02/06/2013 12:39 pm ET Updated Apr 08, 2013

Groundhog Day: The Cloudy Paradox in the Executive Suite -- Compensation and Ethics

By Jim Finkelstein with Thomas Brown and Ben Teichman, FutureSense, Inc. The ideas in this post were originally published in an article for the Governance Institute's BoardRoom Press December 2012 Volume

February 2 was Groundhog Day. Punxsutawney Phil, the prognosticator of prognosticators, once again emerged from his hole to predict the coming of spring. As legend has it, cloudy means an early spring; a shadow, a longer winter. It's a good story, one made into a movie about Phil, played by Bill Murray, a television weatherman who relives the same day over and over again. Eventually, learning certain life lessons, his perspective changes, and his life goes on.

Altered states of thinking don't just apply in the movies and in folklore. Another wise man, Albert Einstein once said, "The world as we have created it is a process of our thinking. It cannot be changed without changing our thinking." Phil and Albert have something in common.

This applies equally well in the business world. Take, for instance, the upcoming proxy season. Annual proxies have been sent to stockholders for review and approval. Disapproval seems to be a more common theme relative to executive compensation. Unlike the legend of Phil and the coming of spring, the cloudy business landscape means continued noise around compensation packages and the perceived ineffectiveness of corporate governance. It appears we haven't learned our lesson regarding compensation, and therefore, we are destined to relive the same day.

What does that day look like? Most organizations utilize market data from surveys of similar "benchmark" companies to align compensation levels. The individual components are then negotiated within the boundaries of the organization's existing salary and benefit programs.

Is there a better way? Is the executive's value "scientifically" justified simply because two parties reached a mutual agreement? As directors evaluate their executive programs, it is imperative they ask the question, "Is the total compensation package morally or ethically correct?"

Beyond Compliance: Ethics and a New Way of Thinking
Ethics is "that branch of philosophy dealing with values relating to human conduct, with respect to the rightness and wrongness of certain actions," according to Dictionary.Com. Compensation programs purportedly are designed to motivate actions, reinforce behaviors and reward end results consistent with the overall purpose and goals of an organization. To have effective executive compensation programs, they must be aligned with the ethics of the organization. Unfortunately, this discussion is missing in many of today's boardrooms.

There are logical steps to gain new perspective. First, we need to move beyond the world of "CYA" and compliance. Certainly, Sarbanes-Oxley (SOX), Dodd-Frank and "say-on-pay" are important. Is that the end game? I don't think so. Executives have the opportunity to go beyond their personal liability to truly embrace the mission of the organization regardless of their personal gain. And finally, they can find a place where their values are aligned with those of the organization and inspire employees, leaders, other businesses and the broader community. This passion can yield superb productivity and pay dividends in retaining and motivating staff. Boards should consider leaders' potential to inspire as they design total compensation packages.

Much like Phil and his desire to enter a new phase of life, corporate boards have begun to resist the scientific method and incorporate intangible and subjective elements into their executive hiring and evaluation practices. For example, organizations look beyond profitability and stock value and instead focus on the inherent values of the executive and their ability to inspire employees, the organization as an entity and the broader community.

February 3: A New Day
How do we get to a new day? Phil's change in mindset centered on his caring for others. In the business world, each organization has a different set of values that can propel them to new ways of conducting business. In fact, research shows that values inherently identified by leaders within an organization are directly related to their decision choices. An ethics-based framework can provide directors with a new methodology to govern their decision processes around compensation of their leaders.

Step 1: Determine the values of a prospective leader by using an ethics self-assessment. This is the key to ensuring that organizational and leadership values align.
Step 2: Prioritize the ethical principles from Step 1 that are most relevant to the compensation level and actions of the executive.
Step 3: Develop an action plan to ensure the ethical priorities are considered in establishing total compensation levels of executives. Incorporate a step in the hiring process that addresses the values of the executive.
Step 4: Implement the action plan, making sure executives understand the value set of the organization and how their compensation levels relate to those values.
Step 5: Evaluate the progress of the executive in implementing the values. Ensure directors continue to monitor executive accountability and ensure that decisions are consistent with corporate values.

Whether considering Phil, Einstein or your own board, reaching a new day means taking a different approach to the normally "cloudy" process of establishing executive compensation packages. If we do so, our future can be bright and sunny without the chill stakeholder disapproval.

Jim Finkelstein is the President and CEO of FutureSense, Inc. Thomas Brown is a senior consultant and Ben Teichman a consultant at FutureSense. They are thought leaders on transforming organizations and people in the workplace through appropriate rewards, development and engagement. @futuresense (Twitter) (website).