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Executive Compensation in Biotech: Striking a Balance

10/28/2008 8:42:22 PM

By Susan Oliver, Senior Partner, Global Life Sciences Practice (Nosal Partners LLC) -- After annual reports are filed and the numbers totaled up, come the inevitable articles critical of how much corporate executives make. While pay packages in the biotech industry don’t compare to those of oil and gas executives, for instance, the topic is still a controversial one.

Notably, both cash compensation (including bonuses) and long-term incentives in terms of equity rose in 2007 at both public and private biotech companies. The median CEO direct compensation at publicly traded companies in 2007 was about $1 million, according to BioWorld . A separate study of private companies found two-thirds used options as their primary means of equity compensation, with a 5 percent stake typical.

There are important distinctions to be made, however, when discussing biotech pay: The industry is dominated by emerging growth companies and heavily weighted toward executive management with significant academic and scientific credentials. Why are these factors important to compensation issues? First, at emerging growth companies that have already had an IPO, the stock is more volatile and there are fewer liquidity scenarios. Second, the finite pool of current experienced, talented science business leaders creates high demand.

There is growing demand for individuals with a combination of two or more areas of functional expertise, such as Ph.D.s in a scientific field who have transitioned into senior business roles or clinical development physicians with outstanding regulatory experience.

Right now the executive compensation picture in biotech is one of supply and demand. Board members and CEOs must balance that against underlying market realities that are affecting the available pool of A-level talent.

The riskier nature of biotechnology stocks in general makes executive compensation based on sales and earnings goals or share activity impractical. In public companies, stock options have lost some cachet as a common incentive due to the volatile market. In pre-IPO companies, cash is a more likely incentive due to the unpredictable timing of the exit event. Thus, some companies are relying more on bonuses, based on achieving other, more performance-based goals, to boost compensation packages.

We are heading toward more uncharted territory in executive compensation discussions, where a more balanced approach, coupled with creative solutions, will become the norm.

The new negotiations

Managing compensation negotiations is a key responsibility of the executive search consultant, whose experience and insights help both clients as well as placements make more meaningful decisions. He or she can deeply engage in a consultative way with the candidate to determine what issues are important relative to making a career move. Total cash compensation may be less relevant than a new challenge or even good schools for the children. In addition, relocation expenses are a critical factor, even more so today because of the slump in housing prices. Executive search consultants explore the full range of candidate needs and wants and communicate them to the client, and help pinpoint not only what the candidate is worth, but what works for both the candidate and the company.

Additionally, search consultants have their fingers on the pulse of what the market will bear. They can help adjust compensation to remain competitive with that of other executives, and to reflect trends in competitor biotechnology companies, demographics, geographic regions and the economy.

The executive search consultant also takes client issues to the candidate for consideration. Equity parity, expectations for succession, and cash compensation relativity information can all help the candidate judge the total package and opportunity.

As an intermediary between the company and the candidate, a search consultant can provide insight into the appropriateness of the pay package relative to the size of the company, the complexity of the job, and the scope of responsibilities. A search consultant can also help the client and the candidate find creative compensation solutions outside of stock and bonuses. For example, in a search for the president of a publicly traded biotech company, we successfully recruited a candidate for whom we recommended competitive, performance-driven equity incentives in addition to cash compensation. With our input, the board created a compensation package that included stock option grants up front as well as additional stock incentives and benefits through to any material changes in the job.

Striking a balance

As economic conditions remain uncertain, executive pay is under even greater scrutiny. At public companies, shareholders are calling for boards to revamp their compensation programs to more closely link pay to performance, and increase the use of long-term incentives, such as restricted stock.

Although shareholders and investors don’t want to feel as though their CEO makes money when they are losing money, it is imperative that we step back from the inflammatory stances of “she deserves it” or “he doesn’t deserve it” and rationally evaluate how we determine what executives should earn. Setting compensation levels is a complex process, involving a number of factors; it isn’t just a matter of cutting bonuses and boosting restricted stock. Here is how we think an organization can make executive compensation meaningful for executives and shareholders alike:

? When deciding what works best for your organization, try to strike a balance between rewarding leadership and having an executive compensation policy that will satisfy stakeholders.

?Ensure your compensation mirrors the value of both the company and the executive. Pay packages should take into account that different types of executives are needed at different phases of a company’s development. For instance, earlier in its evolution, a talented entrepreneur may be needed; later a seasoned executive may be required to take the helm.

? Make sure your equity incentive plan is carefully planned and implemented to fit the company’s size, culture and market. There is no one-size-fits-all approach. Smaller companies with limited budgets may have to craft a CEO and C-level compensation package that has a greater share of stock options in lieu of salary.

? Your policy should attract the best talent possible while remaining rational in the face of rising and falling market conditions.

? Select the right performance measures and goals appropriate for your executive, and for your company. Performance measures must reflect market conditions as well as business units’ particular circumstances, and be consistent with corporate imperatives. They can become management tools for implementing strategy.

? Look carefully at the advantages and disadvantages of long-term vehicles such as stock options, time-vested restricted stock and performance-based restricted stock.

Given that biotech has an extremely competitive environment for recruiting proven talent, and shortages of available candidates in the areas of clinical research and regulatory affairs, it is essential that all parties understand well-crafted compensation packages are key to hiring top executives. An executive search consultant who understands a client organization and the intricacies of all its needs—and one who is a highly knowledgeable professional—can bring all the issues to the forefront of negotiations in collaboration with the board and CEO. He or she can be a partner to help craft a compensation package that meets your business objectives while attracting the best talent possible.

Susan Oliver is a partner with Nosal Partners LLC. Co-located in the firm's Atlanta and San Francisco offices, she focuses on senior-level assignments in the life sciences, advanced technology, distribution, and consumer products industries.

© Nosal Partners LLC, 2008

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