EXECUTIVE COMPENSATION SCHEMES IN THE BANKING INDUSTRY: A COMPARATIVE STUDY BETWEEN A DEVELOPED COUNTRY AND AN EMERGING ECONOMY

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1 19 EXECUTIVE COMPENSATION SCHEMES IN THE BANKING INDUSTRY: A COMPARATIVE STUDY BETWEEN A DEVELOPED COUNTRY AND AN EMERGING ECONOMY Nelson Waweru, York University Patrice Gélinas, York University Enrico Uliana, University of Cape Town ABSTRACT This paper examined the level and structure of compensation schemes of directors (both executive and non executives) and other named officers in the banking industries of Canada and South Africa. We found a significant relationship between the CEO compensation and the market value of the firm. In addition the study examined the differences between the two countries, and the relationship between compensation schemes and the value of the firm. We found significant differences in the compensation structures and levels between the two countries. INTRODUCTION This paper examines the executive compensation schemes and practices of banks operating in Canada (a developed country) and South Africa (an emerging economy). In both countries a relatively small number of large banks dominate the national market, making the banking sector a unique research context and an interesting first step in the comparison of compensation paid in each country. Using a population of eight major publicly-traded banks in Canada and the four main banks in South Africa, we investigate the structure and level of executive compensation, defined as the sum of salary, annual bonus, the values of executive stock options and long term incentive plans (LTIPs). We discriminate between banks operating in Canada and those operating in South Africa and use contingency theory of management accounting to explain the differences. The term developing countries has been defined in a variety of ways by different authors mainly based on: 1) geographical location and 2) economic development. For example, Perera (1989) defines developing countries as those countries in the so-called Third World. Third World refers to those countries that do not belong to the Western world centered in the U.S.A, or the Eastern world with the former USSR as a centre. Wallace (1990) defines developing countries as those in the mid-stream of development and refers to an amorphous and heterogeneous group of countries mostly found in Africa, Asia, Latin America, the Middle East and the Oceanic. South Africa is identified to represent developing countries since although classified so by the United Nations (2001) and the World Bank (2000), it lies on the upper income bracket of such countries. South Africa falls between both a developed and a third world country making it a good subject for examining the way in which compensation schemes are used in a developing country. South Africa is a developing country

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3 profits and earnings per share growth. Except for retirement pension, LTIPs are almost absent. Compensation of non executive officers is mainly in the form of annual directors fees. There is no requirement for either executive or non executive officers to own shares in the banks. The study found that CEOs in South African banks receive significantly higher compensation than their Canadian counterparts. The findings of this study contradict the widely held view that executives in developed countries receive higher compensation than those in emerging economies. Our findings may help reduce the brain drain problem currently being faced by developing countries. Further, CEOs in both countries receive substantially higher compensation than other executive officers. Consistent with the findings of previous studies (e.g. Stathopoulos et al 2004) there are systematic differences between the compensation arrangements of CEOs and other executives. Our findings indicate that growth opportunities are higher amongst South African banks than in Canadian banks. This suggests that investing in emerging market bank stock may yield higher returns when compared with those of developed countries. The study found a significant positive relationship between the CEOs compensation and the value of the firm. There was also a significant positive relationship between the CEOs compensation and growth opportunities, an indication that CEOs in firms with higher growth opportunities receive more compensation. This is consistent with the findings of Smith and Watts (1992) who reported that firms with more growth opportunities are more difficult to monitor. There is also a significant positive relationship between CEO long term pay and the value of the firm. REFERENCES African Development Bank (ADB). (2000). African development report, Oxford University Press UK Ang, J., B. Lauterbach & B.Z. Schreiber (2002). Pay at executive suite: How do US banks compensate their top management teams? Journal of Banking and Finance, 26, Anyangu, M. (2005). An Evaluation of Performance Measures in Management Compensation Schemes. Unpublished PhD Independent Paper Study, University of Nairobi Black, F & S.M. Scholes (1973). The pricing of options and corporate liabilities. Journal of Political Economy, 81 (3), Brickley, J.A & F.H. Dark (1987). The choice of organisation form. The case of franchising. Journal of Financial Economics, 18, Bushman, R.M., R.J. Indejikian & A. Smith (1996). CEO compensation: The role of individual performance evaluation. Journal of Accounting and Economics, 21, Chapman, C.S. (1997). Reflections of a contingent view of Accounting. Accounting, Organizations and Society, 22(2), Chung, H.K & S.W. Pruitt (1996). Executive ownership, corporate value and executive compensation: a unifying framework. Journal of Banking and Finance, 20,

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