Despite the substantial progress that has been made since the passage of Sarbanes-Oxley in July 2002, some corporate governance issues remain unresolved. This is due in part to the ongoing experimentation of companies to find the proper governance formula for their individual culture. At the same time, however, some of the issues are either too large or too controversial to be resolved in the relatively short time since the recent round of corporate governance reforms began. Two of these unresolved issues loom large in the immediate future: executive compensation and proxy reform.
Executive and Director Compensation will be the Lightning Rod Issue of 2005
Executive Compensation Must be Tied to Performance
It is mathematically impossible for every corporation's CEO to be paid in the 75th percentile.
Compared to five years ago, fewer companies are paying their CEO at the 75th percentile--the current practice is to pay at the median. The compensation level itself, however, is not as important as whether or not compensation is tied to past performance and future goals: Compensation must be keyed to exceeding performance measures. The traditional argument in setting compensation has been that high levels of pay are necessary to retain quality leaders. In that regard, companies have become too reliant on surveys and other "in vogue" compensation measurements, such as making sure the CEO is being paid the "norm" for the industry. But the vast majority of executives are typically company "lifers," and simply expect to be treated fairly. If there is a large pay gap between the chief executive and other senior executives and company employees, it should be considered a corporate governance red flag.
While many boards have taken positive steps to assure appropriate compensation levels, there are still too many situations where the required new culture is not understood or has not been set.
Stock options, while not in themselves a bad form of incentive compensation, have been overused. Studies have found the executives who received excessive amounts of options, in relation to their pay package, took riskier business strategies. The original idea behind options was to provide an incentive for executives to perform well, but now it is felt that, generally, options don't lead to increased "ownership" or retention. Instead, many executives used them to push the company's stock price higher in the short term and...