Monday, April 14, 2008

While we wait for the current (2007) Schering-Plough SEC Proxy -- Executive Compensation data. . . .

I (once again) had an interesting discussion, elsewhere, that led me to start thinking about this question:

What sorts of financial pressures -- carrots and sticks -- presently exist at Schering-Plough, relative to motivating CEO Fred Hassan, and correlatively, the top six or so executives of the company?

Let me be more precise -- at the outset, of course, (almost) all CEOs have stock. And that is appropriate. Executives should hold enough stock (acquired from personal funds -- not simply granted, gratis, by the Compensation Committee of the Schering Board) to be keenly focused on shareholder interests (and returns). What is hard to explain -- in this environment -- is continued, and large, outright grants of stock, SARs or options. In a very real sense, many CEOs don't really feel they have "surrendered" anything much to receive them -- so they are often viewed as a pure upside. [N.B., as more fully described below, once the CEO gets used to thinking of the vested portion of these equity-related grants as "owned", s/he will also feel as though every drop in the stock price is "money out of his/her pocket".]

So, with that backdrop, we'll need to start by looking at 2006 -- the last full-year for which we have data (since Schering-Plough hasn't filed this data for 2007, with the Securities and Exchange Commission, yet):

Mr. Hassan's "All-In" 2006 compensation was $29.6 million. Wow.

However, about $14.6 million of that amount (mostly in the form of Stock Options and SARs -- "equity" compensation) is subject to forfeiture, if Mr. Hassan loses his seat (doesn't stay employed by Schering), or if Schering misses its performance objectives, by very large margins, in future years. And, at first blush, that seems quite reasonable. See page 37 of this link (last year's Schering SEC-filed proxy statement); then add-up all the blue and green figures (those subject to forfeiture, on time, or performance measures) -- then subtract them from the $29.6 million "all in" figure.

I am not so sure that the about 50-50 percent split (between cash/kept, and yet-to-be-earned compensation) makes all that much sense, here -- when things have already turned so-significantly south for Schering, that it has been forced to announce a massive restructuring.

Consider -- if things are really dire at Schering, and the CEO comes right out and says so, he likely loses his seat. And then, he forfeits most of the $14.6 million (and that is just 2006 money, not 2007, beyond). Now, though, I must point out -- to be fair -- he gets to keep about $15 million (just for 2006). If he says things are "okay, but we'll struggle a bit", he likely keeps his seat -- and the $14.6 million, and more, in future years. If it turns out he was/is "shading the truth", he almost certainly gets dumped -- but he probably avoids criminal prosecution -- and keeps the bulk of the (other) $15 million (for 2006 alone, more in 2007, and beyond).

So -- Do you think it is possible that Mr. Hassan (with the rest of the Schering top-six) has an incentive to say "things are tough, but more or less on track"? Said another way, do you think he wants to "give-back" (from his perspective, at least) half of his 2006 compensation, or surrender the CEO seat, and forfeit all those future gains? Which do you think he will choose?

[LATER UPDATE: I forgot to mention, in addition, that for every $1 Mr. Hassan can keep Schering common stock from falling, he "saves himself" $4,070,799.30, beginning May 1, 2008 -- and once May 1, 2009 passes, he'll save himself $4,422,799.30, for each $1. This will be true, even if the Board never awards him another single share, or option. Said another way, for every $1 decline in SGP stock, Mr. Hassan loses over $4 million of value -- a very powerful incentive to try to stabilize the recent Schering stock price slide. From a closing price of $27.24 per share, on January 10, 2008 -- to $ 16.55, the close on April 14, 2008, then, Mr. Hassan has seen his equity value drop by over $43.5 million (albeit a not yet realized, or paper, loss -- as he hasn't sold anything to "fix" these declines).]

This is why it is so terribly important to find scrupulous CEOs -- and/or retain very tough Compensation Committees -- at the Board of Directors level. Otherwise, the whole exercise simply becomes one long gravy-train for extreme upper management -- with no incentives to make really tough decisions, for the longer-term health of the company. Think here of Mr. Hassan's statement, upon entry in 2003, that he would see to it that Schering would not be dependent on one drug product in the future. Yet, here we are -- in 2008 -- with at least 55 percent of Schering's profitablity tied to the Schering/Merck so-called "cholesterol franchise" -- the Vytorin and Zetia joint venture.

We will see -- when the new 2007 proxy is out -- whether the Schering Board is setting stringent perfomance objectives, to focus management on the tough decisions it will have to make this year, and beyond. But we haven't seen that data, yet. So, it remains an open question.

I will say that the payment of $29.6 million relative to 2006 performance. . . . doesn't exactly instill confidence that this Board will "rachet down" in tough times -- and "pay well", only for strong turn-around numbers, from here. But we shall see.

Do you think Schering is going to meet its performance objectives (they haven't even been announced yet!), in 2008?

Who knows? But in the mean-time, please take the poll, above-left, to enter your guess, as to CEO Fred Hassan's 2007 "All-In" compensation!

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