Director Compensation Decision Making is Deteriorating
Written by Brent Longnecker & Josh Henke of Longnecker & Associates.
Professor Jay Lorsch of Harvard, considered to be an authority on governance in the U. S., has always contended that board pay was the most critical aspect of pay within a corporation. His reasoning was simple: if no shareholders questioned board pay, the board would be better positioned to fulfill their duties as fiduciaries regarding executive pay. Therefore, the setting of director pay is critical.
Under current Delaware law, a public company’s board of directors has the authority to set and award independent directors compensation for their time, effort, risk, and, hopefully, their alignment with shareholders. One of the many reasons why independent directors are paid in stock is that these vehicles offer the most direct alignment with shareholders. As the company’s stock price fluctuates up or down, a shareholder investment and directors’ compensation follow the same increase or decrease. Historically, at many public companies, the setting of an independent director’s compensation is determined by the board’s compensation committee, along with the counsel of an external executive compensation consultant and/or legal consultant. There are still public companies that don’t utilize outside advisors and set independent director compensation internally. While this lack of independent review is currently an alternative for public companies, the Delaware courts may start requiring boards to utilize a third party for the review of director compensation.
Sidley Austin LLP recently drafted a write-up on the Delaware court’s evolving stance on independent director equity grants. Read the full article here. Recent court cases, such as Seinfeld v. Slager and one involving Citrix, may lead to tighter scrutiny surrounding a board’s business judgment rule to independently set their own compensation without further review from outside advisors or counsel. Further, Delaware courts have likely made it easier for litigation surrounding a board’s equity grant.
Longnecker & Associates advises that boards closely monitor these continued changes and anticipate the following to occur from a board equity compensation standpoint:
• A requirement for an independent review of Board compensation be completed by an outside advisor or counsel,
• An eventual requirement under say-on-pay legislation to include director compensation; and/or
• A requirement that shareholders approve a meaningful limit on director compensation.