The GC and the Compensation Committee
Weve already got our consultant. This information is just too sensitive. Executive compensation isnt a legal issue. Whatever the reason thats offered, it just won't hold water from a governance perspective. There is nothing about the boards executive compensation committee that justifies excluding the one person who should absolutely be part of the process: the companys general counsel.
And by part of the process we mean involved not only in the actual meetings, but also sufficiently in advance of those meetings, in order to help evaluate the risks of certain proposals and otherwise frame the meetings agenda. A better understanding of the GCs role in the process and a series of new corporate developments combine to drive that point home.
Its important for the board to understand that executive compensation matters require the expertise of two different skill sets: compensation and benefits, and law. Despite what the companys human resources executive may say, youre not going to find those two skill sets within the same advisorat least to any remote degree of competency. The compensation consultant cannot advise the committee on the application of lawand no conscientious consultant would do so. Nor would the consultant advise on the relative legal risks raised by alternate courses of action.
The simple fact is the board compensation committees require the guidance of both compensation/benefits and legal advisors. Sure, that adds to the cost, increases the paper flow, extends the length of meetings, and may add some advisor-to-advisor tension. So be it. But if there were any doubts as to the role of counsel in the committee's processand there really shouldnt have beenthe enactment of the Dodd-Frank reforms should have erased them. But inexplicably, its a reality that many boards have yet to fully embrace.
The sheer number of compensation-related legal tasks offers a compelling argument for why the general counsel should be an active staff support to the committee. Some of these tasks can be accomplished outside of the meeting room, but others can only be accomplished in the room, during the meeting.
The major outside the meeting room legal tasks are pretty important, including assisting the nominating committee in articulating the competencies required for committee membership; developing and applying proper independence standard for committee members; structuring the scope of engagement of the compensation consultant; advising the committee on the independence of the compensation consultant; determining whether proposed committee actions are permitted under existing compensation plans and agreements (or if not, whether an amendment is permitted); reviewing contracts that are subject to committee vote; evaluating the consequences of proposed committee actions; and preparing and maintaining committee governing documents.
Theres also action, of course, inside the meeting roomwhere the general counsels participation adds value. And were not just talking about advice on the areas of substantive compensation law that are relevant to the committees deliberations, although thats certainly critical. Were also talking about supporting the committee in the exercise of appropriate diligence; in its use of constructive skepticism with respect to the advice and recommendations of the consultant; in the establishment of a contemporaneous record of its deliberations; and in assuring that the committee takes into account all appropriate types of risks (e.g., legal, financial, cash flow, contractual, and public relations) and the degrees of such risk. This is the benefit of real-time access to the committees legal advisor: supporting efficient, unbiased, and prudent decision-making. And that access should extend to executive sessions of the committee, where specific action is being taken.
The committees need for such value added advice is well demonstrated by several recent corporate developments. For example, several leading pharmaceutical companies are restructuring executive compensation arrangements to incorporate broader clawback provisions in the event of violation of corporate ethical or conduct standards. A major U.S.-based international company announced in its proxy materials its intention to include achievement of specific compliance plan goals within its executive incentive compensation structure. Theres also a disquieting increase in executive compensation-based litigation against companies, their officers and directors, based on a variety of breach-of-duty theories. And lets not forget disputes arising from issuance of equity awards that turned out to violate the terms of the company's stock incentive plan (e.g., the Barnes & Noble controversy), and executives who were forced to resign due to stock pledging arrangements (e.g., Green Mountain Roasters).
From the nonprofit world, The Internal Revenue Services final report on its Colleges and Universities Compliance Project was critical of how many colleges and universities used inappropriate comparability data to support compliance with the rebuttable presumption of reasonableness, and suggested that this concern extended to other types of tax-exempt organizations.
The general counsel is well suited to advise the committee on legal issues arising from these, and similar, circumstances.
Promoting the proper role of the general counsel in the deliberations of the compensation committee in no way diminishes the obvious, fundamental, and critical roles of both the compensation consultant and the human resources executive in the compensation decision-making process. All were saying is that it takes a village. That village will often include counsel directly retained by the committee to represent its interests in special circumstances, but that village should also include the general counselor his or her designee (e.g., special outside counsel) that represents the corporations interest and reports to the GC. The board and its compensation committee will be better served by allowing the general counsel to come past the meeting room door.
Michael W. Peregrine is a partner in the law firm McDermott Will & Emery. He advises corporations, officers, and directors on issues related to corporate governance and fiduciary duties. Mr. Peregrines views do not necessarily reflect the views of McDermott Will & Emery or its clients. Mr. Peregrine wishes to thank his partner, Andrew C. Liazos, for his contributions to this column.