Beyond Pay: Comp Committees’ Remit Stretches Oversight Boundaries

It’s no longer just about pay. In the ever-evolving corporate governance landscape, the remit of compensation committees is at a tipping point. So says RJ Bannister, partner and COO at Farient Advisors, a compensation and corporate governance advisor with deep roots in how the work of compensation committees gets done. In this interview with Briefings editors, Bannister identifies the skills, practices, and operational expertise needed by today’s compensation committees to keep pace with their expanding oversight role.

 

Describe this moment in time: How are compensation committee priorities changing?

There is no question that the expanding remit of the compensation committee has increased the scope of their oversight areas and responsibilities. Beyond their traditional roles, compensation committees are now expected to oversee human capital risk, leadership development, organizational culture, and talent management. As a result, compensation committees are helping to actively shape the company’s human capital strategy—a far cry from the compliance and oversight roles largely played by boards since the enactment of the Sarbanes-Oxley Act in 2002 and Dodd-Frank in 2010.

In our opinion, one of the most significant changes in recent years is the evolution from board oversight of governance and compliance to proactive human capital management. Our research on board practices finds that 35% of comp committees for the S&P 1500 have changed the name of the compensation committee to include human capital, management development, etc. One of the most visible outcomes of committees adapting is revising their committee charters to specify oversight of talent management. There is also greater investor demand to understand how companies manage what many call their most valuable asset.

 

Why has the work of the compensation committee changed so dramatically?

The board has delegated human capital management to the compensation committee. Driven by business strategy implementation, there are expectations for the compensation committee to go beyond CEO succession planning to articulate a talent philosophy that informs talent risks around recruitment, retention, and management and employee development. What skill sets do we need to add, and how do we acquire them? This goes deeper than just focusing on the C-suite. For example, companies are conducting comprehensive turnover analyses to understand better turnover to answer fundamental questions: Where are we losing talent? Where are they going? And what are the primary reasons for their departure? These questions all factor into a broader view of talent throughout the organization, their strengths and weaknesses, and where investment needs to be made.

 

What are the critical questions for compensation committees to ask?

We’ve been working with many compensation committees to help them think through their oversight of human capital. If you lack the right leadership, fulfilling any strategic objective becomes impossible. It’s knowing who will succeed the current CEO and the plan to develop and retain talent two or three levels down and across the organization to ensure a robust bench and pipeline. Once again, directors are seeking answers to the following fundamental questions: What specific talent is needed to meet our long-term strategic objectives? What is the approach for developing the next generation of talent within our organization? Are we appropriately considering risk in our company’s talent retention? Where is the organization vulnerable? What are best practices from peers and other comparable organizations? How does the compensation committee most effectively provide insight and oversight to management without overreaching or becoming meddlesome? In theory, boards could explore several human capital areas, leading to better-informed decisions regarding recruitment, retention, and where to place investment dollars.

 

How is Farient advising its comp committee clients on handling this expanding remit?

We are working with compensation committees to integrate—and, more importantly, operationalize—talent initiatives through their agendas and calendars. Board comp committees are wrestling with the right questions to be asked, which requires a new level of attention and sophistication. Recruitment and retention are at the top of most boards’ agendas—how do we attract and retain top performers to ensure stakeholder value? Have we articulated career paths for new candidates? What is the holding power of high potentials’ current equity? What are the logical positions a top performer could leave our organization for? What are the market pay levels for those opportunities? What would it cost to bridge a person for two to three years to stay with the organization until they are ready for promotion? Is it worth the investment versus other worthy current high performers?

There are myriad additional questions: What does the next generation of talent look like two or three levels below the C-suite? Where are our relative strengths and weaknesses? What skill sets and competencies in the organization are missing to meet our desired long-term strategic plan? Where are our blind spots for talent, and how are we addressing these gaps? What is our regrettable turnover? Boards must ask these questions proactively and work through the answers with management.

 

Farient is leading the market in discussions around the tension between good governance and compensation, describing it as a “collision course,” can you provide fresh examples?

I think Boeing provides a good example and those companies that receive low Say on Pay votes. Our Say on Pay Tracker™ updates voting results of Russell 3000 companies as shareholder meetings take place and votes are tallied. You must look at the reasons that shareholders vote against executive pay plans. In the case of Boeing, there is a revolt against outgoing CEO David Calhoun’s compensation package to be voted on this week at its annual meeting. Both proxy advisors recommend that shareholders vote “no” in part because of the size of a special equity grant. Special or one-time awards often receive the most scrutiny and illustrate the tension between good governance and compensation.

 

Another area where Farient is leading is on “talent vulnerability.” How do you advise compensation committees to evaluate what talent is at risk?

Gauging talent vulnerability requires compensation committees and boards to understand holding power (the value of unvested long-term incentive grants) and pay positioning (how an executive’s compensation compares to the market). Farient’s Talent Vulnerability Framework™ depicts which executives may be at risk of leaving and what the “opportunity gap” or cost of retention might be. Inputs into the framework show an individual’s pay positioning vis-à-vis the market and the holding power the company has on that individual. Holding power can be seen as how much the executive would leave on the table if they were to walk away or how much another company would need to pay to make that executive whole. Farient also estimates what executives might earn if they were to be recruited away for a position at another company one or two levels up or for a similar position at a larger company. This necessitates an expansion of benchmarking for specific executives and ultimately informs where investments in people need to be made. These are some of the concepts and practices that are essential for today’s compensation and talent management committees.