The Eight Habits of Effective Compensation Committees

Richard V. Smith, senior vice president and Jason Adwin, senior consultant, at Sibson Consulting discuss what roles compensation committees have and how they can effectively adjust to increased scrutiny over executive compensation.

Time commitments in the boardroom have increased over time. In order to compensate directors, Smith advises that salaries and retainer pays are increased. Smith says, “Pay directors for the work they’re doing, that’s the important one.” Time directors devote to their duties has doubled or tripled in the past five years. Instead of 15 or 30 hours a year, directors now devote more than 100 hours a year to their board duties.

At a dinner Smith attended, Chairman and CEO of General Electric Jeffrey Immelt addressed the group and said that his directors are spending upwards of 300 hours both in and out of the boardroom. Smith emphasizes that exposure is much greater and finding directors with the experience and time to devote to the growing responsibilities of directors is increasingly difficult.

Smith and Adwin offer “8 Habits of Highly Effective Compensation Committees” that successful compensation committees should use:

1. Maintain Recent Advancements - Expectations have been raised and new baselines are outlined. Greater scrutiny has resulted in the need for more diligence and approval processes.

2. Compensate Role and Activity - Pay directors for the time they put in. Boards have changed in the past five years and directors are expected to devote more time in and out of the boardroom. Directors have fiduciary responsibilities that they did not have in the past.

3. Work Beyond the Boardroom - Open the dialog outside the boardroom meetings. Meet or engage in phone calls so that meetings become more contentious, people ask more questions, and comfort levels are raised.

4. Remain Internally Focused, Externally Sensitive - Take care to how the public perceives your company. Be aware of any scrutiny.

5. Build Rapport with Management - Open dialog beyond scheduled meetings. Get to know your CEOs and executives. This can ultimately help with succession planning.

6. Commit to Director Development - Invest in and encourage training. Have more in-house development training programs.

7. Build a Talent Portfolio - Obtain directors with specific levels of expertise, even if they have no prior boardroom experience. The proper training coupled with expertise can be a great asset to a company.

8. Broaden Scope of Responsibility -  Accountability goes beyond the boardroom. By issuing self-evaluations and peer-diagnostics, boards can give their observations and recommendations on an annual basis.

The Securities and Exchange Commission has increased authority, Sarbanes Oxley, and the Shareholder Vote on Executive Compensation Act, are some of the regulatory actions that have clamped down on say on pay issues.

As a result, companies have been forced to adjust, by making more conservative financial forecasts, improving communication with more transparency, revising corporate policies, intensifying director selections and training, and redesigning executive pay.

With these changes, compensation committees are forced to evolve by increasing time commitments and adjusting to growing legal exposure. Compensation committees must be able to address:

• Shareholders and institutional investors
• Customers, employees and executives
• Regulators, media, third party advisers

According to Smith and Adwin, the best committees communicate well and often and constantly evaluate methods to prevent ineffective approaches. Be able to communicate with the CEO, HR, Finance, and Legal departments and openly discuss leadership perceptions and performance goals.