The findings of multiple inquiries into Australia’s major casino operators, including the most recent Bell inquiry into The Star Sydney, raises questions as to how operators apply their remuneration systems.
To reprise the infamous saying attributed to perhaps the mangler-in-chief of the English language, Yogi Berra, the Bell Inquiry into The Star Entertainment Group is déjà vu all over again. Following hot on the heels of the Finkelstein Royal Commission into Crown Melbourne, Bell has traversed familiar ground, likely with a similar outcome to the recently concluded Regulator’s Inquiry and two state Royal Commissions into Crown and its various license-holding entities. It’s doubtful that Bell will come forward with any surprises when it reports its findings to the New South Wales Independent Liquor and Gaming Authority (ILGA) at the end of August. Most interest will lie in the recommendations it may make in the event it finds The Star unsuitable to retain its casino license.
Notwithstanding the commendable rigor which has been applied during the course of the Bell Inquiry, like the Inquiry and Royal Commissions into Crown which have preceded it, their respective Terms of Reference have omitted one material consideration … how, and how appropriately, key management personnel are remunerated?
In setting the Terms for Bell, the ILGA got close; they require the Inquiry to consider “(c) the role and standard of culture within The Star including core values and an ongoing organisation-wide assessment of accountability, education and compliance; (d) the effectiveness of The Star’s risk management framework and the appropriate distribution of staff responsibilities.”
Neither criteria, however, goes directly to the appropriateness of the design of executive remuneration systems, or an assessment as to how that design might influence senior management behavior, particularly its risk appetite.
To illustrate the importance of remuneration design for key management personnel, the Remuneration Report contained in the randomly-selected 2019 Annual Report of Star has the following to say about the company’s strategy and programs: “The remuneration strategy … is designed to support a high performance culture, achieve superior performance and as a result, sustainable value for shareholders. The reward programs are designed to promote individual accountability and entrepreneurship in employees and are aligned to prudent risk taking and the Company’s long term financial soundness.”
Laudable objectives, but are they actually consistent with the behavior required of an entity operating its core business in a highly regulated market, in which its key stakeholders are government (the effective grantor of the casino license, and recipient of attributable tax payments) and the public (for whom social license implicitly requires that gambling-related harm and possible criminal influence over casino operations be minimized)?
What is it about Star’s remuneration model that suggests that it may not have been entirely fit for purpose? The first clue lies in the at-risk vs risk-free components of remuneration. In the case of the now-departed CEO Matt Bekier, around 73% of his Target Annual Reward was “at risk”, comprising both variable short and long-term incentives, payable in cash or by way of award of shares in Star. There is nothing especially unusual about this construct, which the Report says is within benchmarked parameters for ASX-listed companies with comparable market capitalization.
A more granular examination of the “at-risk” components indicates that short-term incentives were almost entirely dependent upon financial performance targets being achieved. Two “soft” (non-financial) targets are specifically referenced as “moderating” measures, being guest satisfaction and safety; others such as people engagement and risk management were said to have been taken into account as part of a balanced scorecard approach, but the hurdle metric and quantum impact of those measures is not stated.
Notable by its omission is any discrete reference to regulatory compliance. It is regulatory compliance that is of fundamental importance to the capacity of superior financial performance to create sustainable value for shareholders. Disciplinary action by a regulator will likely have a financial cost and may affect the ability of the organization to generate future earnings through a regulator- imposed amendment to license conditions, or a suspension or cancellation of license.
There was some advertence to regulatory compliance under the head of risk, compliance and sustainability, but aside from noting that there were “no material breaches or significant penalties imposed on the Group” during the year, there is no indication that regulatory compliance or relationships mattered, except in the negative.
An aggravating factor associated with the absence of any metric indicating tolerance, or otherwise for non-compliance, apart from the actual incidences of non-compliance subsequently disclosed in the course of the Inquiry, is the inability for the company to claw back short term incentive payments, except where it could be demonstrated that financial outcomes had been misrepresented, or a recipient was found to have acted fraudulently, dishonestly or in breach of the company’s Code of Conduct. What that suggests is that if the financial performance of the company during an award year had been inflated as a result of behavior not compliant with regulatory requirements, no mechanism would likely exist for the company to claw back a short-term incentive payment from a recipient. Any such cost would be worn by shareholders – a result seemingly completely at odds with the stated objectives of the remuneration system.
Star’s long term share incentives were completely based on three financial metrics … Total Shareholder Return, Earnings per Share and Return on Invested Capital. In 2019, 46% of the CEO’s remuneration mix comprised performance shares, with vesting to occur, or not, after four years. Again, the ability of the company to claw back shares is said to be limited to the same circumstances as apply to short term incentives.
There is an old saying that anything that is measured and monitored improves over time. As the Inquiries and Royal Commissions into Crown and The Star have demonstrated, companies operating licensed spatial monopoly casinos under regulatory supervision cannot infer that the absence of adverse regulatory action provides a sound basis to assume that financial measures are true and comprehensive indicators that all is well. The relationship between remuneration systems and corporate culture and behavior is something that deserves detailed exploration.
Do casinos require something more than a cookie cutter approach to the design of executive remuneration provisions in order to ensure sustainably improved performance, consistent with key stakeholder expectations?
