5 – Organisation and accounts

5.1 Management model and organisation

Norges Bank Investment Management (NBIM), which is an area of Norges Bank, is responsible for the management of the Government Pension Fund – Global. NBIM also manages the Government Petroleum Insurance Fund on behalf of the Ministry of Petroleum and Energy and the bulk of Norges Bank's foreign exchange reserves. At the end of 2006, assets under management amounted to NOK 2 047 billion.

The Executive Board has overriding responsibility for Norges Bank's operations. The Executive Board consists of seven members, appointed by the King. The Supervisory Council, which consists of fifteen members appointed by the Storting, is the Bank's supervisory body and approves the Bank's budget. Norges Bank's audit department, Central Bank Audit, reports to the Supervisory Council and is responsible for operational auditing of investment management operations. Norges Bank's foreign exchange reserves and the Government Pension Fund – Global are included in Norges Bank's annual accounts, which are audited by Central Bank Audit.

The Office of the Auditor General is responsible for the final audit of the Government Pension Fund and bases its work partly on material from Central Bank Audit. The Government Petroleum Insurance Fund is managed and its accounts kept by Norges Bank. The Office of the Auditor General bases its audit of the Fund on work carried out by Central Bank Audit.

The Executive Board establishes the framework for NBIM's operations through strategy plans. The strategy plan covers a three-year period and is revised every other year. A new strategy plan for the development of investment management in the period to 2010 was established by the Executive Board at the beginning of 2007. During the plan period, capital under management in Norges Bank may increase substantially. At the same time, it may be determined to invest in new assets classes such as real estate and private equity. The principal objectives of the plan are to generate substantial added value through active management of the government's and Norges Bank's foreign financial assets, to foster the owners' long-term financial interests through active corporate governance and to implement the owners' management strategy in a cost-effective, prudent and confidence-inspiring manner. Underlying the operational objectives is recognition of the fact that Norges Bank manages substantial assets for Norwegian society. This is also evident from NBIM's mission, vision, objectives and values (see box).

NBIM follows a clearly defined investment philosophy to achieve the objectives of excess return. According to NBIM's investment philosophy, excess returns shall be achieved by means of a large number of individual, mutually independent decisions rather than by means of large strategic decisions. Responsibility for decision-making has been delegated to individuals in the form of specific investment mandates and to external asset management organisations. The external management mandates also have clearly defined objectives and limits. The investment philosophy is described in more detail in articles published on Norges Bank's website in 2000 and 2004.

Management shall be conducted in a prudent manner with considerable emphasis on good internal control procedures and without substantial infringements of the guidelines issued by the delegating authorities. The organisation shall be run in a cost-effective and profitable manner. Management resources will be focused on core activities and outsourcing will be considered in connection with all other activities. A separate box in this section provides an overview of outsourcing.

NBIM has business areas for equity and fixed income management. The heads of these areas are responsible for all portfolio investment and performance, strategic planning and cost management within their respective area. Each business area has a chief operating officer who is responsible for support and analytical functions, transactions and IT systems. The chief operating officers report both to their respective business lines and to the executive director of NBIM. In addition, NBIM has departments that are organisationally independent of the two business areas and report directly to NBIM's exe-cutive director. These departments are responsible for corporate governance, risk measurement, performance measurement, accounting, compliance with investment guidelines, negotiation of legal agreements, human resources, IT policy, IT infrastructure and shared administrative services.

5.2 NBIM employees

At end-2006, NBIM had a total of 132 permanent employees, 14 full-time temporary employees and five trainees. In addition to Norwegian nationals, NBIM numbered 32 employees of 15 different nationalities. During the year, 17 permanent employees joined the organisation and 15 left. Of the permanent employees, 28 per cent are women, and in 2006 women accounted for 41 per cent of new recruits. 111 employees are university graduates. At the beginning of 2007, the average age was 39 and the average number of years of employment with NBIM was 5. Sickness absence was 1.5 per cent. Most employees are located in Oslo, but NBIM also has offices in New York and London. At end-2006, 34 of NBIM's employees worked at one of the offices outside Norway. Most of these employees are engaged in active management of the equity and fixed income portfolios.

5.3 Salary and incentive system

The Executive Board acknowledges that the task of managing the Government Pension Fund – Global requires active use of pay incentives and human resource policy measures. The quality of the Bank's management depends strongly on the capacity to attract, develop and retain employees with preeminent and specialised expertise. The following is a more detailed account of the principles applied by Norges Bank in the remuneration of NBIM employees, and key performance figures for 2006. Norges Bank complies with the provisions of the Accounting Act relating to reporting on remuneration, pension benefits and other benefits to the Bank's executive management and management group. An account is provided in Norges Bank's Annual Report.

NBIM recruits from an international labour market. A number of Norwegians have been recruited from foreign companies and remained resident in London or New York. In the foreign as in the Norwegian market for investment management employees, pay normally consists of two components – a fixed salary and a performance-based component. For persons who make investment decisions and who are assessed on the basis of these results, the performance-based pay component will often be larger than the fixed component.

It is notably within investment activities (the front office) that the pay level may be high compared with the average pay in the financial sector. At the same time there are large variations between employees, which reflect different contributions to performance.

Performance-based pay is a means of retaining employees who succeed in generating excess return through their investment decisions. The system of performance-based pay also has another function. It is intended to encourage persons with investment authority to take active market risk. NBIM's ambition of adding value through active management implies that there are individuals who take this risk within the framework and follow-up routines that are set for them. An incentive system that rewards high performance increases the willingness to engage in such active management.

NBIM's pay and personnel policy

The Executive Board defines pay and personnel policy as a means for NBIM to achieve its strategic goals. See Section 5.1 for a more detailed description of the strategic goals the Executive Board has set for NBIM.

NBIM shall compete for the most skilled personnel with the required specialist knowledge. Competitiveness is promoted through interaction between many factors. The pay level and remuneration system is very important, but there are also other elements. Benefits are determined on the basis of market pay in the international and Norwegian labour markets for the different types of personnel.

Norges Bank does not aim to be a wage-leader. NBIM has a number of advantages in the competition for labour which it employs actively – and which mean that we are not obliged to offer the highest pay. However, the Executive Board does not want the difference in relation to those who receive the highest pay to be so wide that it leads to an undesirably high outflow of persons with key expertise. Therefore staff recruitment and outflow are carefully considered in relation to general developments in pay conditions in the markets. The alternative to competitive conditions in NBIM is to outsource far more management to external managers. This may entail substantially higher costs.

Part of the basis for determining pay levels is independent analyses of market pay for the various skills categories. These reveal relatively large differences between the labour markets in Oslo, London and New York. Market pay in international markets is appreciably higher than in Oslo. The differences are also reflected in the pay conditions in our organisation. However, the pay level in Oslo remains the reference for Norwegians on temporary postings to our offices in London and New York. NBIM pays for housing and schooling for the children of these employees at the rates used by the Norwegian Ministry of Foreign Affairs.

A particular edge that NBIM uses in competing for the best human resources is that the size of the capital under management, and NBIM's position in the international capital market, offer very favourable opportunities for professional development. One important consideration in the management of NBIM and in the development of the organisation's structure is to create a stimulating environment for talented persons and specialists. NBIM's approach is based on extensive delegation of investment decisions to individuals, allowing them to design the strategy and method they wish to use. This takes place within a framework of clearly defined investment mandates and ongoing monitoring of both results and compliance with the guidelines. Emphasis is also placed on making good information systems available to the managers.

Important functions in NBIM other than the front office departments are: Continuous measurement of performance and risk, trading and settlement of securities, accounting, legal quality assurance of agreements and decisions, and IT-based analysis and decision-support systems. The quality of these functions, which account for about 48 per cent of NBIM employees, cannot be measured as concretely as the management function. However, it is of great importance to NBIM's ability to provide effective management of high integrity. The pay of some employees outside the front office departments also has a variable portion which is performance-based. However the share is far lower than for front office employees.

The design of the system

In the front office departments, 70-90 per cent of the variable pay is typically dependent on measurable financial results. Common to all measurement is that it is based on the portion of value added that can be related to the individual, and to some extent also to the group of which that person forms a part. For the most central managers of the front-office departments, it is the department's overall performance that counts, but there are also some incentives associated with NBIM's overall excess return. For each employee, the criteria for disbursement and the upper limit are agreed the previous year.

Since the agreements are related to excess return, we avoid a situation where employees are rewarded for general market trends. Managers are rewarded for achieving better results than would be achieved by following the markets. In accordance with NBIM's strategy for achieving excess return through taking many maximally independent active management positions (cf. Section 5.1), active management decisions are delegated extensively to groups and individuals.

The incentive system is based on this 'bottom-up' strategy, by placing greatest emphasis on the results of the individual. However, it may mean that there is not a direct relationship between NBIM's overall result and how much performance-based pay is disbursed. This will particularly be the case in years when there are large differences between the results of external and internal management, as there are far fewer employees with responsibility for external managers than there are internal management employees.

Performance-based pay is linked largely to the previous year's developments. Performance over a number of years may form the basis for some employees. Typically, some of the payment for particularly high performance one year may be transferred to later periods. This may also lead to differences between overall performance and the disbursements in the individual period.

The qualitative criteria for performance-based pay tend to be related to how the individual employee has contributed to the work and results of the rest of the group, the performance of tasks and projects according to plan, and compliance with NBIM's four core values (see Section 5.1).

The scope of performance-based pay in NBIM's activities outside the front-office departments is distinctly smaller. Maximum variable pay tends to amount to between 10 and 30 per cent of the fixed salary. The variable pay of all employees who work on measuring performance and risk and keeping accounts, or in some other manner have tasks that are important for ensuring the integrity of management, is not linked to NBIM's excess return. The measurement criteria are based on the quality of the work viewed in relation to action plans and compliance with NBIM's core values.

Remuneration in 2006

On balance, excess return was achieved in 2006, which forms the basis for disbursing performance-based pay. Transfers based on the previous year's results for some employees have little impact on the total figures. The excess return on the funds that are managed by NBIM is discussed in previous sections. Since the Government Pension Fund – Global is by far the largest Fund, its results will have the strongest impact on overall pay figures.

NBIM's excess return in 2006 was clearly lower than the value added target of 25 basis points. In isolation, this implies relatively low performance-based pay in the front-office departments. However, performance in internal and external management differed. Performance was very good in internal management, where more than 90 per cent of NBIM front-office employees work. Only 6 per cent of NBIM's front-office employees are engaged in monitoring external managers and receive a performance-based pay component.

Total performance-based pay for NBIM's front-office departments came to NOK 69.5 million in 2006. This is equivalent to 59 per cent of the limit. In the Equities Department, 59 per cent of the limit was paid, and in the Fixed Income Department 60 per cent.

Chart 5-1: Actual performance-related pay compared with maximum limit for front-office departments

Chart 5-1 shows employees in the front-office departments grouped according to how large a share of the individual's performance-based pay limit was disbursed. The chart shows, for example, that 21 per cent of the front-office employees were paid less than 25 per cent of their performance-based pay limit.

The remuneration policy of NBIM's executive director is determined by the Executive Board. His actual remuneration is decided by the Governor of Norges Bank according to specific criteria. The criteria include NBIM's financial performance over the past few years and various measures of the quality of management, compliance with guidelines and fostering of confidence in NBIM, building up and operation of the organisation and execution according to action plans. The salary of the Executive Director of NBIM was NOK 2 784 462 in 2006. In addition he received other benefits with a total value of NOK 15 424. The Executive Director of NBIM is a member of Norges Bank's pension scheme, which is described in Norges Bank's Annual Report.

5.4 Accounts reporting

An excerpt from Norges Bank's annual accounts and an excerpt from the accounts of the Government Petroleum Insurance Fund are presented below. For a full picture, please see Norges Bank's Annual Report and the separate reporting for the Government Petroleum Insurance Fund.

5.4.1 Government Pension Fund – Global

At end-2006, the balance in the Government Pension Fund's NOK account was NOK 1 782 139 million. The accounting return and accrued management remuneration for 2006 has been taken into account. Table 5-1 shows the Fund's international portfolio distributed by instrument.

Pursuant to the Regulation on the management of the Government Pension Fund – Global, Norges Bank's net book return on the Fund's international portfolio shall be transferred to the Fund's NOK account. The return in 2006 consists of the components presented in Table 5-2.

Table 5-1: Government Pension Fund – Global. Portfolio at 31 December 2006. In millions of NOK

Table 5-2: Return on the Government Pension Fund – Global's international portfolio at 31 December 2006. In millions of NOK

5.4.2 The investment portfolio

Table 5-3: The investment portfolio at 31 December 2006 by instrument. In millions of NOK

Table 5-4: Return on the investment portfolio to 31 December 2006. In millions of NOK

5.4.3 The buffer portfolio

Table 5-5: The buffer portfolio at 31 December 2006 by instrument. In millions of NOK

Table 5-6: Return on the buffer portfolio at 31 December 2006. In millions of NOK

5.4.4 Government Petroleum Insurance Fund

Table 5-7: The Petroleum Insurance Fund's international portfolio, by instrument, at 31 December 2006. In thousands of NOK

Table 5-8: Return on the Government Petroleum Insurance Fund at 31 December 2006. In thousands of NOK