First, Congress likely will pass ‘say on pay’ legislation to give
shareholders advisory votes on executive compensation, possibly as part
of a broader set of sub-prime scandal market regulation reforms. And we
can now forecast that whoever is elected president will sign it into
The presumptive Democrat nominee, Barack Obama, has long been on the
record in support of say-on-pay. The Illinois senator sponsored
legislation in that chamber echoing a bill passed by a 2-to-1 bipartisan
majority in the House of Representatives. Pushed by Massachusetts
Congressman Barney Frank, chair of the powerful House Financial Services
Committee, the bill would require every U.S. public company to place a
non-binding resolution on the ballot of each annual meeting asking
shareowner endorsement of compensation practices.
What nobody knew until June was that Republican standard-bearer John
McCain would make his own endorsement of say-on-pay legislation
official, unequivocal, and even more far-reaching than Obama’s. If
McCain wins the Oval Office, the Arizona senator declared in a June 10
speech, “all aspects of a CEO’s pay, including any severance
arrangements, must be approved by shareholders.”
Actually, McCain’s wording made it sound like he would want such
votes to be mandatory, as is done in the Netherlands. (In Britain and
elsewhere, the votes are only advisory.) Either way, McCain’s
announcement removes a big hurdle to Senate action on the bill. Outgoing
President George W. Bush’s implacable opposition to say-on-pay is
thought to have helped stymie the measure in the Senate this year. But
in 2009, a new Congress, with expected stronger Democratic majorities,
is now certain to face an occupant in the White House with signature pen
at the ready.
Why Washington is jumping on the say-on-pay bandwagon is hardly a
mystery. The same day that McCain unveiled his populist position, the
Wall Street Journal printed a front-page exposé about contracts that
award big payouts to CEOs—even after they are dead. Seizing the outrage
prize: Shaw Group CEO James Bernhard, who is to earn $17 million for not
competing with the firm after he expires. Days later, an Associated
Press survey showed continuing gains in CEO pay despite lagging
performance. Plus, The Corporate Library released figures showing
that CEO pay at S&P 500 companies climbed by a median 16 percent in
troubled 2007, compared to a 2 percent rise at smaller firms. Lastly,
despite some misleading early proxy season reports that say-on-pay vote
totals had declined, the latest tally by RiskMetrics found that support
for such resolutions climbed again this year, from an average 42.5
percent in 2007 to 43.4 percent in 2008.
Moreover, general wisdom holds that the large mutual funds, pension
funds, and insurance companies that dominate proxy voting are more
tolerant of high executive compensation than the general public.
Grassroots support for political action to rein in out-of-touch CEO
compensation is gaining amid the painful economic downturn. For
politicians on both sides of the aisle, say-on-pay in 2009 seems a
no-brainer, as it shows them to be sensitive to the issue without
imposing arbitrary caps antithetical to U.S.-style capitalism.
Some in the corporate establishment, though, are still in denial. In
early May, 36 large U.S. companies formed the Center on Executive
Compensation (CEC) with a mission, in part, to spearhead corporate
opposition to advisory vote lawmaking. But that particular horse has
left the barn. Even the CEC has strained to find a coherent approach. On
one hand, it concedes that links between executive compensation and
corporate performance need strengthening. On the other hand, it rejects
say-on-pay. Perhaps the CEC can mobilize support for an alternative, but
the odds seem against it. Forward-thinking executives need to prepare
boards for mandatory, market-wide say-on-pay. That means speaking
political reality to directors and putting readiness on the agenda of
Life in the Big Chair
And the second impossible thing coming to U.S. corporate governance?
The separate, non-executive chairman. You haven’t seen media notice of
this yet, but surprising recent data point to an historic upswing in the
number of boards splitting the chairman and CEO jobs. More investors,
and indeed many directors, increasingly favor a separate chair to
strengthen board capacity to oversee management—and to fire a CEO when
things go wrong.
Until now, it has been virtually unthinkable to challenge the U.S.
habit of combining the chairman and CEO roles. But after years of little
change, three watchers—executive and director search firm Spencer
Stuart, voting advisory firm RiskMetrics, and ratings agency
GovernanceMetrics International (GMI)—are separately reporting
unmistakable rises in the numbers of separate and independent chairs in
the United States.
Look at the numbers. GMI has found that only a bare majority—52
percent—of companies in its U.S. database now still combine the chairman
and CEO roles. Three years ago the figure was 62 percent. Spencer Stuart
says 35 percent of S&P 500 companies separated the posts last year,
compared to a mere 16 percent in 1998. Moreover, the firm found that the
percentage of separate chairs that are fully independent of management
has popped since 2004, from 7.6 percent to 13 percent. Spencer Stuart is
soon to reveal that further increases took place over the past 12
months. RiskMetrics says its forthcoming figures are similar.
In addition, a group of chairmen led by Nortel’s Harry Pearce
announced in June that they will found a first-ever permanent group of
U.S. and Canadian independent chairs. The “Chairmen’s Forum” is to debut
with an Oct. 7 session in New York, aiming to adopt best practices and
explore collaboration on common issues. The forum stems from a project
initiated by the Millstein Center for Corporate Governance and
Performance at the Yale School of Management, which will start off
serving as secretariat to the group.
Nobody expects wholesale conversion to separate chairs and CEOs
overnight. Even if a board favors a non-executive chair, it is likely to
install the practice at the time it switches CEOs, rather than to take
the chairman’s job away from a serving leader. On the other hand, don’t
think the shift will be glacial, either. In Britain most boards combined
the chairman and chief executive roles before 1991, when the Robert
Maxwell scandal begat Cadbury Code recommendations for greater
accountability through a split. Within just a few years, 90 percent of
FTSE 100 firms had named separate chairs. Of course, not all motion is
one-way; Marks and Spencer just named a combined Chair/CEO in the face
of a storm of investor criticism. But the division of the two top roles
is now the default option in the United Kingdom.
Look closer to home, too. In 2003, just 20 percent of Canadian public
companies featured non-executive chairmen. Then the powerful Canadian
Coalition of Good Corporate Governance set to work applying collective
investor pressure on boards to split the roles. Today, after only five
years, a lofty 85 percent do just that, according to GMI.
Indeed, looking around the world, the United States is an outlier:
the only major market where a majority of companies combine the chair
and CEO positions. Only in France and Mexico are the two jobs held by
the same person in even 40 percent of large companies. In Britain the
number is 3 percent; Australia 2 percent; and the Netherlands 3 percent.
In Austria, Denmark, Finland, Germany, Indonesia, New Zealand, Poland,
South Africa, Sweden, and Thailand, none of the companies in the GMI
universe (the largest capitalization companies in those counties) have a
combined chair and CEO. The trend is clearly toward separation.
So be ready as pressures mount for an independent chair. It will no
longer be enough to hand the CEO the chairmanship routinely. Boards will
need to demonstrate that they have explored all options; if directors
opt for the combination, be ready to offer shareowners persuasive
reasons. If directors choose to split the roles, they will need to make
sure the chairman’s job is defined to run the board, not the company.
And they will have to be careful to find the right mix of
personalities to occupy both posts. Nothing is so destructive as an
incompatible chair and CEO. Of course, as the GMI data show, companies
worldwide take on that challenge and succeed. But it will be a new task
for U.S. nomination committees. Nonetheless, like Alice, U.S. boards are
going to find that what is now thought impossible will soon become the