Does Your Compensation Committee Need A Reset?

Executive pay practices are in the news on a regular basis. Just in the past few weeks, after meeting with investors, the performance metrics for Citigroup were changed following a failed say on pay vote a year ago. Yesterday, it was reported that Apple has required executives to hold triple their salary in stock.

The heat is now on Compensation Committees – who approve and set executive pay – more than ever before. Academic institutions are also keeping up, training our next generation of executives and directors on the rapidly changing terrain of best compensation governance practices and shareholder accountability. See the new course I developed for York University in this area, here.

What are the top pay practices for Compensation Committees? There are fifteen, listed below.

But before you read, ask yourself if you are a Compensation Committee member (or even a Board member not on the Committee), how many questions you can answer “yes” to.

If you are an investor, who will have a say on pay this upcoming proxy season, ask yourself if Compensation Committees at your investee companies conform to the practices below. The more questions that can be answered “yes,” the greater the likelihood there will be pay for performance that is directly aligned with value creation for you as a shareholder.

  1. Does each Compensation Committee member fully understand the company’s business model, the key value drivers, and the performance metrics arising from achieving the company’s strategy?
  2. Does the Compensation Committee precisely calibrate these metrics such that there is a direct line of sight and sufficient stretch for short-term bonuses and long-term performance-based equity?
  3. Has the Committee or an expert third party independent of management benchmarked your Compensation Committee Charter to best practices?
  4. Have you approved, and can you defend, the compensation of oversight functions (e.g., internal audit, risk, compliance) and key risk-takers within the organization? (Assume compliance failure occurs and these pay practices receive expert scrutiny.)
  5. Would a third party, after diligent checks into Compensation Committee member backgrounds and relationships to management, reasonably conclude that all Committee members are fully independent? (There are several red flags that may not be captured by formal independence standards – e.g., interlocks, reciprocity and social relatedness.)
  6. Do you have one female non-CEO on your Compensation Committee? Do you disclose the competencies and skills for each Compensation Committee member on your website?
  7. If you use a Compensation Consultant to assure compensation, has the entire firm or the person never done work for management before, and would otherwise be objectively viewed as fully independent?
  8. If you retain a lawyer to advise, negotiate or draft compensation agreements or pay plans under the Committee’s direction, has that lawyer never done work for the management before, and would otherwise be objectively viewed as fully independent?
  9. Do you have bonus deferral and equity vesting and hold requirements that are performance-based and risk-adjusted by the Committee?
  10. Would your compensation disclosure satisfy an investor as being fully transparent, understandable, clear, and absent of obfuscation or gaming? Do all Committee members fully review the disclosure, or have an independent advisor do so under the Committee’s direction?
  11. Whenever CEO compensation is discussed, the CEO leaves the room.
  12. Does each Committee member issue a cheque from their own savings to satisfy stock ownership requirements? (In other words, the stock is not given in lieu of board service, but they must pay for it.)
  13. Does your Compensation Committee meet directly with key investors to hear their views, without Management in the room?
  14. Does every Compensation Committee member have tenure on the board not exceeding nine years?
  15. Are key contractual provisions, such as a “clawback” or “malus,” and pay practices drafted by the Committee or an advisor independent of management who reports to the Committee, incorporating best practices?

If you answered yes to all questions, or even almost all, you likely have a truly outstanding Compensation Committee and pay for performance. You may even wish to apply for a governance award, here.

If you cannot answer yes to the majority of these questions, you have work to do.

Join me in my next blog where I will ask if your Nominating and Governance Committee needs a reset.

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