The Payday for Big-Pay Consultants Fair Game - CIO Tday - Gretchen Morgenstern, June 26, 2008

DW - This article includes quotes from fellow ECE member James Reda

The Payday for Big-Pay Consultants Fair Game

By Gretchen Morgenson

June 26, 2008 7:17AM http://www.cio-today.com/story.xhtml?story_id=12200C1X20VY&page=1

Disclosing compensation design fees would
mirror the tabular disclosure forced upon companies' auditing firms via
the Sarbanes-Oxley Act. Before that disclosure was required, accounting
firms were in a similarly conflicted position, often generating
substantially more revenue from tax and IT services than from corporate
audits.

The credit crisis, rising oil prices and the economy may dominate
headlines, but excessive executive pay still makes shareholders boil.

With the proxy season pretty much over -- and with John McCain and
Barack Obama both making compensation a campaign issue -- let's see
where investors stand in the battle to rein in outsized pay.

The progress, alas, has been minimal.

Even as the stock market flags and credit losses mount, executive pay
marches higher. Ousted chief executives also continue to reap rich
going-away gifts.

Martin Sullivan, lately deposed as chief executive of AIG, may
receive $68 million in severance as he makes his way out the door,
according to the Corporate Library, a governance research firm. Never
mind that his shareholders lost 41 percent of their market value since
he took over the company in March 2005.

This year, investors concerned about pay practices concentrated
their efforts on trying to have shareholders become more involved in
the process. About 100 "say on pay" proposals made it into proxy
statements. And McCain jumped on that bandwagon in a speech on June 10,
stating that shareholders should approve all aspects of a chief
executive's pay package.

But asking ain't the same as getting. Less than 10 percent of the
proposals won majority support at shareholder meetings this year.

Companies urged investors to reject them, typically arguing that they
would give outsiders too much sway in boardroom decisions. Judging by
this season's votes, more than a few investors are siding with
management.

Perhaps a more modest approach to runaway pay is in order --
like attacking potential conflicts of interest among compensation
consultants who design the lucrative packages.

Compensation consultant biases can arise when a company's board
uses the same consulting firm for pay design as well as other services
such as human resources management and outsourcing advice. Because the
fees earned by consultants for compensation work are far
less than what they make on other business, there is a risk that
compensation gurus will put together cushy pay packages in order to
snare more lucrative gigs elsewhere in the corporate empire.

Here's an easy fix: Require companies to detail in proxy statements all
fees paid to consultants they hire, for compensation design and all
other services.

When the Securities and Exchange Commission rewrote the laws
on executive compensation disclosure last year, it didn't require
public companies to detail consultants' fees. This was a mystifying
mistake.

Disclosing compensation design fees and other revenues earned
by the same consulting firm would mirror the tabular disclosure forced
upon companies' auditing firms via the Sarbanes-Oxley Act. Before that
disclosure was required, accounting firms were in a similarly
conflicted position, often generating substantially more revenue from
tax and information technology services than from corporate audits.

This put them in the position of possibly giving short shrift to
audits to protect their other, more lucrative lines of business.

The disclosure worked. It essentially allowed investors to determine where auditor conflicts might lie.

The CFA Institute's Centre for Financial Market Integrity, part of a
nonprofit association of more than 92,000 financial analysts, portfolio
managers and other investment professionals, has asked that the SEC
revisit the rule changes. One improvement that the center's officials
have sought is the disclosure of fees earned by consultants.

"Such disclosures will allow shareowners to determine whether
the board's consultants are sufficiently independent from senior
management with regard to executive compensation advice," wrote Kurt
Schacht, managing director at the center, in a late December letter to
the SEC.

But under the new pay rules, companies only have to identify
their consultants; beyond that, they aren't required to provide any
more information about their compensation architects. While many say
the firms in their employ have no biases, investors have no way to
verify such claims.

A congressional inquiry suggests that some verification is needed.

In hearings last December, Representative Henry Waxman, Democrat
of California, who chairs the House Committee on Oversight and
Government Reform, found that 113 of the 250 largest U.S. companies
paid the same firm to provide compensation consulting and other
services to the company in 2006, creating the potential for conflicts.

Yet 26 percent of those companies also identified their compensation consultant in SEC filings as "independent."

That is precisely why a fee table would come in handy.

The potential for conflicts is greatest at large consulting
firms that offer an array of services. These include Towers Perrin,
Hewitt Associates, Watson Wyatt and Mercer Human Resources Consulting,
a unit of Marsh & McLennan. All the firms say they manage their
operations to ensure that conflicts don't arise.

Happily, roughly half of the companies in the Standard & Poor's 500
have significantly changed the way they hire their consultants and have
largely eliminated biases, said James Reda, a compensation consultant
in New York whose firm does only pay design. Still, that leaves a good
number of companies with potential conflicts.

Instead of supporting fee disclosure, Reda said that consulting
firms interested in more billable hours would be more likely to urge
their clients to institute "say on pay" plans. Working closely with
shareholders to gain their input on pay programs could easily increase
consultants' revenues by 30 percent, Reda estimated.

First, the consulting firm would have to devise a summary of the
company's compensation philosophy, he said. Then it would presumably
have to help the company sell the program to its investors, making
changes as it encountered objections. All this would have to be done
before the proxy went out ahead of the annual shareholders' meeting.

Far simpler to disclose consultants' fees, Reda said, a job that might take all of 20 hours to complete.

"We don't need more regulation," he said. "What we need is disclosure of the independence of the process."

Agreed.