Ask Not How Much, Ask Why

According to a March 31, 2013 article in the New York Times by Susanne Craig. “Since the financial crisis, compensation for the directors of the nation’s biggest banks has continued to rise even as the banks themselves, facing difficult markets and regulatory pressures, are reining in bonuses and pay.”

Well, “reining in” of executive pay might be a bit of an exaggeration, but there is no question that the Chairman’s role and other board members of Wall Street firms have lucrative pay packages. And over the past several months, or even years, with a growing portion of director pay made in stock (and with share prices for these firms soaring), director pay has increased. But the bigger question is not “how much” but “how and why”.

As Michael Graham shared in his recently published book Board of Directors Governance and Rewards , “We believe that boards don’t get the respect they deserve for the success of the businesses they oversee, but neither are they held much accountable when the businesses they oversee flounder If the business strategies work, then the CEO should get credit for execution and the Board for foresightedness (not just the credit for hiring the right guy). If business strategies fail then the CEO should carry the blame for poor choice of strategy or poor implementation and the Board for failure to appropriately examine the plans (not just the blame for overpaying the CEO).”

And speaking of how CEO pay drives behaviors, the same is true for director pay, but for directors there is a different angle. Directors (much like US congressmen) set their own pay. It is part of their responsibilities for corporate governance. Therefore board governance and board pay cannot be decoupled. Further, the most important consideration for both governance and pay is the idea of contribution: how does the board contribute to the company and how does each director contribute to the work of the board, and how  these contributions drive board pay.

There is a wide spectrum of board contribution levels from “hands off” to “hands on.” In Grahall’s ground breaking Board of Directors Research Series  we found that a board’s relationship with the company can be measured and arrayed to give a quantitative understanding of its “contribution” level. Grahall identified 40 variables which are gleaned from proxies to represent the degree of contribution of each board.

With this large number of variable, there is a nearly infinite number of combinations and permutations of the influencing factors that set the threshold conditions for board governance and reward program success. Board governance and reward program design needs to be an active, dynamic, adaptive, and situational effort. Where there are different levels of contribution, the board reward levels should also be different.

Pay must be equal to contribution, and contribution must be aligned with governance, and governance aligned with shareholder interest. So if director pay appears high it is only “too high” if the contribution is less than the pay should demand. The reward strategy needs to be consistent with the level of contribution. High contribution should generate high compensation and vice versa.

Continue reading Ask Not How Much, Ask Why