“There are ways to set compensation well without directors spending their entire lives doing it,” Ryterband says, adding that the typical director on a compensation committee should set aside 150 hours a year for each board that he sits on. “In the past, a lot of compensation committee members viewed their responsibilities as a part-time job. But now they are seeing it as a real job with the potential for real embarrassment.”

TOP VIEW The days when boards automatically approved executive compensation packages are well past. Abusive and overly generous policies have sparked bad press, investor resentment and prosecutorial interest. A growing number of boards are exposing compensation to greater scrutiny. But the shift has proven difficult for many, particularly smaller companies.

Flying Blind
But addressing this dilemma is hardly as simple as ordering a 20 percent pay cut, even for the compensation committee members who, theoretically at least, control the purse strings. While a handful of struggling companies, including Continental Airlines, have cut top executive pay, most compensation consultants say that trend is unlikely to catch on at others.

Among the new methods compensation committees are utilizing are restricted stock grants, which typically set dates—and sometimes even performance restrictions—on when shares can be sold. Unlike stock options, which typically allow executives to buy the stock at a deep discount, restricted stock is an outright grant. Another reason for their growing popularity is that beginning next year, federal regulations will require companies to begin expensing stock options or accounting for them more comprehensively than most have done in the past. “There’s a real de-emphasis on entitlement programs and stock-based compensation,” Ryterband says, but both he and Biggs warn that restricted shares can be problematic, particularly if they are not tied to performance guidelines, such as an increase in profits or cost-cutting moves.

While experts such as Ryterband, Biggs and Kamerschen see growing awareness among Fortune 1000 companies of how their compensation arrangements might draw unwanted attention, the vast majority of the more than 13,000 publicly traded companies are relatively ignorant of the dangers. More worrisome, perhaps, is that even when these smaller public firms go astray, they are far less likely to face blistering shareholder meetings or broadsides from the business press, two of the most glaring motivators for adhering to performance-based compensation plans.

When Kamerschen walks into the board rooms of Radio Shack and R.H. Donnelly, he bases his decisions on CEO evaluation processes that are much more formalized than in the past. Compensation committee members use a template of specific goals for income and profit increases, then grade the CEO on how well he achieves each goal. Poor grades can result in lower compensation, with much of this information disclosed in the annual proxy statements mailed to investors. Directors often get into heated discussions. “Committees get comfort out of consensus. But if there is total consensus, you never get a true understanding that what you’re doing is right,” Kamerschen says. “If a director has something on his or her mind and doesn’t speak up, it’s a real problem.”

SEC rules have long required most publicly traded companies to disclose salaries, perks and other forms of compensation for their top five executives, as well as for any top executives who have resigned in the past year. But exactly what warrants disclosure and how best to accomplish it has long been a gray area at many firms. While many compensation committees are still opting to disclose the bare minimum required—typically a summary compensation table and a brief explanation of how the CEO’s salary was set—compensation committees at several large companies have stepped forward to divulge more information than required.

•  honeywell international began providing a separate perks chart in 2003. The perks chart, which is not  required under SEC rules, lists the value of 10 different perks, ranging from personal use of the corporate jet to financial planning services and personal security services.
•  exxon mobil provides detailed information on pensions for its top executives, which makes it easy for investors to see what retiring executives will receive when they leave the company. Executive pensions have long been a black hole at many companies, making it next to impossible for investors to figure out what these hefty packages are really worth.
•  wachovia began providing detailed information on executive stock options, well beyond the information required under SEC rules, which only require a company to provide potential values if the stock were to increase 5 to 10 percent.

Lies, Damn Lies and . . .
As more individual and institutional investors, as well as outside groups, begin to pay greater attention to executive compensation, the spotlight on the compensation committee will only become more intense. Lucian Bebchuk, a professor of law, economics and finance at Harvard Law School who cowrote the book Pay Without Performance, has been one of the most vocal critics of what he says are still overly cozy compensation boards.

“Most of these boards are still often more than happy to go along with whatever the CEO says,” notes Bebchuk, adding that it is not particularly difficult for boards to conjure metrics that show the company is paying the CEO and other top executives appropriately, given the company’s performance. Indeed, even companies whose revenues and share price are falling can likely find another company performing even more poorly with which to compare itself, Bebchuk says.

Bebchuk is not a lone voice crying out in the corporate wilderness. During the 2005 proxy season, public pension fund managers at such prime movers as the New York City Office of the Comptroller and the International Brotherhood of Teamsters initiated proxy votes on issues related to excessive compensation at Coca-Cola, among others. Though the measures did not pass, they helped to focus more attention on the issue of excessive compensation.

Even former SEC Chairman William Donaldson was growing increasingly vocal on issues relating to compensation before his resignation on June 30, telling directors and top executives in a speech last fall that he “would also like to see greater disclosure of pay packages—with not only the total amount of compensation provided, but for each element of this compensation to be clearly explained, including benefits that may not be easily assessed but which carry a clear value and which the CEO clearly cares about.” Incoming SEC Chairman Chris Cox, a congressman from California, is expected to be much less outspoken on compensation issues, judging by his well-recorded business-friendly posture—he led the fight in Congress to enact special legal immunities for misleading forward-looking statements in the mid-1990s. However, many SEC observers also underestimated Donaldson’s willingness to joust large corporations when he was first appointed.

Recidivist Directors
Without continued prodding from the SEC and other regulators, together with increased activism by institutional investors and pension funds, compensation committees could very well slip back to the days when there was a dearth of independent thinking on executive pay.

 To prevent that from happening, directors—particularly at smaller public companies that tend to receive less attention—need to take a more proactive approach. When the talk shifts to salaries and perks, many boards continue to disavow open-minded, critical discussion, Kamerschen believes. When he joined the board of one company—he refuses to disclose the name—he found that salaries were dramatically out of line with competitive companies, so he began lobbying to slash them. “It was nothing personal. We were just looking at the facts, and the salaries were simply too high at this company when compared to its peers and in light of the company’s performance,” Kamerschen says. The salaries were cut.

Unfortunately, that type of thinking is still relatively rare. At Duke University’s annual Directors’ Education Institute last March, Jim Cox (no relation to the SEC chairman), professor of corporate and security law at Duke Law School, surveyed the directors in attendance and noticed a tendency toward tunnel vision. “Most of the directors believed that executive compensation was too high and that boards of directors needed to get tough,” Cox says. “But when asked about the CEOs and CFOs on the boards they served on, almost all of them said it was a different situation at their own companies.” 

Michelle Leder is an author and writer whose work has appeared in BusinessWeek and Inc.

Illistration by Ken Orvidas