Paul Hodgson: Dimon’s $20m at JP Morgan – performance-related pay?

An in-depth look at the investment bank’s recent SEC filing

The phrase “fine-related pay” popped into my head when news broke of the pay rise for JPMorgan Chase CEO Jamie Dimon. The filing describing his 2013 pay, released just before midnight last Friday (January 24), even refers to the company’s regulatory problems as a reason for increasing his pay. His pay for last year comprised a $1.5m salary and $18.5m in stock. The stock vests in the future, but it does not appear to be conditioned on any kind of performance expectations (or indeed fine expectations, though they are assuredly coming).
The filing gives the history of Dimon’s pay over the last few years. For example, compared to the $20m for 2013, he was awarded $11.5m for 2012, $23m for 2011 and 2010 and $15.2m for 2009. The bank says: “For 2008, Mr. Dimon received no incentive compensation.” So only in the teeth of the financial crisis did Dimon not receive any form of incentive. And, according to the New York Times’ Dealbook, the argument within the board about Dimon’s pay, and argument there was apparently, was between not increasing it and increasing it. No one, it appears, was arguing for a pay cut in the face of some of the largest fines in the history of US banking.
That Dimon received no inventive compensation for 2008 turns out to be a little disingenuous. As has been reported, there was a mega grant of 2m “stock appreciation rights” (SARs, cash-settled stock options) in 2008, as well as $14.5m in restricted stock units. These were both awarded on 22 January 2008, but because of disclosure regulations and accounting practices, the bank considers them awards for 2007. No wonder the history of Dimon’s pay in the recent filing stopped at 2008.

What on earth was the board doing awarding 2m SARs in the teeth of the financial crisis? Not that they were alone in this, as I have noted before, but typically it is because there is an opportunity to award stock incentives at nice low prices to maximize the profits that can be squeezed from them. Now it would be inaccurate to say that these SARs were awarded when the stock hit an all-time low. That came in March 2009 when it dropped to around $16. These SARs were awarded at $39.83, but shortly afterwards the stock was $48, and shortly before it was $46. Now the stock is $55 so that’s a paper profit of $30m and the stock units awarded at the same time would be worth $20m. Not bad for a year in which no incentives were awarded.But in the face of criticism, the bank imposed what it called more stringent performance requirements for the vesting of these SARs. These awards would not vest if “an executive has not achieved satisfactory progress toward the executive’s priorities or that the Firm has not achieved satisfactory progress toward the Firm’s priorities”. I don’t think I’ve ever read flabbier or more discretionary performance requirements. As Bloomberg points out, the directors who supported the pay increase would seem to have convinced their colleagues that Dimon and the firm have met those stringent “satisfactory progress” targets and the SARs will be allowed to vest.

So what are the fines that these incentives are based on? Last year’s $13bn settlement with the Department of Justice is the biggest, but not the only one. The bank also had $1.1bn of legal expenses in the fourth quarter of 2013, about $850m of which was linked to yet another misdeed, a recent settlement for failing to report its suspicions of fraud at its client Bernie Madoff’s fund. Dimon warns that there are yet more legal fees to come, though it is unlikely that they will be of the order of the justice department settlement.
At the time of the biggest fine, the reactions were twofold. First, many bank executives, probably because they had also been having similar conversations with the Justice Department, sprung to Dimon’s defence. They claimed that he was being punished for acquiring the bankrupt Bear Stearns and Washington Mutual – acquisitions the US government asked him to make. Astonishingly, according to the Dealbook, even some members of the board appear to believe this. Apart from the fact that Dimon bought these firms at a knockdown price and with an immediate profit, he also knew exactly what he was getting into, and the liabilities as well as the profits immediately came on JPMorgan’s books. Even more importantly, none of the massive fine – the largest in US financial history – is associated with either Bear Stearns or Washington Mutual. Some $6bn of it is going to compensate investors for losses on mortgage securities; another $4bn is direct relief for homeowners; and the remaining $3bn is targeted at actions which took place on Dimon’s watch.
The second reaction was that the fines did not hurt shareholders since the damages were already provided for on the balance sheet and have been absorbed into the share price. This piece of illogic falls apart when you step back a little to say, simply, if there’d been nothing to

fine, the reserves for them would not have been on the books and the share price would have been higher. So shareholders have been damaged, it just happened a while ago. Be in no doubt, shareholders are paying the fine.
Thirdly, and this is my reaction, not one that I’ve seen elsewhere, my main concern is that JPMorgan – the company – hasn’t done anything wrong. Its executives and employees took the actions that led to the fines, whether associated with mortgage-backed securities or ignoring Madoff. The executives and employees were at fault, but it is the company – and therefore the shareholder – which is paying for them. More recently, JPM admitted that legal expenses because of regulatory investigations and lawsuits caused the first quarterly loss since Dimon took over as CEO. Since 2010, the bank has put aside a total of $23bn for potential litigation since 2010, with a warning that this could rise by a further $6.8bn. That’s a lot of shareholder loss. The latest quarterly profit decline is a direct result of this.
Far from being the result of the Bear Stearns and Washington Mutal acquisitions, many of the troubles currently affecting JPM it brought upon itself. These include the Libor and London Whale scandals. There are also charges of bribing Chinese officials by employing their offspring in top jobs. It has been reported that at least seven federal agencies, several state regulators and two foreign countries are investigating the bank.
So, if the company shouldn’t be fined, who should be? In my view, it should be the executives and employees responsible for the misdeeds. Of course, it’s unlikely that they could come up with $13bn, but if justice is to be done, they should be the target and if action is not taken soon, the statute of limitations will be up and nothing can be done.Significantly, that huge Justice Department settlement did not even include a criminal case. It is to be hoped that some individuals may be the target of this criminal investigation. But we’ve seen none so far, no fines, no jail sentences (except in the London Whale case, and that was a British court).
I spoke in confidence to an investment bank last year and asked them why they hadn’t clawed back remuneration from employees involved in the scandals, or even fired them. The answer was that they had done both, but were not about to be the first to say so, despite the fact that such disclosure would be welcomed by shareholders and other stakeholders alike. They believed other banks had taken similar actions, but they were not about to disclose it either.
And where is the board, whose job it is to police the CEO? No wonder shareholders want an independent chairman at JPM. The board’s attitude is exemplified by comments made at the Council of Institutional Investors conference in October last year by JPMorgan director Laban Jackson. He was pressed on why the firm had resisted so strongly shareholder attempts to separate the chairman and CEO positions. Indeed, Jackson actually brought the subject up himself saying that independent research (that would exclude, obviously, research written by me) shows that it is neither better nor worse to combine or separate the roles. Jumping on this, an audience member asked, if it’s neither better nor worse, and given strong shareholder support, why didn’t they just do it. His response was simply that the board wants Dimon to be chairman and CEO, so that’s how it’s going to be. So much for boards representing shareholders.

Paul Hodgson is an independent governance analyst.