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More Boards Hiring Their Own Comp Consultants
06/01/05
Board Alert
Morgan Stanley and Pepsi Bottling have joined the swelling ranks of compensation committees that are employing their own independent compensation consultant.
The Morgan Stanley and Pepsi Bottling decisions are part of a broader independence movement among compensation committees to have the sole power to hire, pay and fire their compensation consultant, experts say.
“There definitely have been more independent compensation consultants for boards,” says Paul Dorf, a managing director of Compensation Resources. “No question about it, the whole Sarbanes-Oxley arraignment has been a wake-up call for board members. We are being contacted directly by boards and compensation committees, and they make it very clear they want us to deal directly and only with them.”
Unlike many corporate governance reforms, directors are driving this one. “Boards are bringing this about,” says Pat McGurn of the Institutional Shareholder Services. “I have not seen any shareholder resolutions. This movement was generated by boards themselves. It is at the top of the reform list.”
At the same time, hiring independent consultants is a best practice that both the National Association of Corporate Directors and the Business Roundtable endorse.
“Everyone had this as a recommendation, and it had a very broad consensus,” McGurn says.
The courts have also put directors on notice that they value the independent voice of outside compensation consultants. Directors who don’t hire independent consultants will have a tougher time proving that they acted independently when reviewing executive compensation.
E. Norman Veasey, former chief justice of the Delaware Supreme Court, actually came out and told boards they should have independent consultants when he headed the influential court.
“Compensation committees should have their own advisors and lawyers,” Veasey opined in a 2002 article written by Charles Elson, director of the University of Delaware Center for Corporate Governance. “Directors who are supposed to be independent should have the guts to be a pain in the neck and act independently.”
Soon the idea picked up steam, as directors became more proactive in the wake of SOX and developments at companies like Disney, Enron and WorldCom. At Disney, specifically, the court permitted a lawsuit based on the directors’ failure to follow the duty of care to proceed, in part because they failed to hire an independent compensation consultant.
Not all directors, however, are in favor of having a compensation consultant who serves the compensation committee and another consultant who works for management.
“I don’t see it as necessary, and it creates a level of confusion that I didn’t think is necessary,” says Paul Fulton, a director at Bank of America, Lowe’s and Sonoco. “With two compensation consultants, you have to meet with them separately and get their advice separately. After all, we are all looking at the same data, including the benchmarks and comparisons. It is a matter of consistency. I think it is more productive to have one consultant.”
Others see a potential for conflict when one compensation consultant represents the board and another answers to management. This could result in dueling consultants, each fighting for their clients best interest.
“In those cases, we have seen it where management has gone out and hired their own consultant. It has been a very antagonistic relationship,” says Dorf.
Yet, that tension is exactly what some directors say has been missing from boardroom discussions on executive compensation all along.
“If you have ever been on a committee, it’s helpful,” says the University of Delaware’s Elson, who also sits on the board of AutoZone, a $5.6 billion specialty retailer. “A little tension may be helpful sometimes. Not a lot, but a little might be helpful.”
Elson and others even go so far as to suggest that a wall between executives and their compensation committee is starting to grow. They predict that compensation committees will follow the model of audit committees, where there are independent directors who have independent consultants.
Fulton, however, has a more sanguine approach to the issue. He argues that the compensation consultant’s loyalty should lie with the shareholders.
“We are all there representing the shareholders,” says Fulton. “If the compensation consultant does not take the attitude of doing what is right for the shareholder and having a public posture that you can support and defend, I would not have him around.”
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