Dr. Earl R. Smith II

Dr. Earl R. Smith II
DrSmith@Dr-Smith.com
www.Dr-Smith.com

In my work with companies and their Boards of Directors, two issues are normally the thorniest – and both directly affect senior management. The first is succession. I have written extensively about the challenges to the Succession Committee of any Board. I describe some of these tensions in Corporate Board Succession Planning and A Matter of Succession. The second – and the subject here – is the Compensation Committee. In both of these areas, there is a natural tension between the board and senior management. Successfully navigating these challenges takes a steady hand from the Chairman – and often better attempted with the support of an outside adviser. During some of my engagements, I have felt more like a conflict referee than an expert adviser – but, without mitigation, the conflicts, which can arise, will cause serious damage to the shareholders’ long-term interest.

The governance structure of the compensation committee of public corporations requires extensive knowledge of executive compensation strategies, corporate board strategy, leadership assessment, Securities and Exchange Commission reporting requirements, and other issues affecting the performance of the corporate management team and their leadership in achieving the strategic goals of the Board of Directors for preserving and increasing shareholder value.

The Board of Director’s responsibilities include devising strategies to increase shareholder value over the long-term. In executing this responsibility, the board should establish several advisory committees to assist in accomplishing their mission of maximizing the return to the stockholder. One critical advisory board the board of directors should establish is the compensation committee. The committee should be composed of independent directors and non-employee directors to ensure compliance with the Sarbanes-Oxley regulation.

During one engagement, I recommended that the Board set up a compensation Committee. The company had never had one. Board members saw the proposal as an advance towards best practices in board operations. Management, on the other hand, saw it as an assault on their prerogatives. Previously, management had proposed compensation levels and the board had rubber stamped those proposals. A new Compensation Committee was a threat to that process. Overcoming the opposition took a great deal of careful but persistent action. However, once the Committee was up and had been running for a year, all parties accepted it as a necessary function of the board.

The committee should pay special attention to the details of any incentive or equity-based plan to ensure is has the appropriate strategic impact on leadership development. Specific criteria for the granting of options or other equity grants to the company’s executive officers and other employees should be established. The criteria of such equity-based incentive plans should be submitted by the Chairman of the committee to the Board of Directors for approval, and the full board should then submit the plan to the shareholders for final approval.

The compensation committee should conduct annual assessments of corporate management. These programs are relatively inexpensive and generally yield high-value data. The assessments should be based upon the board’s established performance strategy, and should focus management’s progress towards meeting established goals. Well-designed metrics are critical to this process – as are regular, independently managed assessments. The granting of any options and equity-based incentives must be in compliance with the approved plan, and the committee should approve any granting of incentives based upon the outcome of the committee’s assessment of the CEO and corporate management’s performance.

Annually, and as soon as possible after corporate management evaluations, the compensation committee should meet and discuss the compensation plans, goals and the effectiveness of the plan in meeting the overall board’s strategy regarding the CEO’s and corporate management’s performance. Any changes, amendments or addendums to the plan should be submitted during the board of directors meeting for discussion and approval, and where necessary the board of directors should submit the changes to the stockholders for final approval to ensure compliance with listing requirements. After final approval, the terms, conditions and criteria of the incentive and equity-based compensation plan should be posted, published and made part of section 162(m) of the Internal Revenue Code per IRS regulation. The committee should make the terms and details of the plan available to all corporate management falling under the plan’s regulations.

The compensation committee should also assess appropriate levels and various types of compensation for board and committee service by non-employee directors. Serving as an advisory committee of the corporate board of directors, the committee should direct its Chairman to recommend to the board of directors a strategy regarding non-employee director compensation. The board should assess the strategic planning of the committee and where appropriated submit the strategy to the corporate shareholders for final approval.

As part of good governance, the compensation committee should also perform an annual self-assessment. In conducting the assessment, the committee should evaluate its performance under its charter. It should determine whether its charter adequately addresses the mission of attracting and retaining professional corporate management talent. The committee should address all aspects of its performance and compliance and discuss any additional strategy needed, and any additional resources needed to complete its assessment in a timely manner. The committee should make a written and an oral report should be made by the advisory board’s Chairman at the board of director’s meeting regarding the findings of the compensation committee’s annual evaluation and compliance review process.

The compensation committee’s scope should be more than setting compensation and incentive plans for corporate management. The advisory committee’s work should include the retention and recruitment of talent for corporate management and leadership for the company’s Board of Directors. As a committee charged with assisting the board in its responsibilities for maximizing shareholder value, the compensation advisory committee must be prepared adequately assess leadership, and committed to personal growth and continuing education to ensure compliance with corporate ethics and Sarbanes-Oxley regulations in its governance of corporate management.

The evolution of a board is critical to the growth of any company. I have written about this process elsewhere. For more on this subject, see Board of Directors: Cultural Evolution and Board of Directors – Evolution through Devolution. As a company expands, its board needs to develop abilities to manage the increasing complex challenges that result. A well-managed Board of Directors is essential to this process.

© Dr. Earl R. Smith II

Related Articles:

• Officer and Director Vetting

• Non-Profit Board Member Selection – Excellence Breeds Excellence

• The CEO’s role in board member selection

• Determining Board Compensation Structure

• Good Governance – Balancing Eight Key Factors

• Nomination Committee Strategies

Dr. Smith is a proven senior executive, successful entrepreneur, published author and public speaker. He serves on boards of directors and advisory boards or as a strategic adviser to CEOs. Dr. Smith specializes in turnaround management, strategic planning, leadership development and executive coaching. He also works as an executive and/or life coach in the areas of personal growth and spirituality. He is the author of Amazing Pace: Turbo-charged Business Development – a book that shows how Advisory Boards can dramatically increase revenue. Dr. Smith is also the author of Dream Walk: Parables for the Living – a book of Raven Tales and exploration.

This entry was posted on Sunday, October 5th, 2008 at 10:01 AM and is filed under Governance. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.