Shareholder Value Maximisation in Banks and Financial Firms

Chapter 16 of the Stage 2 Key Code and Advanced Handbook for the governance of Australian major banks examines shareholder value maximisation in banks and financial firms. We begin by examining how traditional governance variables maximise the share price through incentives, governance variables and shareholder wealth-maximisation. We see that incentives tied to the short-term share price for executives and high end employees can lead to risk-taking in excess of risk appetite and increase the likelihood of bank failure. We see that cashing-out equity and options in the GFC reduced executive losses on bank holdings. But, limits on the short-term cashing-out of equity and options by executives and high end employees may help to achieve a level of risk-taking in alignment with shareholders. We then examine shareholder value-maximisation and ownership structure in the case of incentive equity holdings/plans of directors and officers. We find that shareholdings of lower-level management predict bank failure and that owner-control predicts bank failure due to increased risk-taking. The chapter then turns to examine the risk preference of bank management and shareholders which may diverge. Substantial equity ownership is not aligned where holding positions are short-term while long-term stock holding and capping the ratio of variable to fixed compensation may enhance the level of risk-taking in alignment with shareholders. “Inside debt” compensation reduces risk-taking.