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Cover Story

Executive Compensation & The Boardroom Dilemma

Regulatory pressure, rising shareholder outrage and executive greed are colliding to create a perfect storm of hostility toward companies accused of paying exorbitant compensation packages to their CEOs and executive teams. For corporate America, this hot-button issue is becoming increasingly vexing for boards of directors determined to lure top talent. This doesn't come cheap in corporate America. But as the value of executive compensation packages rises ever higher and more boards fail to hold executives accountable for their performances, directors are asking themselves: Are we at the point of no return?

For the Securities and Exchange Commission, and its newly minted chairman, Christopher Cox, executive pay and perks are emerging on top of his corporate-reform "to do" list. Cox is anticipating a battle over the issue, last examined by the SEC in 1992, and is instructing his staff to consider new regulations on firms' reporting of total compensation, including perks, retirement benefits and deferred compensation. And, yes, that includes corporate-jet use and housing costs. And until the rules change, he has one warning to public corporations: full disclosure, full disclosure, full disclosure. Though the SEC approved rules in 2003 requiring shareholder approval for all equity-linked compensation plans, Cox says some firms have fallen short of true transparency.

Though the SEC declined to provide an official to be interviewed, a spokesperson pointed to a recent speech by Alan L. Beller, director for the SEC's division of corporation finance. "The commission should not be involved in setting executive compensation," Beller said, echoing his boss's comments. "Our legitimate interest in governance requires us to monitor companies' performance under the listing standards that we approved that establish independence requirements for compensation committees. ...Companies should be concerned about whether their executive compensation disclosure is accurate and complete. This is an area where, based on questions we receive, there sometimes seems to be a desire to limit disclosure to the minimum rather than to create disclosure that fully informs investors. Why is this the case? Are executives seeking to minimize comp disclosure? Are too many lawyers who participate in drafting these sections putting the expressed interests of executives ahead of those of their client, the company? How is the company well served by disclosure that is minimal and seeks to obfuscate rather than disclosure that is informative and seeks to clarify?"

The SEC has sued several companies in the last year over hidden compensation, particularly executive perks. Earlier this year, the SEC settled civil charges against Tyson Foods for failing to adequately disclose more than $1 million in perks to senior chairman Don Tyson. The agency also settled with Walt Disney Co. in 2004 for failing to disclose certain compensation and investigated Procter & Gamble Co.'s purchase of Gillette, which triggered a platinum parachute worth $185 million-plus for Gillette CEO James Kilt.

But Beller implies that many companies are not getting the message. "Let me...repeat...in plain English: Disclosure is required of all compensation, earned or paid, from all sources, for all services," he said in another recent speech. "Too many boards have apparently operated on the principle that compensation must be in the top half or even the top quartile of some benchmark group for the company to be competitive in attracting executive talent. This principle apparently operates without regard to whether performance is commensurate to compensation. This approach produces what I have called the Lake Wobegon effect, where everyone is above average. [They] ought to be able to do better than this."

The sharpened focus on executive compensation has some institutions fretting. "The SEC is not trying to tell corporations how or in what manner to compensate executives," says Herbert C. Schulken, partner and U.S. leader for corporate governance at consultant PricewaterhouseCoopers. "All they're saying is that however you choose to do it, put it in the proxy [statement] so shareholders can evaluate the effectiveness of the company."

Public resentment has been simmering against executives and their multi-million-dollar payouts since the 2003 ouster of New York Stock Exchange chairman Richard Grasso, who received $139.5 million for his 36 years, including eight as chairman, at the firm and a $48 million retirement package. Though the NYSE is a private not-for-profit company, New York State Attorney General Eliot Spitzer sued Grasso for his "improper and illegal" pay, and the case is due back in court in February. Headlines also screamed about retiring Citigroup chairman Sanford Weill, who in April 2006 will away with annual retirement income of more than $1 million.