Last month, Smith Barney overhauled its pay package—just in time for the new year. Some of the changes it made were pretty radical—especially for an industry in which any pay change, no matter how minor, is often a source of uproar. The firm eliminated the practice of having reps pay for certain business costs—like sales assistant salaries and bonuses; trading errors; registration and communications; and travel and entertainment expenses—totaling over $100 million a year. In addition, it says it will offer an enhanced deferred-compensation package (with an eight-year vest) that will cost the firm another $40 million, give or take a few.
In exchange for taking on these expenses, the firm is cutting payout on the first $5,000 in monthly revenue to just 20 percent. It’s also adding or trimming basis points from payout on a sliding scale, depending on a rep’s level of production: $1 million producers get 1 point shaved off, while certain $300,000 to $400,000 producers get a 25 basis point bonus. (Payouts will not change, however, for those with less than five years in the business.) And it is capping sales assistant salaries starting in 2008—reps who want to make up the slack will have to share commissions with their assistants. The net hit to the firm, Smith Barney says, is a minimum of around $70 million in 2007.
The original intent of the pay overhaul was to avoid further legal entanglements concerning what are considered, in some states, “illegal” chargebacks to employee reps for business expenses. Every major brokerage firm has faced lawsuits over this common industry pay practice, as well as for allegedly unpaid overtime, and many of them have settled. Smith Barney settled nationally with reps for $98 million in May. Merrill Lynch and UBS have also settled nationally, while Morgan Stanley has settled with reps in California.
But Smith Barney is the first firm to change its pay practices as a result. Still, executives say they tried to change what started out as a negative into a positive. This is not about cost-cutting, they say: Most reps will actually get more take-home pay as a result of the changes—particularly top-tier reps and senior council members who will get the fattest expense accounts (around $13,000). Not one financial advisor at the firm will be negatively impacted by more than $5,000, they say (but then counter that, oddly, by insisting that anyone who is will be transitioned to their new pay scale over two years.)
But not all reps are buying it. One $1 million producer, whose business is about 50 percent fee-based, is not happy. “The big pitch is that it’s revenue neutral, but from what I’ve seen, it’s anything but,” he says. “It’s absolutely a pay cut, any way you slice it.” (Reps have yet to see anything in writing, but have participated in a conference call with executives.) According to his own calculations, this rep says he stands to lose $1,500 in the first year, $3,000 in the second year and $6,000 in 2009.
Another $500,000 producer who’s been with the firm for five years and has a 41 percent payout, says his branch manager ran spreadsheets for different production levels and other expenses payments, and it looks like, all in all, he will lose $2,000 to $3,000. “I’ll just have to make it up in production,” he says. And that is probably part of the point.
Smith Barney couldn’t have helped but use this opportunity to force a couple of profit-enhancing measures into its pay package. And that’s why the guys at the top will benefit most, and why deferred comp was enhanced and cash comp was cut. “That’s part of a longer-term trend in the industry [of increasing deferred comp],” says Andy Tasnady, a compensation consultant in Port Washington, N.Y. “Smith Barney was a little behind [on deferred comp] and now they’re caught up.”
Is Smith Barney’s new pay package the model for the future? Smith Barney’s CEO Charlie Johnston says he thinks so. “If you decide you’re going to settle and pay the kind of money that’s being paid by not only our firm but every other major firm, I don’t see how you can get around it,” he says.
Compensation consultants agree. “I think firms are trying to figure out what to do,” says Alan Johnson, managing director of Johnson Associates, a compensation-consulting firm in New York. “This probably does put pressure on other firms to make their own changes,” he says. Morgan Stanley, which is still in litigation over overtime and chargebacks, declined to comment. UBS and Merrill Lynch were unable to return calls seeking comment by press time.