How NOT to Run a Compensation Committee

Multi-partner firms use 4 systems to allocate partner income: (1) Compensation Committee, (2) Formula (aka “eat what you kill”), (3) Paper and Pencil and (4) MP decides.

This missive focuses on the Compensation Committee, which is a group of elected partners entrusted to fairly and impartially allocate partner income based on performance.  For comp committees to work, the partners must have total trust in the judges.   If they don’t, the system will fail.

The operation of a comp committee is a challenge to many first time users.   Here are three no-nos:

Comp committee decisions driven by a formula.  The beauty of the comp committee model is that it gets firms away from the numerous flaws of eat-what-you-kill systems, thus enabling them to recognize intangible performance attributes such as mentoring staff, management and teamwork.  It’s understandable how numbers-oriented accountants are irresistibly drawn to formulas.  But comp committees must resist this magnetic attraction to formulas because as the firm continues to grow and evolve, the vagaries of formulas come to roost with increasing frequency.

The comp committee functions mostly as a ceremonial body and fails to lead.  The committee cowers from their mandate to use their good judgment and instead, allows decisions to be driven by a formula, paper and pencil exercise or even a pay-equal mentality.  In this way, the committee takes the easy way out by simply blessing other compensation methods instead of seizing the opportunity to lead.

Failure to communicate.  Two potential flaws of the comp committee model are: (1) the partners don’t understand how their pay is determined and (2) the committee takes on the image of a smoke-filled back room to the other partners – a secret gathering of power brokers making unfair or self-serving decisions.  One technique solves both problems – communication.  Tons of it.  At the beginning of the year, the committee should communicate to each partner what is expected of them and what they can do to earn more money.  At the end of the year, when final comp numbers are given out, the committee should explain to each partner how their numbers were determined, what they did that led to higher pay and what held them back.

Our Monograph How To Operate A Compensation Committee contains 109 pages of detailed step-by-step guidance, checklists and examples.