This article provides a synthesis of academic research on director compensation, the ultimate purpose being the identification of practices that are measurably linked with value creation. From a methodological perspective, mapping director compensation into firm performance is extremely difficult as there are many other aspects of governance and management that ultimately affect firm performance. The article focuses on specific components or aspects of director compensation. What is deemed to be the ‘Best’ practice in director compensation evolves over time. In parallel, the popularity of stock options as a compensation strategy for corporate directors has waned, with full-value equity unit grants (typically with vesting and ownership conditions) emerging as the preferred approach. Similarly, while earlier findings show stock option grants as a director compensation tool to be value enhancing, more recent findings revisit the issue and mostly support the use of full-value unit equity-based compensation. Overall, it appears that equity-based compensation for directors translates into value creation by enhancing directors’ monitoring focus. However, its effectiveness is conditional upon a firm's context, with greater improvements in performance being observed when firms start from a weak governance base. Moreover, there are several ethical dimensions, which must be addressed in the elaboration of any director compensation strategy. The article concludes with some additional observations and some recommendations useful to practitioners and that may guide academic research as well:
Director compensation must be high enough to attract high-caliber individuals and to reward them for their responsibilities, but not so high as to potentially impair their objectivity, judgment and independence.
Director compensation must be set in a transparent and objective way, with clear benchmarks that reflect the most plausible talent markets.
A significant proportion of director compensation must be ‘locked in’ for the long term (5–10 years).
Director compensation must not be based upon the attainment of short-term objectives or goals, but rather based on the long-term success of the organisation predominantly while not encouraging excessive risk taking.
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The purpose of this article is not to review the role of boards of directors but rather to investigate the impact of their commonly accepted responsibilities on compensation strategies. For reviews on the role of boards of directors, refer to Keasey et al (2005); Leblanc and Gillies (2005); Solomon (2007); and Monks and Minow (2008).
There is also an alternative, or more comprehensive, view of directors’ role. More specifically, directors may also be perceived to be responsible toward the firm itself. In that regard, directors’ key responsibility is to manage tensions between stakeholders (clients, suppliers, employees, shareholders and debt holders) that may undermine the firm's future. In other words, the board is at the nexus of political or power bargaining between firm stakeholders (for example, Leighton and Thain, 1997). Such a stakeholder approach to board governance is also consistent with some legal precedents, such as the BCE case (see Tory and Cameron, 2009).
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We thank the Institute for the Governance of Public and Private Organizations (HEC-Concordia) for its financial support.
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Magnan, M., St-Onge, S. & Gélinas, P. Director compensation and firm value: A research synthesis. Int J Discl Gov 7, 28–41 (2010). https://doi.org/10.1057/jdg.2009.13
- board of directors’ compensation
- literature review
- incentive plans
- stock options