While changes in the board of directors for an organization can bring new perspectives and ideas, they can also create significant challenges for the CEO as he or she tries to determine what is expected under changing board leadership. Greater scrutiny by legislators and company stakeholders are causing board members to carefully reexamine their responsibilities, including the process by which they evaluate the performance, compensation and rewards of the company CEO.
Establishing criteria and a consistent process by which the board will evaluate (and potentially reward) the CEO will promote better alignment between board directives and CEO efforts, reduce risk to the organization and to board members, eliminate the possibility of “double dipping” with the reward system, and ensure consistency with process regardless of who is serving on the board.
It is imperative that the board establish a process to define the criteria on which the CEO will be evaluated and then align that criteria with the reward system. As simple as it seems, many boards fail to define the criteria by which CEO performance will be evaluated. An important consideration is to have a results-oriented job description for the CEO that can be used to facilitate the evaluation. Performance criteria can include criteria to evaluate day-to-day results, behavioral competencies and/or objectives.
Day-to-day results are when a CEO is evaluated based on job responsibilities or accountabilities, which should be documented within the job description. If the board wants to hold the CEO accountable for the performance of day-to-day responsibilities, it’s important to use a results-oriented job description. The job description should not represent a list of tasks and duties, but major accountabilities that must be performed to fulfill the CEO role. A job description must also comply with the Americans with Disabilities Act requirements.
Behavioral competencies are the “hows” of a job. This gives the board an opportunity to hold the CEO accountable for demonstrating the core values that support the goals of the organization. Behavioral competencies may include such areas as leadership, ethics, communication and relationship with the board. In order to help the CEO maintain focus, there should be no more than four or five behavioral competencies expected. They should include the behaviors that are most critical to achieving the results set forth by the board, as well as those behaviors that are reflective of the desired values and culture. Additionally, the competencies need to be clearly defined. For example, a leadership competency would state that a CEO acts as a role model for employees to follow by demonstrating integrity and character.
Objectives as performance criteria can be broken down into several sub-categories, such as developmental objectives and special objectives. Developmental objectives involve the acquisition or honing of knowledge, skills and abilities to enhance the CEO’s job performance. Special objectives involve the outcomes or results that are related to, but should be over and above, the CEO’s day-to-day job. Often these are strategic objectives that must be achieved in order to improve or maintain the viability of the organization.
When aligning criteria with the reward system, the board selects criteria used to evaluate CEO performance. This is only part of the alignment process. The board must also review the various reward systems that are available to determine which criteria will be linked to which reward system. For example, a competitive level of base pay may be provided in exchange for executing day-to-day results and demonstrating the desired behavioral competencies.
If additional compensation is provided in the form of an incentive or bonus, it may be tied to the achievement of key strategic goals (or special objectives). Without this type of clarity, the CEO may be confused about what results are linked to each reward system. Also, the board then runs the risk of “double dipping” by providing additional compensation for the same results.
There are three steps in the CEO review process—the performance review, salary review and incentive or bonus award review. The board should determine which individuals will provide input for the CEO’s review. A 360-degree evaluation provides a broad view of the CEO’s performance when input is gathered from all board members and direct reports of the CEO. Some organizations gather feedback from the CEO’s indirect reports as well.
Use a form reflecting the CEO’s performance criteria to collect feedback. This should be a reflection of the performance criteria selected. Technology provides access to web-based instruments that can be customized to incorporate selected criteria. Board members can rate the CEO according to the desired criteria but should also provide supporting comments for their ratings.
The board determines who will be responsible for compiling and analyzing the evaluation results. Many organizations use a consultant so that individual confidentiality is maintained and only aggregate results are reported.
Determining a competitive level of compensation is an important part of the salary review process whether or not the results of the CEO’s performance review impacts a salary increase decision. A market study of comparable organizations should be conducted at least bi-annually to assure the CEO’s total cash compensation level remains competitive. The definition of “comparable organizations” will vary depending upon the board’s definition of the competitive market. Salary surveys can be purchased or an outside consultant can be retained to conduct the data research and analysis.
Determining the appropriate bonus or incentive award becomes an efficient process if all parties involved understand the expectations associated with base pay and “extra pay.” If the incentive or bonus is intended to reward the CEO for organizational success, it’s imperative that the board establish and clearly communicate the results that must be achieved in order to earn the additional compensation. The board needs to stress that these results are distinct from or over and above base pay expectations.
There should be a written document that outlines the provisions of the bonus or incentive plan. In addition to defining the performance criteria on which the award will be based, the document should address key issues such as termination and/or retirement and give examples of payout with language specifying that the bonus or incentive plan is not a contract of employment.
An established timeline that can be followed each year will outline each step in the process. It will include target dates for completion of the evaluation and responsibility assignments. This provides a common framework for board members as well as the CEO. The timeline can reduce the anxiety that board members and CEOs often experience around the performance and salary review process.
By creating a written results-oriented job description and adhering to a structured review process, the board will be on the road to making the CEO review process much smoother. iBi
Maureen Driscoll is the managing director of the Human Capital Consulting practice. She specializes in the design and implementation of a broad range of compensation and human capital management programs.
