Today, Lazard reported fourth quarter earnings and missed big.Analysts were expecting a profit of 37 cents per share. The bank delivered only 1 cent per share.
Volatile market conditions certainly played a role in reducing earnings, but Lazard’s compensation practices were also a key factor in the miss.
Reuters has a great video discussing the impact that the lack of deferred compensation had on Lazard’s lackluster results.
What’s the issue? First, there’s Lazard’s high revenue to compensation ratio.
Lazard paid out 63.9 per cent of revenues to employees in 2011. In 2010, that figure was 62.7 per cent. For context, in 2011 JP Morgan, Goldman Sachs and Morgan Stanley had compensation ratios of 33.8, 42.4 and 50.6 per cent, respectively.
As Reuters notes, while a portion of this discrepancy can be explained by a push to hire senior bankers away from rivals, a stubborn refusal to increase deferred compensation also helps explain the dynamic:
“We are very comfortable with our approach on deferrals at the firm and we didn’t need to increase it,” Chief Executive Kenneth Jacobs said in an interview. “There’s just no free lunch there.”
Jacobs’ comment points a discrete finger at his rivals for increasing their deferral rates. The consequence is a one-time earnings bounce that comes at the cost of reduced year-to-year expense flexibility.
Lazard cut bonuses by about 20% to stay in line with rivals, but only deferred 23.5 per cent of pay, Reuters reports. By contrast, Morgan Stanley deferred 60 per cent of cash bonuses.
The rationale behind deferrals, that they bolster responsible risk management, may be valid.
But deferred compensation has a downside in the expense overhang it creates from one year to the next.
And beyond the overhang, there is an argument to be made that the one-time juice they provide to earnings is an accounting game that can only go on for so long.
What’s the best approach?
Morgan Stanley and the rest of Wall Street are taking one tack and Lazard is taking another. It will be a few years before we know which was the right move.