Overview of Trends in Director Compensation Programs
The independent director role is critical to the present and future success of the company. Director compensation as a core principal of good governance should be fair and reasonable. Director pay programs should be able to attract high-quality candidates, but not in such forms or amounts as to cause any speculation regarding independence.
An effective director pay program should achieve the following:
- Attract and retain high performing/ diverse director talent;
- Align the interests of board members, executives, and stakeholders;
- Be straightforward, understandable, and easy to explain to all stakeholders;
- Provide equity focus with a design that mitigates equity transactions that could be construed as "timing the market";
- Meet the needs of a diverse group of directors; and
- In setting compensation levels, ensure competitiveness with the market and alignment with the time commitment and responsibilities for various roles on the board.
Director pay is continuing to be simplified as companies eliminate board and committee meeting fees, and make up for this with a corresponding increase in board and/or committee member retainers. In the 2000s, it was most common for directors to be paid for attendance at each board meeting as well as for each committee meeting, in addition to receipt of a relatively low annual board retainer.
Essentially, each director had to earn his or her fees through meeting participation. Over time, this model of pay has been replaced as boards continue to move away from meeting fees in favor of increased cash and equity retainers. This communicates to shareholders that meeting attendance is mandatory, and the workload is spread more evenly across all directors.
Additional compensation is almost always paid for serving as a committee chair, lead director, or non-executive chair ("Leadership Premium"). More and more, these Leadership Premiums are the only additional amounts beyond the cash retainers and equity awards paid in these more streamlined director pay programs. As changes in the regulatory and corporate governance environment over the past several years have placed increasing time demands on committee chairs and lead directors who do far more than attend meetings, enhanced or incremental compensation for these roles has become very common.
For annual equity awards, the market trend over the last decade has been away from stock options and toward full value shares (restricted stock, deferred stock or outright stock). The prevalence of stock options continues to decline, and when companies do grant options, they often grant options along with full-value shares. An additional award upon initial election to the board continues to decrease in prevalence as well.
Other key findings based on our research are as follows.
Total Director Compensation
Total Compensation Values
Among all companies studied, median 2015 total director compensation was $191,043.1 As might be expected, total compensation paid to directors increases with company size. For non-financial companies, median total compensation levels ranged from $147,750 (revenues < $500M) to $263,667 (revenues > $10B). For financial companies, total compensation levels ranged from $113,333 (assets < $2.5B) to $254,167 (assets > $100B).
Telecommunications Services is highest-paying of the sectors we studied, with median total compensation of $245,752. Financial sector companies have the lowest total compensation, with a median of just $148,865.
Figures 2 and 3 illustrate total director compensation values by company size and industry sector. These graphs also show the percentage of total compensation that is paid in cash versus the percentage paid in equity, which is discussed in further detail in the next section of this article.
Total Compensation Mix — Cash vs. Equity
Compensation for board service is typically composed of cash and equity, as shown in Figures 2 and 3. Of all companies studied, the median pay mix was 58 percent equity and 42 percent cash. For companies providing each director with the option of selecting payment in the form of cash and/or equity, we included the value based on the most prevalent election made during the latest fiscal year studied.
At median, non-financial companies in all revenue categories provided at least 57 percent of total director compensation in the form of equity. The smallest revenue category (< $500M) paid the greatest percentage of equity (63 percent).
Financial companies in all asset categories provided at least 50 percent of compensation in the form of equity, with the percentage of equity increasing with asset size from 50 percent for companies with assets < $2.5B to 56 percent for companies with assets > $100B.
In line with expectations, equity made up the highest portion of total compensation at Information Technology companies (68 percent). Surprisingly, the lowest portion of equity was at both Financial and Materials companies (52 percent for each industry).
Total Cash Compensation
Total Cash Compensation Values
Cash compensation for board service is typically provided through some combination of annual board retainer, board meeting fees, committee member retainer, and committee member meeting fees.
Among all companies studied, median total director cash compensation was $75,000.2 As with total compensation levels, cash compensation paid to directors increased with company size. For nonfinancial companies, median total cash compensation levels ranged from $51,000 (revenues < $500M) to $110,000 (revenues > $10B). For financial companies, total cash compensation levels ranged from $52,400 (assets < $2.5B) to $105,250 (assets > $100B).
Of the industries studied, median total cash compensation ranged from $63,667 (Health Care) to $91,667 (Materials).
Total Cash Compensation Mix
Of all companies in our study, the average cash compensation program was comprised mostly of board retainer (78 percent), with small percentages allocated towards board meeting fees (6 percent), committee member retainers (10 percent), and committee member meeting fees (6 percent). See Figure 4.
For non-financial companies, board retainers as a percentage of total cash compensation increased with company size, from an average of 73 percent among the smallest revenue category to 87 percent for the largest. This relationship was not mirrored among financial companies, as the smallest asset category had the second highest percentage of board retainer pay. Of the industry sectors reviewed, Telecommunications Services and Information Technology had the lowest board retainer percentages (71 percent and 73 percent, respectively), and Industrials, Materials and Utilities had the highest (all at 83 percent).
Trend towards Full Bundling of Cash Compensation
A trend towards full bundling of cash fees that began in the early 2000s has migrated from large companies (> $10B in revenue) to smaller companies, as shown in Figure 5:
Companies across all sizes and sectors continue to remove board meeting fees as part of the overall cash program. Board meeting fees make up the smallest percentage of total cash among the largest companies. Among the largest revenue category, board meeting fees made up just 2.9 percent of total cash compensation. Among the largest asset category, board meeting fees made up 4.7 percent. In general, board meeting fees made up a small percentage of total cash among all industry sectors, ranging from 5 percent (Information Technology) to 8.5 percent (Financials) for nine of the 10 industries studied. The tenth industry—Telecommunication Services—was somewhat of an outlier, with board meeting fees accounting for 14 percent of total cash compensation.
As board meeting fees have decreased in prevalence, so have committee member meeting fees. Similar to board meeting fees, committee member meeting fees made up the lowest percentage of total cash compensation among the largest non-financial companies, accounting for just 4.7 percent of total cash at companies with revenues > $10B. Interestingly, the opposite was seen among financial companies, with the smallest asset category of < $2.5B having the lowest percentage of committee member meeting fees (7.6 percent). Information Technology companies had the lowest percentage of committee member meeting fees (4.1 percent). Financial and Telecommunication Services companies had the highest percentage (9.0 percent and 8.4 percent, respectively).
Over the years, committee member meeting fees have been replaced with committee member retainers. Committee member retainers made up the highest percentage of total cash compensation among small, non-financial companies, making up 15.5 percent of total cash for the < $500M revenue category. This percentage decreased as revenue increased, with committee member retainers making up just 5.4 percent of total cash compensation at the largest companies with revenues > $10B.
Among financial industry companies, committee member retainers made up approximately 6.0 percent to 8.0 percent of total cash among all asset categories except the largest scope. These large companies (assets > $100B) had committee member retainers totaling just 4.8 percent of the average cash mix. While committee member retainers made up around 5.0 percent to 7.0 percent of total cash compensation among most industry sectors, the percentage nearly tripled for companies in the Information Technology Industry, where the average cash mix consisted of 18.0 percent committee member retainers.
Board Retainer (Cash)
Among all companies studied, the median annual board cash retainer was $55,000. Annual board cash retainers are correlated with company size, increasing from a median of $40,000 to $100,000 by ascending revenue size and, $40,000 to $88,000 by ascending assets.
Board cash retainers are highest among the Materials and Utilities sectors (both had a median retainer of $75,000). Retainers are lowest among sectors that place the greatest emphasis on equity compensation such as Health Care and Information Technology.