Private companies. No longer able to afford the informal corporate governance practices of the past, private companies are under increasing pressure to implement or improve board oversight. These companies are embracing public-company governance, including formation of boards that include outside directors and standard committees. This movement has also affected family businesses, particularly as shareholders of family-run companies have become less concentrated with each passing generation.
The bar has thus been rising for private company governance, despite the fact that requirements imposed by various governing bodies apply only to public companies. In today’s business environment, the talent pool is becoming more homogeneous as executives and directors move freely between organizations that are small and large, and public and private.
We have estimated total director pay levels for private companies of various sizes, based on our consulting experience as well as our Russell 3000 study of director pay programs at public companies. Among all revenue categories, more than 50 percent of total pay was made up of equity. Using this data as a guide, we have estimated the total pay range for similarly sized private companies, as follows: - The low end of private company total pay range represents the cash portion of public company total pay for the applicable revenue category.
- The high end of private company pay range represents the cash portion of public company total pay, plus 30 percent of the equity portion for the applicable revenue category.
For example, the enclosed table shows that, among all Russell 3000 companies, total pay is $191,043, made up of 42 percent cash and 58 percent equity. Among similarly sized private companies, total compensation will range from $80,708 (the 42 percent cash portion of $191,043) to $113,809 (the 42 percent cash portion of $191,043 plus 30 percent of the remaining equity).
Thus, the resulting private company pay range equals 42 percent to 60 percent of public company pay for similarly sized companies. We have followed the same methodology to estimate total pay levels among private companies within each revenue category.
Private companies pay directors cash to the same extent as public companies of similar size, and in some cases more to make up for the lack of equity.
Based on our experience working with private companies, we believe that these ranges are a sound benchmark for how private companies of various sizes pay directors. In general, these companies pay cash to the same extent as public companies of similar size, and in some cases pay more cash to make up for the lack of equity awards (though still at a reduced rate, resulting in lower total pay).
Most public companies have some kind of executive equity program in place, and equity typically represents 50 percent to 75 percent of total pay for their senior executives. While more private companies are adopting long-term cash incentive plans, real equity awards (stock options or restricted stock) are used by a minority of private companies.
Overall, we estimate that less than 10 percent of private companies provide director equity awards, compared to 97 percent of public companies as mentioned previously. An exception to this is PE-owned companies.
Family-owned companies. Most family businesses benefit from a board that includes not only family members but also well-informed, seasoned, outside directors. These independents bring outside knowledge, leadership development skills and accountability. Leadership development is particularly important as there must be a management succession plan that includes family and non-family members, if necessary.
In 2016, Gallagher’s research team set out to understand exactly how much outside directors of family-owned companies are paid by conducting phone and electronic mail inquiries to a number of large family-held business. The outreach was successful, with nineteen companies responding. These companies spanned various industries, including retail, food processing, consumer products and general manufacturing. The median revenue of these nineteen companies was $6.9 billion.
Outside directors of family-owned companies are paid similarly to directors of other private companies, with a focus on cash and little to no equity.
Twelve of the nineteen companies (63 percent) had family members that were also senior members of the management team serving on the board. In line with common practices for all types of companies, these family members received no compensation for board service.
We found that outside directors of family-owned companies are paid similarly to directors of other private companies, with a focus on cash and little to no equity awards. Some major findings: - The median annual cash retainer was $75,000. Median annual total compensation was $100,250. Only 11 percent of companies used equity as part of their director pay package.
- Forty-two percent of companies paid a lead director premium.
- Forty-seven percent paid their committee chairs a leadership premium.
- Forty-two percent paid board meeting fees, with a range of $1,958 to $2,650 per meeting.
- Thirty-two percent paid committee meeting fees with a range of $1,531 to $2,294 per committee meeting.
Like non-family-owned private companies, cash levels are similar to what we would expect to see among public companies. In fact, our Russell 3000 study found that public companies with revenues ranging from $3 to $9.9 billion also had a median cash retainer of $75,000.
Consistent with expectations, the lack of equity awards (present at only 11 percent of our family-owned company sample) creates a large disparity in total pay compared to the same group of Russell 3000 companies ($3 to $9.9 billion in revenue). The median compensation among public companies was $227,005 (consisting of 57 percent equity and 43 percent cash). This is 126 percent higher than the $100,250 seen among the family-owned sample.
This difference is due to the equity award. If we were to extricate only the 43 percent cash portion of $227,005, the resulting $98,000 (inclusive of cash retainer and committee member fees) is right in line with the total of $100,250 at family-owned companies. As discussed previously, this is one way that private companies, family-owned or not, set director pay—by stripping out the equity portion of comparable public company pay.
Private equity owned or sponsored companies. PE-owned companies invest in strong board governance early on in pursuit of significant growth. A top-down agenda set by the private equity fund generally drives the board’s focus, with an overall goal of progress toward a liquidity event, such as an initial public offering or M&A event.
The directors of PE-owned companies are mainly focused on strategies to increase investor value, with a much shorter time horizon than directors of private or public companies. Accordingly, these PE-owned boards are more deeply entrenched with company management, and in most cases meet more frequently than other company boards.
Beyond employee directors, there are two types of directors that will typically serve on these boards: outside directors, and employees of the private equity firm, which we refer to as “PE principals.”
Outside directors. Outsiders are often introduced to the board by the private equity firm that owns the portfolio company. Bringing in a director with no affiliation to the company or PE firm is most often made with the goal of gaining the benefit of that person’s specific qualifications and expertise.
These outside directors are generally paid by the PE fund owner, and pay is similar to publicly traded company directors. Unlike other private companies, where the focus is on cash, these outside directors generally receive a mix of both cash and equity compensation. In many cases, the focus is on equity.
PE principals. Private equity firms exercise control over portfolio companies through their representation on the companies’ boards. These PE principal directors have a strong sense of personal ownership that is ensured by the compensation arrangements (particularly in the form of “carried interest”) of their firms.
PE principals are either paid nothing, or the same as the outside directors. In the latter arrangement, they are getting paid by both the portfolio company to be a director and by the private equity firm as an employee, which can result in excessive payment levels. For this reason, these “double pay” arrangements have sometimes caused controversy.
In summary, there are real differences in director pay between public and private companies, with the exception of private-equity controlled companies that tend to pay the same as public company counterparts.
Similar to executive pay, director pay trends continue to “trickle down” from public companies to private companies. With evolving standards and further integration of the director talent pool, we expect that private companies will continue adopting the cash-based pay practices of public companies. For all companies, governance improvements are focused on strengthening the role and responsibilities of the board of directors, and an appropriate director pay plan is a key factor to consider.