The Expanded Role of the Committee

Part 1. Committee Processes

Yesterday’s compensation committees are, in many cases, today’s human resources or human capital committees. Many companies have expanded the charter of the compensation committee beyond compensation. The most common expansion of responsibilities is in the following areas:

• Leadership development and succession planning
• Inclusion / diversity / equity
• Culture

In an analysis of the 100 largest public U.S. companies by revenue, we found that 59% of committees were named simply the “compensation committee” in 2014, while this decreased to 35% of committees by 2023 as committee titles began to change and expand with their purview.

Many compensation committees now have names that reflect their expanded responsibilities, with “management development,” “human resources,” and “talent” being commonly included terms, as illustrated in the chart below:

Other areas of oversight that may be included in the compensation committee name include “succession,” “benefits,” “inclusion,” and “culture.”

Leadership Development and Succession Planning

It is still a mixed practice across Boards over whether leadership development and succession planning falls to the full Board or whether it is delegated to a committee of the board. The case for managing these activities at the committee level is that it is a time-consuming effort, particularly since it expands beyond CEO succession and typically covers succession and development planning for all leaders on the executive management team. With multiple business units and C-suite functions (e.g., Finance, Legal, Human Resources, Information Technology, Risk, Strategy, etc.), a company may find that it is too much for the full Board to address in a comprehensive way.

CEO Succession

The most critical decision for the committee in terms of succession planning is to identify potential successors to the CEO. This can be a somewhat complicated aspect of succession planning as the committee typically looks to the current CEO for insight on the readiness of potential successors within the organization to take on the role of CEO. Part of what the committee expects from the CEO is to work to train their potential replacement(s), even when the CEO has no intention of leaving the role. While it may be tempting to not push the CEO on this topic, it is a critical effort for the committee, since they will be exposed if they do not have a potential successor ready in the event that something happens to the CEO. There have been well publicized cases of CEOs that have either suddenly died on the job or been removed suddenly due to inappropriate behavior. In circumstances such as these, committees that have a plan for CEO succession are much better prepared.

We advise having two approaches for CEO succession: 1) an emergency plan in case of a sudden CEO departure due to death, illness, failure to perform, or inappropriate behavior and 2) a long-term succession plan that is based on the identification and development of internal candidates for the role, with ultimate selection of the successor in the six to nine months before the CEO retires.

The emergency succession plan will typically identify an interim CEO who can serve in the role for a brief period (e.g., six to nine months) to allow the committee more time to identify a permanent replacement. The interim CEO is often either a member of the management team (e.g., CFO, Executive Chair) or a member of the board (e.g., lead director, non-executive chair, board member). While the interim CEO is serving, the committee will likely conduct a search for the new CEO, typically considering both external and internal candidates.

The second approach, long-term succession planning for the CEO, typically involves the following:

• Define the criteria (e.g., personality characteristics, capabilities and experiences) that are viewed as critical to the CEO role
• Identify the members of the executive team that are viewed as potential successors to the CEO
• Assess the candidates against the CEO criteria, and identify areas of strength and gaps
• Develop plans to close the candidate’s gaps against the CEO succession criteria

When the Board and the CEO come to an agreement on the timing of the CEO’s departure, the committee can recommend to the Board who the preferred candidate is based on their assessment of the different internal candidates.

Other Members of the Executive Team

To manage committee agendas, we often see one or two divisions or functions of the organization present to the committee on leadership development and succession planning at each of its meetings over the course of the year. Alternatively, there are some committees that will review this topic for all functional areas at a single meeting where leadership development and succession planning are the sole focuses of the agenda.

Presentations by business unit and functional leaders serve multiple purposes. First, the presentations help the committee understand any potential disruptions from unplanned turnover and what steps are being taken to mitigate risks. Succession planning presentations typically show organization charts with the leader of the function and their direct reports, and an assessment of incumbent readiness for new responsibilities.

In the example below, there are two potential successors the role of Chief Financial Officer (CFO): the Head of Finance, Digital Group and the Treasurer. Each potential successor’s readiness is assessed. If no internal candidates are available, the company might indicate that the successor will be an external hire or that the role will be distributed among team members and not filled. The presentation will show at least one level down or more so that the committee understands the impact that a CFO transition might have and the potential talent needs in the broader finance function.

Succession planning presentations serve a secondary purpose. By acquainting the compensation committee with different company leaders, they enable an understanding of current talent, and opportunities for development and improvement. The leaders will typically share their views on the performance and potential of members on their leadership teams and indicate to the committee where changes may occur in the future (e.g., retirement, expected turnover) and what plans are in place to address the changes, including developing talent or hiring to ensure coverage for critical functions.

Human Capital Management Disclosure

Effective November 2020, the Securities and Exchange Commission (SEC) issued final rules that required companies to significantly expand their human capital management disclosure using a principles-based approach. Relatively few aspects of the rule are prescriptive, giving companies wide latitude to tailor disclosure. The final rules amended Regulation S-K Item 101(c) to include a description of a registrant’s human capital resources to the extent the disclosure is material to an understanding of the entire business, except that, if the information is material to a particular reportable segment, that segment should be identified. Specifically, the amended text reads:

A description of the registrant’s human capital sources, including the number of persons employed by the registrant, and any human capital measures or objectives that the registrant focuses on in managing the business (such as, depending on the nature of the registration’s business and workforce, measures or objectives that address the development, attraction and retention of personnel).

The SEC is considering changes to the requirements for HCM that may make the disclosures more prescriptive vs. the current principles-based disclosure. This will be an area to monitor over the coming years. These disclosures are typically the responsibility of management, although we find that in most cases, the Committee reviews the disclosures in advance of inclusion on the 10-K.