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Win Swenson: These facts are similar to those that have been debated over the compensation process at Home Depot. There, the company’s lead director issued a statement (defending its pay to CEO Robert Nardelli) that closely parallels the first of the two possible answers. Some institutional investors and other compensation experts have taken a position that closely tracks the second possible answer.

Both sides have a point. Moreover, one can argue that the transparency of the process has appropriately left it to the marketplace to resolve – if shareholders do not like the result they can simply move their capital elsewhere.

The major problem with the first answer is the lesson it teaches internally – within the corporate culture. Company codes of conduct implore employees to make decisions on the merits, and to avoid even the appearance of a conflict. To cite one example from these facts, the use of the same compensation lawyer by both Mr. Franco and one of the compensation committee members means that when compensation issues with Mr. Franco arise (or at renewal of his pay package) the compensation committee member will be negotiating with his/her own lawyer – clearly a conflict that sacrifices the company’s best interests. Companies tell employees never to agree on setting prices, but the facts here at least suggest that mutual back-scratching may be playing a role in establishing the “price” of Mr. Franco’s compensation. Even if the board concludes that the marketplace can sort this out, the reality is that employees in a company pay more attention to what their leaders do than to what they say.

Go back for more ethical dilemmas.

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