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You may be among the relatively few who get some sort of year-end bonus when your company does well.

Or you may be among the even smaller number who get incentive compensation when your company doesn't do particularly well at all. If so, you are probably an executive at one of Canada's biggest banks.

Here's the concept: Every year, banks give executives millions of dollars worth of "performance share awards" – shares, or some sort of "units" that represent shares. Then, over a period that's typically three years, the bank measures its performance against its peers. That determines how much of the stock the executive gets to keep.

It sounds great in theory, and it beats stock options, which can rise in value by the millions even when a stock lags its peers.

But the problem is that the banks have set up plans where they can underperform and the executives keep nearly all the share awards anyway.

An example: Royal Bank of Canada looks at its total shareholder return over a three-year period. The executives get their full awards even if the bank finishes in the third quintile of performance versus peers. As you'll remember from math class, each quintile represents one-fifth of the group, so the third quintile ranges from better than 60 per cent of peers to better than just about 40 per cent. Mediocrity, in other words.

Worse: The award is reduced by just 10 per cent for finishing the fourth quintile. Finish in the bottom quintile and the award is reduced by just 25 per cent. (It works in the other direction: First-quintile performance boosts the award by 25 per cent.)

At RBC, at least, there's a provision that the bank will pay out nothing in the performance-share plan if it fails to hit a three-year return-on-equity target. However, RBC set the return on equity hurdle at 10 per cent; the bank last had an ROE below that level in 1993 and it hasn't had an ROE below 14 per cent since then.

At Toronto Dominion , there isn't even that sort of fallback. The minimum payout in the performance-share plan is 80 per cent, and executives get 100 per cent of the award for being average in total shareholder return.

Bank of Nova Scotia's plan uses both shareholder return and return on equity; half of executive rewards depend on each measure. The company doesn't disclose what level of ROE might result in a zero payout.

However, the portion of the plan based on total shareholder return allows for 100 per cent payout if the bank is at the median; performance at or below the 25th percentile of the peer group still gives the executives a 50 per cent payout.

CIBC uses ROE versus peers as its performance metric; the minimum payout is 75 per cent, regardless of how far behind CIBC finishes.

And Bank of Montreal ? In a way, they solve this problem by determining the size of the performance share award on the basis of the prior three years' total shareholder return, adjusting the target up or down by as much as 20 per cent. Then the executives get the shares at the end of three years if they stay.

Now, to be fair, Canada's big banks are not the exclusive practitioners of this compensation philosophy. Similar issues with "performance" shares can be found across industries and across borders. And having some performance metric is better than the banks making similarly sized stock awards that executives get merely for sticking around.

The fact remains, however, that these plans are structured so that the bank pays out half to three-quarters or more of these multi-million-dollar awards even if it is below-average in the performance metric. I asked the banks a real-world question foreign to the world of executive compensation: Why should any awards be granted if the bank has below-average performance?

The banks' answers, as you might expect, involved a lot of talk about retention, motivation and aligning compensation with shareholders' interests. And some also note that since the awards are linked to the share price, if the stock price falls, so does the value of the awards.

All of them have a murky provision to scale back awards in case of significant failures. Examples: RBC allows for adjustment if "there has been a material downturn in financial performance or a material failure of managing risk." CIBC says its board can use a "performance claw back" provision to reduce payments in case of "unexpected losses." TD's compensation committee has the right to adjust the awards downward – or upward – by 20 per cent "based on a review of the risks taken to achieve business results."

However, TD and Scotia also offered another explanation for the structure of their plans. They argue that if there were the potential for the awards to go to zero, the executives might take on too much risk to hit the targets. "If this portion of compensation regularly went to $0 because it did not meet a certain threshold," says TD spokesman Stephen Knight, "we would create risk … that executives would be incented to take actions that were not in the long-term interests of the bank in order to meet the threshold."

To avoid risk, it seems the banks have concluded that it's better to offer a floor level of pay – in the millions – to reward mediocrity.

Rewarding the CEOs

How reliant are Canada's big five banks on performance-based share awards? According to the banks' proxy circulars, they gave out just over $56-million in awards to their top-paid execs, or roughly one-third of their total direct compensation. Here's what the CEOs got:



Share awards

Total compensation


William Downe




Richard Waugh




Gerry McCaughey




Gordon Nixon




Ed Clark



Source: Company reports