Corporate Governance

The Director Compensation Project and a Final Note

By J. Robert Brown

For the last ten days or so, we have been running student posts that examine the stock exchange definition of director independence and the fees paid to members of the board.  As we have noted a number of times on this Blog, the exchanges apparently take the position that director fees do not count in the determination of director independence.  This is true even though the NYSE provides that directors are not independent if they have a "material relationship" with the company and does not explicitly exclude from this analysis consideration of the amount of fees paid.  The same is true, by the way, of the state law definition of independence, which almost categorically excludes consideration of fees (something discussed at length in my piece, Disloyalty without Limits). 

Most of the directors in the survey received total compensation in the $200,000 to $300,000 range.  A few, particularly those serving on the board of Goldman Sachs, received almost $700,000 in total compensation.  There are several observations that can be made about this data.  The first is that when companies have independent boards, what they really mean is that they have directors who meet a stock exchange definition of independence that does not by any stretch ensure that the directors are independent in fact. 

Second, the size of the fees for some directors no doubt provide an incentive to want to stay on the board.  As we have noted on this Blog, the only real way to remove a director is to have him or her not be renominated by the board.  Proxy contests where shareholders oust existing directors and withhold campaigns where they seek to deny a director a majority of the votes cast rarely occur and when they do, usually fail.  As a result, directors wanting to maintain their position have an incentive to side with management rather than shareholders.  While their fiduciary obligation runs to shareholders, state (read Delaware) law has largely eliminated these obligations, making it easy as a legal matter for directors to take a pro-management stance.  The results of this can be seen most clearly from the rise in CEO compensation. 

Without state law exercising any real restraint and with the exchanges turning a blind eye to the relationship between compensation and independence, the solution looks likely to come from other sources.  The Democratic contenders for president have become proponents of say on pay, suggesting a growing likelihood of increased federal involvement and, frankly, an increased role in the corporate governance process for the SEC.  In this regard, federal involvement must be seen as arising entirely out of the failure of the traditional regulators of corporate governance to adequately ensure that boards act in the best interests of shareholders. 

Finally, the data in these posts demonstrate once again the need for access.  Only when shareholders have access to the company's proxy statement for their nominees and incumbents confront the possibility of losing an election will their attention be more likely to turn to the interests of shareholders. 

Full post as published by The Race to the Bottom on May 08, 2008 (boomark / email).