term and long-term time frames to decide which would be most appropriate for each task.

Although most ESG goals will sit within a long-term time frame, there are a range of targets that can be achieved in a shorter period, so having specific deadlines will benefit the progress of ESG and provide clarity across the board. Once these targets have been confirmed, it will be easier to scale executive pay targets and clarify how compensation will align with the company’s holistic purpose. Establishing these goals will also drive value within the firm, so connecting it with executive pay and positive incentives is necessary.

Compensation benefits

Meeting the requirements of this updated regulation will require to firms ensure that they're providing effective clarity for their managers and defining clear goals to align with SMCR regulation.

Building a holistic remuneration incentive will be beneficial for companies and their employees, and by establishing a clear incentive model and diversifying the workplace with an enhanced work culture they can meet their sustainability goals. Organisations should have clear oversight of their current model and asses how they can improve their current models for the benefit of the firm and meet best practice.

If you want access to leading advice and support on people and culture within financial services contact Sylvia Ashley.

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