Friday, October 31, 2008

What's Wrong With Schering Plough's Executive Pay Processes: No Restraint in Evidence


We shall today try to tackle a truly-scary topic -- on Halloween, appropriately -- Fred Hassan's outrageously oversized pay -- relative to his recent performance, as CEO of Schering.

While I may have seemed rather flippant about the recent announcement that Schering's Nominating Committee Chair would survey shareholders in early-2009, about executive pay, I do applaud the move. It may be a very small step, but it is in the right direction. So, let me, more seriously now, sum up what I consider to be the most-vexing flaw in the Schering-Plough executive compensation scheme.

The central problem -- the one at the root of all other problems -- is a readily-apparent lack of measured restraint by the Compensation Committee of the board, its chair, Hans Becherer, and his exclusively-retained consultant, Ira T. Kay.

Schering's SEC filings and press releases (and repetitiously-so) make much of the fact that each executives' pay is tightly linked to company performance -- chiefly through the amount of compensation determined by the per share price performance of Schering-Plough common stock. In theory (assuming appropriately measured amounts of equity incentives), that might be an acceptable -- even laudable -- compensation process-approach.

In practice, however, Schering's Compensation Committee, and Chairman Hans Becherer (acting on the advice of Ira Kay), have each shown repeated willingness to "sweeten the pot" -- especially in times of declining Schering stock prices. That smacks of gamesmanship. And not by just a little. When the equity bet is made -- it should simply ride, up or down -- for the CEO, especially -- if it is to be a real motivator.

A recent May 1, 2008 example -- in which CEO Hassan was handed -- for essentailly no good reason -- an addditional (then nadir-price-touching) bolus of stock options -- was simply eye-popping. It came as the stock had declined some 30 percent to that point (now 57 percent -- as of October 28) in 2008. Here is his Form 4 form that grant:



[Several other top executive officers also received similarly priced grants that day.]

For Hassan, though, it was an incremental amount of close to $10 million -- on top of the over $30 million he made, for 2007, alone -- and over $7.7 million of that May 1, 2008 $10 million grant is not subject to performance earn-outs. He need do nothing more than keep his seat, to get that $7.7 million.

Let me do more than complain -- let me offer at least one constructive suggestion, here: At a very-bare minimum, this May 1, 2008 grant should have been priced at 20 or 30 percent above that day's stock price (putting it at $21 or $23 per share) -- a practice called "premium pricing" an option grant. Schering's plans permit it -- and responsible directors do it. And all of it (and all other equity incentives) should be subject to forefeiture if PMOs aren't met (over a period of, say, three years).

Quoting Paragraph 128 of the amended complaint in Cain v. Hassan, now:

. . . .On May 1, 2008, despite the aftermath of the gross mismanagement of the disclosure of ENHANCE study results, the Compensation Committee reviewed defendant Hassan’s, performance in “light of corporate goals and objectives” and decided, upon affirmance of the Board to give the CEO a discretionary 836,000 share [stock option] grant at an exercise price of just $18.85, under Schering’s 2006 Stock Incentive Plan. The 836,000 shares [stock option] grant is valued at approximately $9,130,000 of which about $7,700,800 is not subject to the CEO satisfying any performance criteria. . . .

Middle tier executives (non executive officers, all) had been awarded options at about $21 per share, a few months earlier -- thus granting Hassan a significantly greater potential for profit, both in terms of the size of the option (perhaps arguably appropriate, in theory -- he is the CEO, afterall), but also in terms of the 20 percent lower-price on the option. That, I submit, is not only excessive -- but has the potential to put the CEO's monetary incentives at least partially at odds with those of his mid-level executive team. For example, Hassan might make decisions to protect the portion of his gain (should the stock rise above $18.85, but stay below $21), rather than seeking to stretch for higher goals, and thus acheive higher stock prices -- for all Schering stockholders.

But I do not want to distract from my central point: this grant was simply too much. Too much, given that Mr. Hassan already has the potential to make some $75 million should the Schering common stock price rise above $25 per share -- and too much, given that Hassan is already holding some $32 million in cash-payments for 2006 and 2007 alone.

In fact, CEO Hassan will, in 2008, likely make triple what the other "most overpaid" pharma executive made (over at King Pharmaceuticals), in 2007.

So, my central, and very serious, concern about executive pay at Schering is that while the board talks about aligning it with equity performance -- the "walk" -- on that "talk" is actually to dole out more, during down-times.

This shortcoming is particularly egregious where -- as here -- the down-times were created by the mis-steps of this Schering management team.

I am coming to the conclusion that new leadership -- at the board level, as well as the CEO level -- is needed to root out this perniciously-repetitive practice.

And your survey responses, dear readers, may just give the nominating committee chair the "political cover" she needs to oust Hans Becherer, and Ira Kay.

And so, I'll close with a poll -- a new poll! -- do you think the Board will be willing to oust Hans Becherer, and/or Ira Kay (or Fred Hassan!), in 2009? Click at left!

2 comments:

Anonymous said...

Let's see. Fred had his meltdown on the WSJ on June 30th. May 1st is 60 days earlier. FDA has to enter into labeling negotiations with companies over NDAs that are expected to be approved or approvable 60 days prior to the PDUFA due date.

You don't suppose that these are related and something happened between May 1st and June 30th?

Salmon

Condor said...

Indeed -- note also, though, that a couple of days before Fred presumably instructed corporate external relations minions to call the Wall Street Journal -- so that he might be able to offer some pungent commentary, gratis, Schering had fallen to an NYSE closing-price below his [super-low, bargain basement-esque] grant price -- that is, below $18.85.

It closed at $18.51 on June 20, 2008, in fact.

That -- along with the clearly disappointing news out of FDA -- probably motivated his little tantrum.

Good time-lining with you, here, Salmon!