Pub. 1 2010 Issue 3

fall 2010 9 Risky Business: Regulators and Dodd-Frank Target Incentive Compensation Arrangements By Sandra Murphy, Bowles Rice McDavid Graff & Love LLP R ecent developments in the regula- tion of incentive compensation arrangements of financial insti- tutions will have an impact on West Virginia banks regardless of whether they are public companies, and in some cases, regardless of their asset size. First, on June 21, 2010, the Board of Governors of the Federal Reserve Sys- tem, the Office of the Comptroller of the Currency, the Office of Thrift Supervi- sion, and the Federal Deposit Insurance Corporation (Agencies) jointly issued comprehensive final guidance designed to ensure that incentive compensation policies do not undermine the safety and soundness of banking organizations by encouraging employees to take impru- dent risk. The guidance (Guidance) finalizes the proposal issued by the Fed- eral Reserve in October 2009 and applies to all banks regardless of asset size. A month later, on July 21, 2010, Presi- dent Obama signed the final version of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd- Frank”). While the Act primarily focuses on reforming business practices at large financial institutions, it also includes provisions regulating incentive compensation that will apply, in whole or in part, to almost all publicly-traded banks and bank holding companies. The Guidance was effective imme- diately and applies to all banking organizations, including national banks, state member banks, state non-member banks, and bank holding companies. The Guidance covers executive and non-executive employees who either in- dividually or as part of a group have the ability to expose the banking organiza- tion to material amounts of risk. The Guidance adopts a principles- based approach and does not prohibit or limit any particular type of incen- tive compensation. The Guidance sets forth three guiding principles. To be consistent with safety and soundness, incentive compensation at banking organizations should: • provide employees incentives that appropriately balance risk and reward; • be compatible with effective controls and risk management; • be supported by strong corporate governance, including active and effective oversight by the organization’s board of directors. The Guidance states that because of the size and complexity of their operations, large banking organizations should have and adhere to systemic and formalized policies, procedures, and processes to govern incentive compensation arrange- ments. Smaller banking organizations are expected to employ less extensive and less formalized policies, procedures and systems than their larger counterparts. To implement the recommendations contained in the final guidance, the regu- latory agencies will analyze incentive compensation practices at large, complex banking organizations, building on simi- lar reviews of incentive compensation practices at large banking organizations that have been conducted by the Federal Reserve over the past year. The regulatory agencies will also in- tegrate the final guidance into the regulatory examination process of smaller banking organizations. During examina- tions, the regulatory agencies will review incentive compensation’s arrangements at smaller banking organizations for con- sistency with safety and soundness of the banking organization while value in those organizations’ risk management, internal controls and corporate governance. Q Risky Business — continued on page 10