Unstacking the Executive Compensation Deck

One dramatic consequence of the recent scandals over executive compensation is the emerging shift in control over the executive pay agenda from management to the board’s compensation committee. These scandals can almost invariably be traced to a fundamental mystery in the executive compensation realm— the fact that management has traditionally controlled virtually all aspects of the process by which its own pay is determined.

It just doesn’t make sense for management to maintain an army of human resources specialists and external advisers to design—and position—its own pay. If ever there were a check-and-balance deficit, it is here. Sure, compensation committees are nominally vested with final say over these issues, but they simply do not have the staff or the resources to cull through the overwhelming volume of data, proposed program designs and technicalities that are an intimate part of today’s executive compensation environment.

If you have ever joined a compensation committee as a newcomer, you know how it works. You inherit an executive pay infrastructure originally built by management, together with an established process for reviewing and approving management’s pay proposals. How to benchmark compensation, which peer companies are appropriate comparables, how data are compiled and used, the timing and process for addressing pay decisions, your committee’s true reach and authority—all these decisions were made long before you arrived. Any suggestions for changing the status quo are met with resistance (if not disdain), and you have no direct access to expert resources to help challenge the inertia.

The fact is that management still retains a huge advantage over compensation committees when it comes to executive pay. The executive compensation staff in a large public company typically consists of at least two specialists and several data analysts who—together with the chief executive officer, executive vice president for human resources and external consultants beholden to management—are prepared to press their agenda. Control over the process and resources often leads to control over the outcome.

Adding to the imbalance is the growing trend among executives in high demand to retain their own compensation advisers and attorneys. These professionals represent the executive’s interests in negotiations with the company, which sometimes even fronts the fees for such agents, effectively arming the hired gun.

The compensation committee can try to seize the reins, but its membership has traditionally taken an advisory role. Assuming “first pass” proposal authority would require virtually full-time commitment, and corporate resistance to such behavior would be stiff. Clearly, the standard pay program for directors does not motivate them to take on this added burden. The deck is stacked, and it doesn’t pay to try and unseat the dealer.

The executive pay arena is far too complex these days for a director to jump into the fray in a meaningful way without the benefit of resources like those of management. Yet given the focus on executive pay, the recent abuses and the potential exposure of comp committee members to liability, it is time to question why management continues to control the executive pay process so disproportionately.

The New York Stock Exchange Corporate Governance Rules suggest that the compensation committee retain sole authority over the relationships with external advisers brought in to assist with executive pay matters. Similarly, under Britain’s Combined Code, U.K. boards are encouraged to ensure that directors have full access to independent professional advice.

Compensation committees have a choice: Remain hostage to a process and executive pay infrastructure that is perpetuated by its own beneficiaries, or try to claim control of the agenda. Executive pay reform will not come without this essential rebalancing of power and resources.