Macquarie University's Applied Finance Centre has released the findings of a study: Behaviour of Finance Professionals under the Balanced Scorecard which investigated the effectiveness of the 'balanced scorecard' in promoting compliance with company policies in financial institutions. The findings of the study call in to question the continued use of the ‘balanced scorecard’ for remuneration purposes.
What is the balanced scorecard?
The balanced scorecard refers to a system of performance measurement used by firms to measure/assess employee performance against both financial and non-financial measures. This approach is intended to promote compliance with what may be competing priorities e.g. adherence to company policy vs. selling product. In an Australian financial institution, the typical balanced scorecard has multiple performance criteria of which some are financial (e.g. sales/profits) and some but are non-financial (e.g. customer satisfaction, compliance with policy, and behaviour consistent with company values).
The study notes that the Sedgwick review of remuneration recommended that variable remuneration should not be based solely on financial measures, though the study questions the basis for this recommendation in driving stronger compliance outcomes.
The study also notes that the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (Financial Services Royal Commission) has identified a number examples of misconduct resulting in adverse customer outcomes where balanced scorecards were in place and the Commission's Interim Report, found that in practice, and despite appearances to the contrary, balanced scorecards continue to be dominated by sales criteria with minimal importance accorded to other criteria.
Two key findings
- Overall, the study found that fixed remuneration structures achieved higher rates of compliance than balanced score cards. Under a fixed remuneration structure, 75% of participants were completely compliant with policy across all transactions. Under a simplified balanced scorecard, compliance rates fell to 62%. This further decreased under the compliance gateway to 51%. ' This suggests that the Balanced Scorecard is significantly less effective than fixed remuneration with regard to compliance outcomes' the report concludes.
- No productivity gain with balanced scorecards? The study found that there was no significant uplift in productivity where balanced scorecards were used relative to fixed remuneration. That is, employees appear to work just as hard when paid a flat salary as when they receive a financial incentive/bonus. Study author, Professor Elizabeth Sheedy is quoted in The AFR as commenting in relation to this that 'This research debunks the sacred cow that there has to be incentives or employees will not work hard'.
Study conclusions: Time to rethink the use of balanced scorecards for remuneration purposes?
Given the findings, Professor Sheedy suggests that 'it seems appropriate for the financial services industry to reconsider the use of the balanced scorecard for remuneration purposes'. Separately, Professor Sheedy is quoted in media reports as commenting that: 'based on this study, my previous research, the research of other academics, and the case studies presented by the Royal Commission, it is becoming increasingly difficult to justify the use of variable remuneration in financial services…I hope industry leaders and regulators will seriously consider this issue as we continue to do research in this crucial area of performance measurement and remuneration'.
About the study
The study was jointly funded by Deloitte Australia and the Insurance Council of Australia and assisted by The Australia and New Zealand Institute of Insurance and Finance and Financial Services Institute of Australia (Finsia). It was led by Professor Elizabeth Sheedy.
[Source: [registration required] Sheedy, Elizabeth A. and Zhang, Le, Behaviour of Finance Professionals Under the Balanced Scorecard (November 13, 2018). Available at SSRN; Investor Daily 21/11/2018; Financial Standard 20/11/2018; [registration required] The AFR 18/11/2018]