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CCCA_V5No1_Dept-ExecComp-FIN.qxd:CCCA_V1No2_Dept-CourtLeg-V1.qxd 2/1/11 6:06 PM Page 11 Fiduciary Duties and Executive Compensation Paying for Performance A strong compensation policy is key to transparency. By Brad Kelly xecutive compensation has been a Establish a Foundation executives to know exactly how superior Econtentious topic for some time now. Every board should have a compensation actions will be rewarded and how substan- Most boards of directors struggle in their philosophy (or policy) in place.A compensa- dard performance will be penalized. This efforts to be fair and market competitive tion philosophy acts as a foundation for man- type of plan establishes a target level of per- while at the same time aligned with aging compensation and achieving desired formance as well as what can be expected if stakeholder expectations. Transparency results,and generates transparency and consis- they achieve defined levels above or below has helped catalyze the increased pres- tency throughout all compensation decisions. that target. sure of adopting good governance prac- If the board determines that the compen- The messaging in a compensation philos- tices. Normally, stakeholders are content sation mix should be changed,or that certain ophy should be clear: high performance will when returns are high. However, when negative or risky behaviours were uninten- be rewarded with high bonuses or rewards, economic downturn and lower profits tionally incented, the board should first ask and low performance will result in low (or hit, stakeholders tend to be much more why this was the case and second,take action no) incentive pay. vocal on issues like compensation, insti- wherever warranted to revise the philosophy tutional stakeholder groups become and make sure that it is realigned with stake- Engage more active, and the media thrives on holders’ intentions. Once the compensation philosophy is prop- the drama. On an annual basis, board members need erly aligned with the board’s intentions, Boards today are under unprecedented to evaluate the overall effectiveness of their executives need to be engaged further to pressure. Most are overseeing the tightening organization’s incentive structure and how help establish realistic and transparent per- of budgets, the redesign of strategic business well it aligns with the realization of its busi- formance goals. objectives, while addressing increased disclo- ness strategy. Given that there are two per- When calibrating annual performance sure demands from governments, regulators, formance management models commonly benchmarks, board members should be open institutional shareholder services, and stake- used in today’s economy, board members and honest about key issues or behaviours holders alike. It is within these stressful cir- should understand the pros and cons of they intend to address. It is our experience cumstances where strong performance man- implementing or maintaining a “flat”/maxi- that open dialogue often leads to the discov- agement frameworks help to ease pressures mum award model or a “tiered”/leveraged ery of improved solutions and truly and facilitate stronger governance practices. award model. SMARTER (Specific, Measurable, Achiev- When properly implemented, performance Under a flat incentive model, the less an able,Relevant,Time-based,Ethical and Risk- management frameworks enable the align- executive achieves, the more is taken away assessed) performance goals. ment of organizational objectives and goals from their maximum allowable bonus.The with executive compensation plans and flat model is very simple to maintain, but it Simplify stakeholder expectations.Disclosure becomes is weak in showing how an organization val- Once negotiated,putting together a new per- easier as well. ues or incents various performance levels. formance management plan in a digestible Disclosure and transparency advocated by For example, telling executives that they are way can be daunting, but it is important that the regulators is often something that corpo- eligible for a maximum bonus of up to 50% the plan and process remain as simple as pos- rate counsel is required to oversee and of their base salary is very simple to admin- sible.Transparency and mutual agreement are understand. Specific to the compensation ister, however it doesn’t enable them to see also keys to successful plans. Performance discussion and analysis for proxy circulars, a how superior or basic threshold perform- management plans should not only have clear strong performance management framework ance will be differentiated from their normal goals, but avoid highly complex formulas. Establishing a simple tabular performance ISTOCKPHOTO is something that counsel should advocate target performance. scorecard is an effective way of consolidating Tiered models normally require more for because it makes transparency all the all salient plan information. A performance more easier. effort in their design. But they allow PRINTEMPS 2011 CCCA Canadian Corporate Counsel Association 11