Director Independence

In brief: Directors are fiduciaries on behalf of the corporation and its owners (or, in a nonprofit organization, its beneficiaries). As fiduciaries, they must be free from conflicts of interest when they make decisions, recusing themselves if they have a conflict. However, in some situations, avoiding a conflict of interest is not enough; the director must also be considered “independent.” Director independence is defined variously, depending on the context.

This memo sets forth the most common definitions of director and board independence in public companies, investment companies, and nonprofit organizations.

The focus on the board’s compensation committee has never been sharper. The components of compensation plans and the link between compensation and company performance are under intense scrutiny from shareholders, employees, policymakers, the media, and other stakeholders. The Report of the NACD Blue Ribbon Commission on the Compensation Committee revisits NACD’s 2003 Report of the NACD Blue Ribbon Commission on Executive Compensation to highlight the new environment in which compensation committees—and, more broadly, boards—are now operating. It recommends that the compensation committee and board work together to establish an executive compensation philosophy that supports the company in creating long-term, sustainable value.

The report includes ten specific recommendations for compensation committees to consider when evaluating their compensation philosophies. It also provides practical tools, such as sample compensation committee charters, a compensation committee assessment, and guidance on executive employment contracts.