What should we pay board members for? Oversight responsibility? Performance of the company? Or both? This is one of the most basic issues of compensating directors ... and it is one that is rarely addressed.

• Author: Dolmat-connell, Jack
• Position: DIRECTOR COMPENSATION

OVER THE LAST DECADE, board service has changed dramatically, with much more time being spent on board and board committee matters and significantly more real, or perceived, risk associated with board service. These factors altered the supply and demand equation relative to board members, and, correspondingly, board pay levels have risen substantially. While the "how much" board members are paid is interesting, little is said about how this changing environment has altered "how" board members are paid. This critical piece of the board compensation equation needs rethinking.

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Today, other than determining magnitude of pay, the strategy for board compensation can be developed by answering two important questions: Should we pay for oversight responsibility, or performance of the company, or both? And, should we compensate on the basis of an individual's board membership alone (i.e., an overall retainer), or be emphasizing the requirement to attend meetings?

Pay for oversight responsibilities or pay for performance?

This is one of the most basic questions of compensating members of a board of directors. The question is rarely asked. How a board answers this question determines its fundamental philosophy about board service and, thus, board pay. Not surprisingly, developing an answer or, at least, some insight as to what the answer might be, is not straightforward. For most companies, the answer is most likely to be found on a spectrum of possibilities.

At one end of the spectrum is pure oversight responsibility. That is, based upon regulatory requirements and an intense scrutiny by the media and other pressures, a board's focus is solely on corporate governance. As a result, remuneration for oversight may be only in the form of cash.

At the other end of the spectrum is a focus only on the long-term performance of the company. That is, based upon being elected by the shareholders, a board's focus is purely on the performance of the company so that over a longer-term horizon shareholder value is increased. Remuneration for performance may be only in equity compensation--in particular, stock options, whereby the stock price must increase for directors to receive any remuneration.

The changing role of boards--resulting in greater time commitment and real or perceived risk--indicates a movement to more cash compensation. In fact, most surveys and analyses of board compensation practices show a rapid rise...