There are three ways smart boards can get better organized to meet the challenges of today’s corporate governance environment: First, master the lightning-rod topic, compensation. Second, reach out to major shareholders that need to be brought into the discussion. And third, collaborate to achieve accretive value for all parties.
The Money Pit
Vanguard Group manages more than $1.6 trillion in assets and is rarely confused with a special-interest or activist-investor organization. Its intentions in the executive suite are transparent: to increase shareholder value. Yet, in a note that should concentrate the minds of directors, Glenn Booraem, principal and head of corporate governance at Vanguard, reported that in their discussions with investee company management, their “single biggest topic of conversation tends to be compensation.”
Boards are now highly motivated to get their compensation issues organized for prime time—referring to both the substance and the perception. Compensation is no longer an individual CEO or company issue—it is the single largest driver of anti-business rhetoric and fuels activist popularity. Occupy Wall Street was one of the most effective anti-business movements to come along in recent memory, and among its core issues was a protest against executive compensation. As directors work their way through this difficult but important issue, there are two areas in particular that are of the highest importance today: pay for “performance” and pay “fairness.”
The State of the Unions:
First, boards need to be aware that the SEC will be issuing a rule on the Dodd-Frank provision requiring companies to report pay for performance. Compensation committees may get ahead of this curve by clearly defining performance and peers, and disclosing results according to their own well-reasoned and well-supported formulas. Directors may also caution the SEC against mandating a pay-for-performance disclosure formula that misses the mark.
While it may be tempting to use the same formula for performance across companies, doing so can be misleading because performance can be defined in myriad nonfinancial ways that have a long-term impact on company value.
Second, boards must be aware of the issue of so-called pay fairness, the Dodd-Frank provision that requires companies to report the ratio of CEO to median employee pay. Not surprisingly, the ratio resembles one tracked by the AFL-CIO’s Executive Pay Watch. These disclosures are likely to raise ire among the shareholder activists, and must be accompanied by clear and compelling disclosure of pay philosophy.
Shifting the Dialogue to Mainstream Shareholders
The powerful combination of populist rhetoric about joblessness and recession—fueled often by misleading stories of unearned executive wealth—has naturally led to stronger ties between unions and politics, with business often seen as the enemy.
It is no surprise that, as The National Journal writes, there has been a corresponding surge in union organizational activity, manifesting itself in political contributions. Boards and management must develop stronger relations with returns-minded shareholders that can come to their defense when faced with anti-shareholder policies.
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