Nonprofit Musings

This is getting to be fun!

For a new twist on how nonprofits can mess up compensation communications, check out this Boston Herald story about CEO pay at the Rose Kennedy Greenway Conservancy:  E-Mail Puts Greenway on Hot Seat.

To quote Rick Perry, oops. . . .

Mistakes Trustees Make

In my many years of advising boards on nonprofit executive compensation, almost all trustees have acted intelligently and responsibly on executive compensation matters.  When they don't, they usually fail in one of two ways.

The first and potentially most detrimental is the failure to dig deeply when early signs of excess spending or compensation begin to appear.  Think of the United Way fiasco years ago, when a chummy board failed to question Bill Aramony's high compensation and exorbitant personal expenses, charged as business expenses to the organization.  Other examples are the Smithsonian Institution under Larry Small and American University when Ben Ladner was President.

In all of these cases, the failure of trustees to inquire, get details, and act swiftly and decisivley caused significant and damaging publicity.  In all cases, the organizations were led by effective, experienced executives whose leadership was respected and often praised.  So trustees were reluctant to ask questions that should have been raised.  Thus, in one respect, these disasters were as much the result of poor trustee oversight as of executive misconduct and greed.  

The second problem is the obverse of the first:  sometimes, trustees with a personal bias based on their own compensation experiences push too hard to convince the organization to see things their way. Often this involves the level of pay.   For example, the compensation chair of one of my former clients, a former district court judge, did not want any of the organization's executives to earn more than he had earned as a judge, even though peer data justified much higher levels for the CEO and other key officers.  And I've also had clients where board members managing hedge funds are all too willing to push for pay levels well above what is appropriate for nonprofits.  Trustees should leave their personal pay history outside the boardroom, and focus on market values for similar organizations in the sector.  

So my advice here is mixed:  pay attention and dig closely into what's going if something doesn't look right; at the same time, don't let your personal compensation experiences or biases drive decisions that should be made based on recommendations from management.  Or, in President Reagan's words, trust but verify.

 

 

A Thoughtful Report on Executive Pay from a Public Servant

Spurred by controversy over the high compensation for the CEO of AltaMed Health Services Corporation, the Mayor of Los Angeles asked Wendy Wantanabe, LA County's Auditor-Controller, to review and report on AltaMed's executive pay.  

The result is a remarkably thoughtful and balanced report, useful not only in this specific situation but also to regulators considering issues of possible executive compensation in nonprofits.  The report is attached here:  Download LA Auditor Report on AltaMed.

What is exceptional about this report is that it doesn't fall prey to the typical outcries about high executive pay.  In fact, it doesn't draw a conclusion one way or the other about AltaMed's pay (although my reading of the report suggests that the CEO's pay may well have been unreasonable).  Instead, the report describes a wide range of issues concerning both setting and evaluating pay levels; it delineates various existing methods of controlling executive pay, including the IRS interediate sanctions; and it presents a thoughtful set of recommendations for dealing with these issues.

Ms. Wantanabe and her associates are to be congratulated for an excellent report.

 

Salary budgets are getting tighter. . .

Today's Chronicle of Philanthropy contains some interesting statistics on planned salary increases in Northern California nonprofits (go here):  41% of over 300 organizations surveyed say that they are not planning to increase their salary budgets this year.  The article doesn't identify the size of the reporting organizations -- it's possible that the sample includes a number of smaller, struggling organizations, and my clients generally are budgeting modest salary increases (generally 2% to 3%), not freezing pay.  But this report is yet another indication of how very difficult this economy has been for the nonprofit sector.

Compensation issues heat up

The expected move by the Massachusetts State Legisltature to prohibit nonprofits from paying director fees without the Attorney General's approval is worrisome.  Compensation is a complex issue and simplistic regulations aren't going to help.  A good summary of the Massachusetts situation is here.

In another example of legislative ineptness, the State of New York has failed to provide any salary increases to its judges for the past twelve years.  Yes, twelve years.  A new commission has been formed to resolve this problem.  My commentary on this is attached here:   Download New York Commission Letter.  

Finally, for the Humane Society's response to undeserved criticism concerning pay and benefits, click here:  Humane Watch Blog.  It's so easy to take pot shots about compensation; it's nice to see a thoughtful and well-researched rebuttal.  

Blue Cross Suspends Directors' Pay

Blue Cross Blue Shield of Massachusetts' Board announced today that they were suspending Directors' paying pending discussions with the state attorney general's office and and evaluation of whether such payments should continue in the future.  (See the article here: Insurer's Board Suspends Own Pay).  

This unprecedented move certainly reflects the times:  pressure on top official's pay is evident everywhere, including the nonprofit sector.  Non-management directors of Blue Cross Blue Shield, many of whom have lucrative compensation from their regular jobs, earned $11,400 to just under $90,000 in board fees last year. Futher, their board has recently come under fire for large severance payments to their outgoing CEO.

Admittedly, few nonprofits pay any board remuneration.  Nevertheless, Blue Cross Blue Shield of Massachusetts is a $7 billion organization with highly complex operations involving substantial risks and liabilities.  There is no doubt that such an organization can benefit substantially from aboard of highly experienced invididuals, knowledgeable in the management of large organizations, in health care, and in areas such as risk and financial management.  

Can such a board be formed fully from unpaid volunteers?  Given the responsibilities and time requirements, it's difficult to imagine that any seasoned executive or professional would want to join this board as a volunteer.  Accordingly, I don't think that it has been unreasonable for Blue Cross and similar health care nonprofits across the country, such as Kaiser Permanente, to have been compensating its directors, especially since the compensation levels reported are less than that of similarly-sized for-profit companies.  

But then again, what about other large health care providers that have been able to find competent volunteer boards.  I chaired the board of the National Rehabilitation Hospital in Washington, D.C. (NRH), a large complex organization, and I did so with no compensation.  The board of MedStar Corporation, an even larger nonprofit that owns a number of hosptials including NRH, also serves for free.  

What about colleges and universities, where trustees almost always earn no compensation?  They are large complex organizations and they also benefit from experienced business and professional trustees. Or major metropolitan YMCA's, with diverse widespread operations and significant risks to manage, where no trustees earn compensation?  Or public radio stations?

So this becomes a complicated question, a significant part of which is whether health care providers should be nonprofit organizations in the first place.  But it is unfair to criticize the Massachusetts Blue Cross Blue Shield Directors for accepting fees in the past.  Instead, we should thank this board for having the wisdom to suspend fees while the issue is being debated, publicly and with the appropriate government officials, and hope that the resolution will clarify things for everyone.

 

Optics and compensation: dealing with controversial pay

Dealing with high executive pay can be a difficult issue for nonprofit boards.  I have had a number of clients where potential public criticism of a justifiable level of executive director pay has caused a good deal of strife for the board or its compensation committee.  

There is no problem if the executive director's pay is well within the range of typical levels reported in surveys such as those published by Charity Navigator or GuideStar.  But when your executive director makes substantially more than the survey averages, the potential for negative publicity is high.

The order in which your board thinks about this issue is important.  If the focus is entirely on the "optics" -- the potential for negative publicity -- the board could decide to limit or reduce pay unfairly.  If optics are ignored, the board could end up highly embarrassed.

The first thing to do, then, is to determine what is right.  Many times, there are good reasons for paying above what an organization's peers typically pay.  These reasons can include the relative difficulty of the position in question, the experience and unique skills of the executive director, low compensation in prior years, etc.  If the board determines there are valid reasons to pay above market, then the right thing to do is to pay above market.  

Unless doing so will harm the organization.  Many of my clients either froze or reduced their executive director's pay during the recent recession even though their particular circumstances would have easily justified an increase.  Other clients, such as one dealing with global poverty, purposely set their executive's compensation somehwat below market, recognizing that anything resembling high pay is inconsistent with their mission, and that donations could suffer as a result.

My final advice is to have a defined communication plan ready, should the press call.  If you have good reasons for paying what you pay, it should be easy to develop a set of talking points that a designated board spokesperson can use to convince reasonable people that the pay in question is reasonable.  

So the steps to avoid embarrassment are:

   1.  Assess the market and determine competitive rates for the position.

   2.  Considering performance, tenure, capabilities, and other factors, determine whether the executive should be paid below, at, or above the median compensation of appropriate peer groups.

   3.  Consider whether the agreed-to pay level will create controversy in the press, with donors and funders, in Congress, or in the general public.

   4.  Evaluate the potential for any controversy to damage the organization.

   5.  Agree on the final pay level, and have a clear communication plan ready should controversy develop.

 

 

Praying for High Pay

Kudos to Senator Charles Grassley for his continuing scrutiny of potential abuses in nonprofit compensation.

The focus this time is televangelists and pastors of mega-churches.  There is no reason for tax exempt organizations of any kind to provide their leaders with expansive estates, luxury autos, and Gulfstream jets.  Acknowledging the difficulties of changing the tax regulations in ways that reign in these abuses without adversely affecting the millions of small organizations whose practices are not abusive, The Senator is supporting the efforts of a new "Commission on Accountability and Policy for Religious Organizations" whose remit is to provide the Senator with recommendations on improving governance in such organizations.  (For more information on the commission, go here:  ECFA Commission.)  

One of the most important recommendations this commission could make would be to require religious institutions to file annual IRS 990 forms on the same basis as all other nonprofit institutions.  For a number of these organizations, exposure of excessive pastoral pay and perks would do wonders in curing excesses.  

The commission has also been asked to look into whether "love offerings" should be considered taxable income (why the hell not?) and whether legislation is needed to curb excesses in clergy housing allowances.  The housing allowance issue will be tricky:  for every excessive pastoral mansion, there are thousands of religious leaders living on meager income and in spare housing, for whom added taxation would be an unfair burden.

Let's hope the commission takes its work as seriously and provides the Senator some strong and workable recommendations.  And let's hope the Senator and his staff keep the pressure on; the relatively few abuses of compensation and allowances among nonprofits hurt the whole sector, and the sooner we get televangelists out of their Bentleys, the better off we will all be.

Cautionary Tale about Executive Compensation

The Chronicle of Philanthropy has a good opinion piece from Kevin Scott this week concerning governance and process issues involving executive compensation at the Stevens Institute of Technology. Very useful advice. The link is here:  A Cautionary Tale for Nonprofit Boards.  

How much is too much? Assessing nonprofit executive pay.

 

High compensation for nonprofit leaders often creates a outcry for federal limits on nonprofit executive compensation.  The concern is understandable, but much that’s been written about this is off the mark.

Critics objecting to high levels of nonprofit compensation often hold one or more of the following views: 

1. Pay for leaders in nonprofits should be reasonable in terms of competitive levels for similar nonprofit executives,  and the expectations of donors and funders of charitable organizations.   As such, they should almost always be below those paid in the private sector.
2. Pay for nonprofit leaders should be less than some arbitrary standard, such as the salary of the President of the United States.
3. Nonprofit leaders should work primarily for the psychic income of fulfilling important missions; compensation should not be an important factor in recruiting or retaining leaders.
4. The world is full of competent leaders who would work in nonprofit positions for compensation that critics deem reasonable.

The article’s main theses are:

• Except for the first point above, with which I fully agree, most critics of high nonprofit compensation don’t have a good understanding of the dynamics of nonprofit leadership or of the pay required to attract and retain top talent.
• Setting an arbitrary standard to limit nonprofit executive compensation would be a mistake, with damaging unintended consequences.
• Existing controls – board oversight, the threat of fines and sanctions, and public review -- provide sufficient control of nonprofit compensation, even at the top.  But these controls could be strengthened.

This post will attempt to deal with these issues.  It's a long post, so you may want to read it in segments, or you can print a pdf version by going here.  

Managing Nonprofits Can Be Highly Complex

Imagine you are the CEO of a YMCA in a major metropolitan area.  You are responsible every day for hundreds of children in dozens of locations; you need to structure operations and supervision so that none of them are lost or injured or abducted or drowned.  This is in addition the normal responsibilities of ensuring financial health, raising funds, coordinating with city and state authorities, developing and motivating staff, etc.  Few for-profit positions have a similar level of complexity and risk.

The same can be said of presidents of universities, who must combine significant fund-raising expertise with sufficient diplomacy to influence diverse constituencies (faculty, students, alumnae, trustees) to uphold and improve educational excellence.  Ditto for hospital CEO’s, with their financial and regulatory imperatives and diverse constituencies.

Leaders of these organizations and many other types of nonprofits are responsible for much more than revenues and profits – they nurture individual growth and development, heal and comfort the sick, shelter the homeless, protect the battered, and in hundreds of other ways improve our communities.  Yes, almost all of them are willing to do this for less pay than their jobs would be worth in the private sector.  But that does not mean that their pay should be limited to some arbitrary number.

Good Leadership Makes a Difference

One thing I have noticed in my nonprofit work is that there are usually four to five organizations that are considered the leaders in each city’s nonprofit sector and that these leaders vary considerably by type of service provided.  In city A the top charities might include a foundation or museum, in city B it may include the Girl Scouts or an animal welfare charity, in city C it may include a hospital or a homeless shelter or a zoo.

Whether a cause or result of their success, these top charities almost always attract a high level of contributions.  Community leaders want to serve on their boards, where doing so is a badge of honor and acceptance.  These charities usually do a good job of measuring outcomes clearly; they have a strong track record of success; they are financially stable. 

These charities are not the community leaders just because of what they do – there are always equally worthy charities not in the leadership group.  Sometimes their leadership results from a significant economic windfall – the Marin Community Foundation comes to mind.  But almost always, somewhere during the organization’s growth, an inspirational, highly effective leader brought its performance to a level where it’s achievement and value became clearly apparent to the most important and influential individuals in the community.  And their involvement – encouraged by this leader – contributed exponentially to its success.

Now let’s assume you are a trustee of a nonprofit looking for a new leader and you want someone with the potential to build the organization to one of the premier nonprofits in your community.  Or to turn around an organization in trouble.  Or to greatly enhance the organization’s ability to achieve its mission.  The pool of potential candidates includes existing executive directors, nonprofit managers just below the ED level, and for-profit executives, either active or recently retired.   Any of these candidates could be independently wealthy, willing to work for little or even no compensation.  

But why limit your search to those willing to accept below fair pay?  The candidate pool undoubtedly includes qualified people with children in college or other financial needs, without independent financial resources, for whom a decent salary is very important.   The best leaders may come from this pool.

Why capping pay is wrong

For most nonprofits, the type of caps being proposed is immaterial – few pay their top people close to $400,000 or $500,000.  But for the small percentage of nonprofits who do pay this level of compensation, caps would create serious problems. 

First, any pay limit set by the IRS on Congress other governing body would be arbitrary.  The most common suggestions are limiting nonprofit executive pay to the salary of the President of the U.S. (currently $400,000) or the $500,000 base salary limit being applied by the Treasury Department to organizations receiving government funding under the TARP program.  But neither of these numbers reflect the value of the work being performed – they are just politically expedient numbers the public can more readily accept.

Second, any cap would undoubtedly be unfair to nonprofit executives whose scope of responsibilities genuinely reflect greater value than the cap itself.  Limiting pay for university investment professionals or basketball coaches or heads of cardiology in medical schools to $400,000 or $500,000 would result in a unsustainable gap between what they can make in the private sector and what nonprofits could pay.

Third, it is likely that a pay cap would lead larger nonprofits to look for other ways to compensate their top people, through expanded benefits, or added time off, or job sharing, or special fees, in order to keep their best talent.  The government might try to preclude this through legislation beyond the pay cap, but such legislation would be very complex and costly to administer. 

Fourth, the pay cap could actually result in higher compensation for leaders of smaller nonprofits – those below the pay cap.  Even $150,000 or $200,000 is higher compensation than the vast majority of nonprofits should be paying their executive directors today – most charities are very small.   Providing an official ceiling of $400,000 or $500,000 could put pressure on trustees to raise executive compensation more quickly than they would do absent the cap.

Finally, in the largest nonprofits, a pay cap could cause salary compression, with many executives earning close to the cap even though their responsibilities are substantially less than those of the CEO, creating serious inequities in the compensation structure.

There is a Solution

You won’t get rid of excessive pay entirely in nonprofits, no more than in any other sector.  But there are good steps that can be taken to lessen the incidence of egregious pay.

First, the IRS should use existing sanctions more forcefully.  These sanctions (commonly called the “intermediate sanctions”) enable the IRS to fine trustees and tax executives in cases of egregious excess compensation.  But these sanctions apparently are rarely used.  They may be saddled by budget constraints, but I think the IRS should be more aggressive going after apparently excessive compensation.

Further support should come from publications such as the Chronicle of Philanthropy or the Chronicle of Higher Education, and organizations such as the Independent Sector or Charity Navigator.  Some of these organizations may be reluctant to bite the hands that feed them, but as the Chronicle of Philanthropy has shown, pointing out specific cases of potential abuse can create change. 

Most important, the Boards of Trustees should do their homework with a thorough periodic review of top officer compensation.  This review should address these questions:

§  Does the organization have a compensation policy, and if so what is the intended position of the organization’s compensation against the peer groups to which it will be compared?  If the intended position is above average (e.g., 75^th percentile), is this strategy supported by the organization’s size and complexity and/or the background, experience, and performance of the executives being reviewed?

§  Is the peer group against which the organization being compared truly representative, in terms of size, mission, scope, and geography? 

§  How does the top executive’s market position compare to that of other executives and employees in the organization?  If the CEO is the only executive at the 75^th percentile while everyone else is at or below average, is there a clear justification for the difference?

§  How transparent is the entire compensation package?  Are there special benefits or perquisites that apply only to the top officer, and if so is there a justification for this?  Will this justification stand up to public scrutiny?

With strong board oversight, a stronger and more active IRS, and aggressive publicity about questionable compensation, we can strengthen nonprofit compensation generally and reduce the incidents of abuse.

Pete Smith is the President of Smith Consulting.  The former CEO of Watson Wyatt Worldwide, he now provides executive compensation consulting services to the nonprofit community.

 

Fix Your Performance Management Process

Few organizations in any sector are pleased with their performance appraisal programs. Here are some steps that can give your organization a much better chance of success:

1. Separate the date of the performance management meeting from the meeting to discuss the salary review by at least 6 weeks, and preferably 3 months.  
2. Focus the performance meeting on performance development, not appraisal.  The goal should be to help employees be more successful and grow into greater responsibilities, not to manage some rating scale or justify a salary decision.
3. Measure your managers in part on their ability to develop and grow successful employees.  Make this a key expectation for all managers and supervisors.
4. Avoid forced distribution rating systems.  Good managers attract and develop stars; having a system that requires 60% of the stars to be rated average is stupid.
5. Don't require 360 degree feedback.  Allow employees to use this process if they want feedback from people throughout the organization, but sharing this information with anyone else (including their manager) should be voluntary.
6. If you have to summarize performance ratings, use three categories (such as outstanding, successful, and needs improvement) instead of four or five. Considerable morale is lost in systems that divide average and above-average employees, without an offsetting benefit to the organization.
7. Provide managers a lot of help in developing their people. Some managers are naturally better at this than others, and the organization's top executives and HR department should be proactive in providing guidance, assistance, and support.

Substantial Improvements in Charity Navigator CEO Compensation Study

Charity Navigator has just published its 2010 CEO Compensation Study, available here:  CN 2010 CEO Survey.  It is a remarkable improvement on previous CN compensation surveys and probably provides by far the most accurate and informative information on top management compensation practices in the sector.

Significant improvements to this year's survey include:

• A thorough weeding of organizations with unusual changes in compensation (new CEO replacing a prior CEO at a lower salary; accounting for multiple years of deferred compensation distorting the salary increase comparisons, etc.).  The result: a highly accurate picture of year-to-year salary increase patterns for typical nonprofit CEO's. 
• Far more useful regional comparisons than in other surveys, or even previous CN surveys.  One example:  for each region, median total expenses are shown, as well as average CEO salaries and the median raise.
• More useful size breakouts, separating the largest from the smallest charities, giving organizations and their boards more useful data with which to evaluate CEO pay.
• A more balanced and responsible analysis of pay and pay practices that, based on the 990 information, seem to be outliers.

With data based on over 3,000 U.S. charities, this is clearly the most definitive nonprofit compensation survey available today.  I strongly encourage that you obtain this survey report (available as a free download) and give Charity Navigator whatever support you can, financial and otherwise, as they continue to provide highly useful information to the nonprofit sector.

Acknowledgment:  Faithful readers of this blog may remember my sharp criticism of last year's CN CEO compensation survey.  To their credit, CN staffers met with me to listen to my concerns, followed my advice on a number of changes and made even better changes on their own.  To a small degree, some improvements in the 2010 report came at my urging, but the CN staff deserves the lion's share of the credit here -- they are good people genuinely committed to helping the sector by doing the right things.

Pete Smith is the President of Smith Consulting.  The former CEO of Watson Wyatt Worldwide, he now provides executive compensation consulting services to the nonprofit community.