CAP analyzed executive compensation practices at companies with recent IPOs from 2023 to 2025. The data shows a clear public company transition: cash generally increases, formal bonus programs become more prevalent, and equity grants become a larger part of the compensation mix. This report also examines equity share pool design, including pool size and value, other equity practices and the typical allocation to senior executives. Majority of IPOs tend to cluster in a couple of industries. CAP’s study is cross-industry, though approximately 80% of the sample represents the technology or biotechnology/pharmaceutical industries (45% and 36% respectively).

At a Glance

An IPO changes more than just a company’s ownership and capital structure. It also introduces public company governance and shareholder expectations that affect both pay levels and program design. CAP’s review shows that the transition from pre-IPO to post-IPO is visible in the changes to cash compensation, equity mix, formalization of incentive programs, and the equity pool design that supports ongoing compensation programs.

• Pay levels rise. Median base salary for CEOs increases 5% and median CFO salary rises 7%, while long-term incentives triple in value
• Formal annual incentive (or bonus) programs become more prevalent
• Pay mix shifts increasingly toward equity and long-term incentives, increasing to about 50% of mix, from about 35% pre-IPO, on average
• Share pools are a major component of compensation-related IPO planning. The median pool is about 15 million shares; 89% of new plans include an evergreen provision
• 77% of companies implemented an Employee Stock Purchase Plan (ESPP) at time of IPO

How Pay Levels Change after an IPO

The move to public company compensation is accompanied by higher pay, but the magnitude for each element differs across industries.

Base Salary

CEO and CFO base salary increases for the total sample were similar in the mid- to high-single digits. For CEOs, median increase is 5% post-IPO; for CFOs, the median is 7%. Among constant incumbents in the technology sector, at median, base salaries were flat.

Annual Incentive Opportunity

Median bonus opportunity for CEOs nearly doubles post-IPO, while CFOs see a more modest increase in target bonus as a percent of salary. Technology executives tend to have higher opportunities than their counterparts in biotechnology/pharmaceuticals.

Long-Term Incentive Opportunity

For CEOs, the median actual long-term incentive values increase by 262% from pre-IPO levels; for CFOs, median increases by slightly less but is still significant (+230%). As public company compensation plans are formalized, long-term incentive values become the largest portion of executive pay as the cost to companies of providing long-term incentives goes down given access to equity.

Total Direct Compensation

Overall, when looking at total direct compensation, CEO and CFO compensation significantly increases from pre-IPO levels.

Annual Incentive Programs Become More Defined

Pre-IPO annual incentive (or bonus) programs are often highly discretionary. They may consider financial performance but often do not have formal metrics or weightings and may be largely determined based on individual performance. As companies evolve towards and through an IPO, we see companies begin to formalize the bonus program. Investor expectations are that bonus programs are tied to financial performance with clear target goals. The first step to formalizing a bonus program is ensuring that participants have individual targets. From there, depending on the ability to forecast and set goals, companies typically start with selecting key financial performance metrics and ultimately evolve to a clearly defined program with threshold, target, and maximum financial goals. About a third of companies in our sample did not have a formal annual incentive program pre-IPO and formalized it in the year after going public.

Corporate performance remains the foundation of formal short-term incentive programs. Post-IPO, all companies in our sample had a corporate component, with about half of them also incorporating individual performance.

Pay Mix Shifts Toward Long-Term Incentives (Equity)

The public company transition changes not only how much executives are paid but also how compensation is delivered. Across the total sample, long-term incentives become a larger portion of actual pay after IPO.

The long-term incentive vehicles used varies across companies. Most recent IPO companies use time-based vehicles, either stock options or time-based restricted stock/stock units (RS/RSUs). This also aligns with the most common vehicles used pre-IPO. As companies continue to evolve into more mature public companies, the expectation from institutional investors and proxy advisors is that a performance-based vehicle is introduced into the mix, balanced with time-based vehicles. Our sample saw limited instances of a performance-based vehicle right after IPO, but that prevalence increases as companies move further away from IPO.

Founder-Led Status Impacts Compensation

About 70% of companies in CAP’s sample were led by founders at the time of IPO. Founder ownership levels remained relatively steady pre- and post-IPO, with technology CEOs holding about 30% of outstanding equity. For other industries, ownership is around 10%. Boards and Compensation Committees need to determine philosophically if higher ownership levels should be considered when setting pay. One approach is to minimize equity grants given high existing ownership and alignment with shareholders, while another approach is to set market-competitive pay irrespective of ownership level. We often see mix of pay differ between founders and non-founders, even when total compensation levels on a dollar-basis are similar.

Founder-led companies can have unconventional pay mixes, including exceptionally low annual equity compensation or unusually high concentrations in one pay element. Overall, founder CEOs tend to have a slightly heavier weighting on cash compensation than non-founders, though for both groups, we see about 50% in the long-term incentives on a go-forward basis in our sample.

Share Pool Size and Equity Plan Design is One of the Biggest Decision Points

Long-term incentive plan design is one of the biggest compensation decisions made during the IPO process. The size of the equity pool (and related plan features) determines the ability to make initial transition-related grants, support ongoing annual equity programs, and recruit future talent.

The initial share pool, at median, for our sample was around 15 million shares, with median total potential dilution of around 15%. Size of the pool can vary across industries – we see higher initial pools in technology where equity can be an important compensation tool organization-wide, with slightly smaller pools in the biotechnology/pharmaceutical industry. Regardless of the absolute number of shares, we typically see dilution in the range of 10% – 15%+, with more mature companies having lower dilution and earlier-stage companies that rely more heavily on equity as a compensation tool to have dilution ranging up to 20%.

As the first long-term incentive plan is drafted at the time of IPO and therefore is not shareholder approved, we often see less shareholder friendly practices including evergreen provisions and liberal share recycling. It is also common to implement an employee stock purchase plan (ESPP) at the time of IPO.

Once a company goes public, any material changes to the equity plan document, including increasing the total pool, are required to be shareholder approved. Evergreen provisions automatically increase the size of the equity pool each year. The typical evergreen provision is around 5% per year, though boards typically retain the discretion to reduce this amount. Sometimes companies use a “lesser of” approach that considers a fixed absolute number of shares versus a fixed percentage to increase the pool by.

Liberal share recycling is another common pre-public practice that helps conserve the number of shares. While all plans permit returning shares to the pool upon forfeit, liberal share recycling can be when shares withheld for taxes or tendered at an option exercise are returned to the pool. This can lead to further dilution of shareholders without them being aware. We typically see these two provisions removed when a company puts their equity plan up for shareholder approval the first time.

An employee stock purchase plan, or ESPP, allows employees to purchase shares through payroll, often at a discount to the current stock price. This practice supports retention and engagement and broadens equity participation for employees that may not be in the annual equity program.

We often see companies grant initial equity awards to executives right before or in conjunction with the IPO. These awards are often larger than typical annual equity awards and designed to retain executives through the newly public company period. Median CEO grant is around 4% of the total pool, though higher for technology companies and slightly lower for biotechnology/pharmaceutical companies. For CFOs, this is around 1% – 1.5% of the total pool. These awards often can use a large portion of the initial share pool. In our sample, we had few examples of special awards, and those tended to be for other executives given the high prevalence of founders in our sample.

Top Considerations for Companies Preparing to Go Public

Executive compensation when going public is shaped by two primary forces: 1) the additional responsibility and oversight inherent in leading a public company and 2) external expectations from proxy advisors and institutional investors regarding compensation program design. There is an understanding that the transition and evolution of the executive compensation program happens over time, though the time period for this varies based on your investor base. There are several considerations during the transition:

• Establish a core compensation program: Develop a peer group, set executive pay aligned to public company peer group, formalize annual incentive program and determine long-term incentive program
• Make decisions that set the company up for success over a multi-year period: Establish framework for continued evolution and progression toward public company pay and governance, determine size of equity pool needed to support multiple years of grants, and determine how compensation tools such as equity are used throughout the organization
• Assess post-IPO ownership and understand your investor base: If founders still retain significant ownership or there is a controlling shareholder, companies may feel less pressure than other newly public companies to ramp up governance expectations such as stock ownership guidelines or adding a performance-based long-term incentive plan
• Understand your filing status and how that impacts compensation disclosures: The SEC has a proposal outstanding that will greatly simplify disclosure requirements for newly public companies; however, it is not just about a CD&A, there are currently other requirements such as say-on-pay, CEO pay ratio and pay versus performance disclosure. It is important to understand when you will become subject to these, and the phase-in period so that you are prepared come proxy season and are not scrambling
• Understand how decision-making impacts disclosure: It is not just special awards, any and all parts of the decision-making process (setting targets, determining bonus outcomes, etc.) will need to be disclosed. Make sure your board understands disclosure implications of decisions going forward.

Going public is an exciting time for companies, but there are a lot of implications for executive compensation. Beginning to think about the necessary changes 12-18 months ahead of going public will make the transition significantly easier, rather than trying to take care of compensation as an afterthought.

For questions or more information, please contact:

Joanna Czyzewski
Partner
[email protected]
646-486-9746

Chris Callegari
Senior Associate
[email protected]
646-486-9747

Bhavika Podduturi provided research assistance for this report.

Research Sample

CAP’s analysis covers 44 companies across industries. See below for financial statistics.

Pre-commercial biopharma companies need to attract and retain executives capable of advancing clinical, regulatory, manufacturing, financing, and commercialization priorities, while also managing cash constraints and dilution. The right compensation framework is rarely a one-time decision. It typically evolves as the company scales, raises capital, builds out leadership, and moves closer to commercialization.

For many pre-commercial biopharma companies, equity is the primary compensation driver. Cash compensation may be below market, annual incentives may remain milestone-based, and governance practices may still be maturing. However, equity compensation decisions have immediate and long-term implications for retention, recruiting, dilution, share reserve needs, and investor perception.

Start with a Practical Compensation Framework

Pre-commercial companies often begin with individually negotiated compensation arrangements, particularly for founders and early executives. As the company matures or approaches entering the public markets, those arrangements generally need to evolve into a more consistent compensation philosophy and decision-making framework.

The framework does not need to be overly complex. At a minimum, it should help the Board or Compensation Committee answer several key questions:

• What market for talent is the company competing in?
• How should company stage, financing status, and role criticality influence pay positioning?
• How should the company balance cash compensation, annual incentives, and long-term equity?
• How should equity, dilution and retention be balanced over time?

For pre-commercial biopharma companies, compensation benchmarking is often more complex than simply selecting a peer group and applying percentile data. Companies at this stage can vary significantly in market capitalization, financing history, pipeline maturity, leadership structure, and expected path to commercialization. As a result, compensation decisions often require a combination of market data, company-specific context, internal pay considerations, and Committee judgment.

Benchmarking should not be applied mechanically; for early-stage companies, market data is a reference point, not a formula.

Recognize That Equity Is Often the Core Compensation Currency

Equity is typically the most important compensation element for pre-commercial biopharma companies. Early-stage companies often use larger, front-loaded equity awards to create meaningful ownership and retention for executives taking on significant company-building risk.

These grants may be expressed as a percentage of common shares outstanding rather than a dollar value, particularly when valuation is low, or share price is not yet established. Over time, as the company becomes more established, grant sizing often shifts toward a more standardized framework that considers market value, role-based ranges, annual grant cadence, dilution, and share reserve impact.

This transition requires judgment. A company with a small leadership team and limited near-term hiring needs may require a different equity strategy than a company preparing for rapid clinical, regulatory, or commercial buildout. Similarly, a company with large founder or pre-public grants may need to consider whether additional near-term annual grants are necessary immediately or whether a more measured approach is appropriate.

Equity decisions should be evaluated through several lenses:

• What level of equity is needed to attract, retain, and motivate critical talent?
• How much equity has already been granted to the executive team?
• Are prior awards intended to provide multi-year retention?
• What level of share usage is reasonable given available plan capacity and expected hiring needs?

Companies should monitor share usage, overhang, and remaining plan capacity over time, particularly as annual grant practices become more regular and hiring needs increase.

Equity programs should be designed to support talent needs while maintaining a disciplined view of share usage and dilution.

Manage the Transition from Front-Loaded Grants to Annual Equity Practices

Many early-stage companies use front-loaded grants to establish meaningful ownership at the time an executive joins. These grants may be intended to cover multiple years, particularly when the company has limited cash resources or is still operating with a private-company compensation model.

As companies mature, they often begin to develop a more regular annual equity grant practice. This transition can create important questions:

• Were prior grants intended to serve as multi-year awards?
• Should annual grants begin immediately after listing or after a specific milestone, or fiscal year-end cycle?
• Should the company size grants based on dollar value, percentage of shares outstanding, or both?
• How should the Committee consider existing ownership, unvested value, and retention risk?

There is no single answer that applies to all pre-commercial biopharma companies. The right approach depends on business stage, grant history, executive expectations, share reserve availability, investor optics, and the company’s go-forward compensation philosophy.

Committees should also be careful not to let annual grant practices evolve informally. Even where annual grants are modest at first, the company should establish a disciplined process for reviewing participation, grant timing, award sizing, and share usage.

The shift from front-loaded equity to annual grants is one of the most important compensation transitions for early-stage public biopharma companies.

Select Equity Vehicles That Match the Company’s Stage and Objectives

Equity vehicle mix is another important design decision. Stock options have historically been common among early-stage biopharma companies because they reinforce upside alignment and only deliver value if the stock price appreciates. This structure can be attractive for companies whose value creation depends on major clinical, regulatory, financing, or commercialization milestones.

However, options also have limitations. In volatile sectors, options can become deeply underwater, reducing their perceived retention value. This can create pressure for additional grants, repricing discussions, or broader retention actions.

Restricted stock and RSUs provide more stable retention value because they retain value even if the stock price declines. They can be useful for attraction and retention, though they are less leveraged than stock options and they deliver value regardless of stock price appreciation.

Among the 33% of companies using both vehicles, the average CEO LTI value mix was approximately 60% options and 40% full-value awards, suggesting that full-value awards are often used as a meaningful complement to options rather than a nominal component.

These findings suggest that options remain central to CEO equity design in pre-commercial biopharma, but many companies also incorporate full-value awards to support retention and balance the limitations of options in a volatile sector. Performance-based equity is generally less common at earlier stages because long-term performance goals can be difficult to set with sufficient precision at this stage. The right mix will depend on company stage, share reserve, stock price volatility, retention needs, investor expectations, and the Committee’s compensation philosophy.

Options support upside alignment, while RSUs support retention. Many pre-commercial companies use both, but the right mix depends on stage, volatility, dilution, and talent needs.

Conclusion

For pre-commercial biopharma companies, compensation program evolution is a staged process. Equity is often the central design issue, but the right approach depends on company stage, financing profile, leadership needs, grant history, share reserve capacity, and expected path to commercialization.

As companies scale, Compensation Committees should be thoughtful about how equity awards are sized, when annual grant practices are introduced, and which vehicles best support retention, alignment, and responsible share usage. The goal is not to replicate mature-company practices before the business is ready, but to build a compensation framework that can evolve as the company grows.

Because these decisions involve judgment across market practice, retention, dilution, and company-specific context, Compensation Committees benefit from a framework that is both data-informed and tailored to the company’s business reality.

Sample Methodology: Market observations are based on a sample of 164 U.S.-listed biotechnology and pharmaceutical companies on major U.S. exchanges with revenue below $5 million and market capitalization above $50 million.

This report summarizes 2018 CEO pay and performance, as well as incentive compensation practices, for CAP’s large Pharma/Biotech sample. The 18 companies in CAP’s large Pharma/Biotech sample represent a mix of U.S. and non-U.S. firms that range in size from $11B to $82B in revenues.

Total direct compensation for the chief executive officers (CEOs) of 18 large, publicly traded Pharmaceutical and Biotechnology companies increased four percent in 2018, according to a Compensation Advisory Partners (CAP) analysis of 2019 public disclosures. Larger annual incentive payouts drove the increase in CEO total direct compensation for 2018. The CEOs received increased annual incentive payouts because their companies delivered consistent revenue growth and strong adjusted earnings per share (EPS) growth.

Key Takeaways

• Median CEO annual incentive payout was above target for the third year in a row
• Top-line and bottom-line metrics continue to be the most prevalent metrics in incentive plans. Most companies in the sample include pipeline in the annual incentive plan and all companies include TSR and/or absolute stock price performance in the long-term incentive plan
• Companies continue to place significant emphasis on performance-based compensation, with more than 85% of pay being variable
• External market factors will continue to provide challenges to pharma/biotech companies, including industry specific factors such as drug pricing
• Environmental, Social, and Governance (ESG) issues are an area of interest for many investors; it remains to be seen if and how it will impact executive compensation

2018 Performance

CAP’s Pharma/Biotech sample delivered strong financial results again in 2018. Median revenue for the sample increased five percent, following steady increases of six percent in the last two years. Adjusted EPS (non-GAAP) growth increased more significantly in 2018 (+11%), reflecting continued strong performance. The sample overall has had consistent improved financial performance for the last three years.

Total shareholder return (TSR) has been a more volatile performance metric for the last three years, with 2018 market performance much weaker compared to 2017. While median TSR for CAP’s Pharma/Biotech sample was lower in 2018 vs 2017, the industry outperformed both the S&P 1200 Global Index and the S&P 500 Index. External factors, including tax reform, certainly gave a boost to 2017 market performance. 2018 performance for the industry continues to be impacted by public scrutiny over drug pricing practices, as well as drug pipeline results and expectations.

2018 CEO Pay

Median CEO total direct compensation for CAP’s Pharma/Biotech sample increased four percent for 2018. Total direct compensation includes base salary, which is a fixed element of compensation, plus actual annual and long-term incentive payouts, which are variable and performance-driven elements of compensation.

Fixed compensation saw modest increases (+2%), which was similar to prior years. Actual annual incentive payouts jumped nine percent in 2018. Long-term incentives also saw a modest increase (+3%).

Median annual incentive payouts as a percent of target have been steadily increasing year-over-year, in line with steady positive financial performance. Annual incentive payouts for CEOs in the Pharma/Biotech sample have paid out consistently above target for the past three years.

Among the CEOs in CAP’s Pharma/Biotech sample, the median annual incentive payout for 2018 performance was 137% of target, reflecting an increase of 12 percentage points over the prior year’s median. Payouts at the 75th and 25th percentiles also increased slightly. The spread between top quartile and bottom quartile has generally remained the same over the last three years.

Target Compensation Mix

On average, the vast majority of target total direct compensation for CEOs of large public companies across all industries is delivered in the form of annual and long-term incentives, or variable compensation. Consistent with prior years, CEOs in CAP’s Pharma/Biotech sample receive approximately 90 percent of target compensation in the form of variable pay.

Pay practices differ among U.S. and non-U.S. companies, with non-U.S. companies placing more emphasis on fixed compensation. For non-U.S. companies in CAP’s sample, base salary accounts for approximately 18 percent of target compensation versus only 10 percent at U.S. companies. U.S. companies place significant emphasis on long-term incentives relative to their non-U.S. counterparts.

Annual Incentive Performance Metrics

Companies in CAP’s Pharma/Biotech sample continue to focus on growth and profitability in the short-term, as evidenced by the two most prevalent financial performance metrics in annual incentive plans – revenue and earnings per share (EPS). For CEOs in the sample, individual performance is also considered in the determination of annual incentive payouts.

Strategic measures – in particular those focusing on the drug pipeline – are common among companies in our sample. Pipeline milestones across the spectrum of the research and development (R&D) lifecycle are important considerations for pharmaceutical and biotechnology as they race to advance life-enhancing therapies in the market. Other strategic metrics focus on business development, commercialization, and other organizational goals.

Corporate environmental, social, and governance (ESG) issues have been a hot topic in recent times for the media and investors. In our experience, organizations and boards have mixed views regarding the inclusion of ESG goals in their incentive plans. When an ESG goal is included as a measure, it is often incorporated with a relatively low weighting (10% or less) or considered within individual goals. In CAP’s Pharma/Biotech sample, one company (Novartis) discloses the use of corporate responsibility and environmental sustainability goals within its strategic objectives.

Long-Term Incentive Vehicles & Mix

Long-term incentives comprise the largest part of compensation for CEOs in CAP’s sample (approximately 70%, on average). These awards tie executive compensation to longer-term company performance objectives and are typically delivered through equity with multi-year vesting periods.

Long-term incentive vehicles fall into three broad categories: (1) time-vested restricted stock shares (or units); (2) time-vested stock options (or stock appreciation rights); and (3) long-term performance plans. Performance plans can include performance shares (or units), performance-vested stock options, and performance-based cash compensation with multi-year performance criteria.

Among large public companies across industries, performance plans are the most common vehicle for delivering long-term incentives to the CEO. The same is true for CAP’s Pharma/Biotech sample. Of the companies in our sample, performance plans comprise almost three-quarters of the total long-term incentive mix, on average. About a third of companies use performance plans exclusively as their only long-term incentive vehicle.

Long-Term Incentive Performance Metrics

Long-term incentives generally focus on and reward value creation over a three-to-five-year timeframe. In our sample, all companies with a performance plan use either relative total shareholder return (TSR) or absolute stock price as a metric. Approximately one-third of the companies in CAP’s sample use relative TSR as a modifier to performance results.

Similar to annual incentives, long-term performance plans use growth and profitability financial metrics. The most prevalent metrics include net income/EPS, sales, and cash-flow measures.

Additional Information – Shareholder Proposals around Drug Pricing

Pharmaceutical companies have faced increased scrutiny by regulators over the last couple of years, especially around the issue of drug pricing. A handful of companies in our sample have received shareholder proposals around drug pricing and tying executive compensation to the drug-pricing process. These proposals are asking for increased disclosure on how drug pricing strategies impact executive compensation. Five pharmaceutical/biotechnology companies included this proposal in their 2019 proxy statements, with these proposals generally receiving 20 percent to 30 percent shareholder support.

Looking Ahead

2019 opened with two notable acquisitions within the industry (Bristol-Meyers/Celgene and Eli Lilly/Loxo Oncology). While the pharmaceutical/biotechnology industry is relatively compact already, consolidation may continue in the future as companies struggle with combating high R&D costs and uncertain pipeline success rates. More companies will have drugs coming off patent in the next few years, leading to more generic drug competition. With increased pressure surrounding high drug prices in the market and regulators becoming more cautious in approving new and innovative treatments, pharmaceutical/biotechnology companies will have increased pressure to maintain a successful pipeline.

Median first quarter total shareholder return for CAP’s Pharma/Biotech sample was six percent, trailing both the S&P Global 1200 (12%) and the S&P 500 (15%) Indices. We expect companies and compensation committees to continue to align CEO payouts with overall performance.

The Large Pharma/Biotech sample continues to show consistency in incentive plan design, with the different companies having similar strategic priorities. ESG issues will continue to be an area of focus, but we do not believe it will become a primary driver of incentive payouts. Companies and compensation committees will continue to evaluate their incentive plan designs to ensure alignment with organizational priorities, while considering market and regulatory developments.

For questions or more information, please contact:

Kelly Malafis, Partner
[email protected] 212-921-9357

Joanna Czyzewski, Associate
[email protected] 646-486-9746

Diane Lee and Joshua Hovden provided research assistance for this report.

CAP’s Pharma/Biotech Sample:

• AbbVie Inc.
• Allergan plc
• Amgen Inc.
• AstraZeneca PLC
• Biogen Inc.
• Bristol-Myers Squibb Company
• Celgene Corporation
• Eli Lilly and Company
• Gilead Sciences, Inc.
• GlaxoSmithKline plc
• Johnson & Johnson
• Merck & Co., Inc.
• Mylan N.V.
• Novartis AG
• Pfizer Inc.
• Roche Holding AG
• Sanofi
• Teva Pharmaceutical Industries Limited

This report summarizes 2017 CEO pay and performance, as well as incentive compensation practices, for a sample of 19 large public Pharmaceutical and Biotechnology companies. CAP’s Pharma/Biotech sample includes a balance of U.S. and non-U.S. companies.

Key Takeaways

• For the second year in a row, median annual incentive payout was well above target (124% in 2017 and 121% in 2016) reflective of consistent strong performance.
• Top-line and bottom-line metrics as well as pipeline are the most prevalent metrics in the annual incentive plan.
• Companies place a significant emphasis on performance plans in the long-term incentive (LTI) mix with all companies in our sample using performance-based LTI; on average, performance plans are 75% of the mix.
• All companies use total shareholder return (TSR) and/or absolute stock price performance to measure long-term performance, usually in combination with at least one financial metric.
• We expect external factors, such as scrutiny regarding drug pricing and continued uncertainty with healthcare reform, will continue to pose challenges for companies in the industry.

2017 Performance

The industry overall had a good year in 2017, as companies continued to grow revenue, manage expenses, and maintain operating margins. Median 2017 financial performance for CAP’s Pharma/Biotech sample was largely consistent with 2016, building on prior-year growth. Revenue growth of 6% was unchanged year over year, and adjusted operating margin held steady at 32%. Adjusted EPS growth decreased slightly, from 9% in 2016 to 8% in 2017.

The industry recovered somewhat in 2017, with median total shareholder return (TSR) improving by 16 percentage points, flipping from -7% in 2016 to +9% in 2017. However, CAP’s Pharma/Biotech sample underperformed the broader market for the second year in a row. Industry-specific factors, such as public scrutiny over high drug prices globally, along with uncertainty surrounding the future of healthcare legislation in the U.S., likely contributed to this underperformance. Individual company stock price performance is highly influenced by pipeline expectations, successes, and failures.

2017 CEO Pay

Consistent year-over-year financial performance translated to consistent year-over-year annual incentive payouts. Similar to the prior year, many companies provided above-target payouts.

Among the CEOs in CAP’s Pharma/Biotech sample, the median annual incentive payout for 2017 performance was 124% of target, reflecting an increase of 3 percentage points over the prior year’s median. Payout increases at the low and high ends of the range were similarly modest. The 25th percentile payout increased 2 percentage points to 111% of target, and the 75th percentile payout increased 1 percentage point to 151% of target.

The median increase in actual total direct compensation (defined as the sum of base salary, actual annual incentive, and long-term incentives) for the CEOs in CAP’s Pharma/Biotech sample was 8% for 2017.

For the most part, increases in variable compensation (i.e., annual and long-term incentives) exceeded increases in fixed compensation. The median annual incentive increase and long-term incentive increase were 7% and 4%, respectively, while the median base salary increase was just 2%.

Incentive Compensation Practices

Target Compensation Mix

Generally, 80% to 90% of target total direct compensation for CEOs of large public companies is delivered in the form of variable compensation. Among CAP’s Pharma/Biotech sample, variable compensation accounts for 88% of target total direct compensation, on average.

Consistent with prior-year findings, there is a notable difference in target compensation mix between the U.S. companies and the non-U.S. companies in CAP’s Pharma/Biotech sample. On average, the U.S. companies place more emphasis on long-term incentives, and correspondingly less emphasis on base salary and target annual incentive.

Annual Incentive Performance Metrics

The objectives underlying annual incentive plans are often associated with short-term growth and profitability, and encourage successful performance against individual objectives. This is reflected in the two most prevalent financial performance metrics among CAP’s Pharma/Biotech sample – revenue and net income (or EPS). Almost all of the companies in CAP’s Pharma/Biotech sample use a “top-line” revenue metric in addition to one or more “bottom-line” income metrics.

The use of pipeline and other strategic metrics is also common. Tying compensation to pipeline efforts is critical, as Pharmaceutical and Biotechnology companies must continuously innovate to remain competitive. Additional reasons to focus executives on R&D are its high costs and corresponding uncertainty around success or failure. Developing a new drug can take upwards of ten years and require billions of dollars of investment, and the eventual loss of exclusivity on key products invites competition from generics and biosimilars. Among CAP’s Pharma/Biotech sample, other (i.e., non-pipeline) strategic metrics typically reward executives for the successful launch and commercialization of new products, as well as organizational accomplishments.

Long-Term Incentive Vehicles & Mix

Long-term incentives tie executive compensation to performance against longer-term company objectives. Awards are typically delivered using equity-based vehicles with multi-year vesting periods, which helps to align the interests of executives with those of shareholders, while also serving as a retention tool.

Long-term incentive vehicles can be bucketed into three broad categories: (1) time-vested restricted shares (or units); (2) time-vested stock options (or stock appreciation rights); and (3) long-term performance plans. Performance plans include performance shares (or units), performance-vested stock options, and performance-based cash compensation with multi-year performance criteria.

Among large public companies generally, a performance plan is the most common vehicle for delivering long-term incentives to the CEO. The same is true for CAP’s Pharma/Biotech sample.

Over the past several years, the average long-term incentive mix for CEOs of large public companies has shifted toward performance plans and away from stock options and, to a lesser extent, restricted shares. Among CAP’s Pharma/Biotech sample, performance plans now make up close to three-quarters of the average long-term incentive mix, largely because all the companies in CAP’s Pharma/Biotech sample use a performance plan, and more than a third of these companies use a performance plan as the only long-term incentive vehicle.

Most of the companies in CAP’s Pharma/Biotech sample supplement the use of a performance plan with stock options (32% of CAP’s Pharma/Biotech sample), restricted shares (5%), or both stock options and restricted shares (26%).

Long-Term Incentive Performance Metrics

While annual incentives emphasize short-term growth and profitability, long-term incentives generally encourage and reward long-term value creation. 100% of the companies in CAP’s Pharma/Biotech sample use relative TSR or absolute share price as a performance plan performance metric. Most companies in CAP’s Pharma/Biotech sample use TSR as one of several weighted metrics or as a modifier.

Even though shareholder return metrics are ubiquitous among CAP’s Pharma/Biotech sample, they are certainly not the only metrics used. In fact, 89% of the companies in CAP’s Pharma/Biotech sample also use one or more of net income, revenue, cash flow, and operating income in their long-term performance plan.

Looking Ahead

2018 has gotten off to a good start. For the first quarter of 2018, median revenue growth for CAP’s Pharma/Biotech sample was slightly below full-year 2017 growth (4% vs. 6%). However, median first quarter adjusted operating margin was 36%, four percentage points better than 2017’s median of 32%. A decrease in the U.S. corporate tax rate influenced adjusted EPS growth among CAP’s Pharma/Biotech sample, which was 12% at median for the first quarter. Median first quarter TSR for CAP’s Pharma/Biotech sample was -3%, close to both the S&P Global 1200 (-2%) and the S&P 500 (-1%). We expect companies and compensation committees to continue to align executive compensation with overall performance.

We are not surprised by the consistency in incentive plan design and use of similar performance metrics given the continued focus of Pharmaceutical and Biotechnology companies on R&D and strategic priorities to support revenue growth and profitability. Companies in the industry will continue to face challenges, including increased competition and uncertainty surrounding drug pricing and healthcare reform. Companies and compensation committees will continue to evaluate their incentive plan designs to ensure alignment with their organizational strategies and in light of broader market and regulatory developments.

Additional Information – New CEO Pay Ratio Disclosure

Thirteen of the companies in CAP’s Pharma/Biotech sample were required to disclose the ratio of their CEO pay to that of the median employee in 2018. The reported CEO pay ratios among CAP’s Pharma/Biotech sample ranged from 62:1 to 452:1 with a median ratio of 169:1. Given the flexibility that companies have in the methodology and assumptions used to calculate the ratio, comparisons of ratios between companies are less meaningful. To date, institutional investors and proxy advisory firms have not used disclosed CEO pay ratios to inform their voting decisions. We may see some year-over-year comparisons in the second year of disclosure.

For questions or more information, please contact:

Kelly Malafis Partner [email protected] 212-921-9357

Lauren Peek Principal [email protected] 212-921-9374

Kyle Eastman Associate [email protected] 212-921-9362

Michael Bonner Associate [email protected] 646-486-9744

Diane Lee and Joshua Hovden provided research assistance for this report.

Pharmaceutical / Biotechnology Companies – Total Sample

• AbbVie Inc.
• Allergan plc
• Amgen Inc.
• AstraZeneca PLC
• Biogen Inc.
• Bristol-Myers Squibb Company
• Celgene Corporation
• Eli Lilly and Company
• Gilead Sciences, Inc.
• GlaxoSmithKline plc
• Johnson & Johnson
• Merck & Co., Inc.
• Mylan N.V.
• Novartis AG
• Pfizer Inc.
• Roche Holding AG
• Sanofi
• Shire plc
• Teva Pharmaceutical Industries Limited

This report summarizes 2017 CEO pay and performance and incentive compensation practices for a sample of 19 public Small Pharmaceutical and Biotechnology companies with revenues between $600M and $6B (“CAP’s Small Pharma/Biotech Sample”). Among companies in our sample, median revenue was $1.5B.

Key Takeaways

• 2017 annual bonus payout, at median, was 113% of target and aligns with the strong median revenue growth of nearly 10%.
• Companies tend to focus annual incentive payouts on revenue and pipeline development vs. profits as a significant investment in R&D could negatively impact profits in the short term.
• Stock options reflect nearly 45% of the long-term incentive (LTI) mix while performance-based LTI reflects only 30% of the mix indicating that these companies may have high growth expectations but find it challenging to set credible long-term goals.
• We expect companies will continue to face challenges as they focus on developing a product pipeline in a highly competitive environment.

2017 Financial and TSR Performance

2017 financial results were mixed for CAP’s Small Pharma/Biotech Sample. While sales grew by nearly 10% versus 2016, operating income declined by 4%. Small pharmaceutical and biotechnology companies tend to be focused on developing a robust pipeline which requires a significant investment in R&D that could impact operating results.

Median 1-year total shareholder return (TSR) for the period ending December 31, 2017 was 2%. This represents a significant improvement over the 1-year period ending December 31, 2016 (when median total shareholder return was -30%) but lags median total shareholder return among S&P MidCap 400 companies. Uncertainty around product approvals and pipeline can also cause stock price volality in the industry.

CEO Annual Incentive Payouts and Plan Design

2017 median CEO bonus payout was 113% of target. This reflects a 22 percentage point increase from prior year when median payout was 91% of target.

The year over year increase in CEO bonus payouts aligns with strong top line growth for CAP’s Small Pharma/Biotech Sample. This is likely because revenue is the most commonly used annual incentive metric among these companies. Pipeline/strategic goals and operating income are also prevalent.

• 78% of companies use revenue
• 61% of companies use pipeline/strategic goals
• 56% of companies use operating income

Bottom line metrics like EPS and net income are less commonly used by companies in CAP’s Small Pharma/Biotech Sample than they are among larger pharmaceutical and biotechnology firms. Most companies in CAP’s Small Pharma/Biotech Sample saw a decline in net profits in 2017; 53% of companies generated a net loss.

This pay and performance relationship indicates that companies in CAP’s Small Pharma/Biotech Sample prioritize the achievement of sales growth, pipeline progress and strategic milestones over profit growth in the near term.

Actual Compensation for CEOs

Median CEO total compensation for 2017, which includes base salary, actual bonus paid for 2017 performance and long-term incentives granted in 2017, increased 8% versus 2016. This increase was largely driven by increases to actual bonuses paid and long-term incentives granted. As previously discussed, increases in bonus payouts are directionally aligned with strong sales growth. Companies generally grant LTI to reward past and future expectations of performance and the 12% increase over 2016 levels may be more reflective of individual potential rather than only company performance.

Pay Mix

CEO pay programs for companies in our sample place the greatest emphasis on long-term incentives (i.e., approximately 70% of total compensation). The companies in CAP’s Small Pharma / Biotech sample place more emphasis on base salary and less on annual incentives compared to larger organizations in the industry (See CAP’s Large Pharma / Biotech industry report for list of companies). Small pharmaceutical and biotechnology companies may place less emphasis on annual incentives as regulatory and commercial uncertainty may limit their ability to set credible annual performance goals.

Long-term Incentive Mix and Long-term Performance Plan Design

Long-term incentive vehicles can be bucketed into three broad categories: (1) time-vested restricted shares (or units); (2) time-vested stock options (or stock appreciation rights); and (3) long-term performance plans. Performance plans include performance shares (or units), performance-vested stock options, and performance-based cash compensation with multi-year performance criteria.

The companies in CAP’s Small Pharma/Biotech Sample place a greater emphasis on stock options than performance plans. This is a significant departure from larger firms in the industry; 30% of long-term incentives are delivered through performance plans versus approximately 75% at the larger firms. This emphasis on stock options among small pharmaceutical and biotechnology companies is likely due to high growth expectations as well as difficulty setting longer term goals. Larger companies may not have a similar expectation of stock price appreciation; additionally, they may have more scrutiny from shareholders and proxy advisors to have a greater portion (at least 50%) of total LTI delivered in the form of a performance plan.

Time-based restricted stock or units, which serve as a retentive tool for executives and other key talent, is approximately 25% of total long-term incentives. This is generally consistent with broader market practice.

Although performance plans reflect less than 1/3 of total LTI, nearly 70% of the companies in CAP’s Small Pharma/Biotech Sample have a long-term performance plan in place. Among these companies, relative TSR and revenue are the most common metrics with 62% of companies using each metric. TSR is most commonly measured relative to an industry index (e.g., the NASDAQ Biotechnology Index). In the broader market, a profit-based metric, typically EPS, is the second most common metric (behind TSR); use of revenue in a long-term plan is much less prevalent. Again, this suggests that the companies in CAP’s Small Pharma/Biotech Sample are more focused on growth than profitability and may face disclosure challenges with respect to profit goals, particularly for companies that generate net losses.

Looking Ahead

Following the improvement in total shareholder return in 2017, stock prices among CAP’s Small Pharma/Biotech Sample have dipped in the first five months of 2018. While this is likely due, in part, to a broader market correction, it may also reflect continued scrutiny of drug pricing and increased competition. While these factors pose challenges in the pharmaceutical and biotechnology industries, expectations for increased merger activity and the potential for deregulation could create tailwinds to bolster performance in the second half of the year.

We expect companies in CAP’s Small Pharma/Biotech Sample to maintain incentive plans that reward executives for investing in R&D, developing the pipeline and growing sales through existing and new products.

Additional Information – New CEO Pay Ratio Disclosure

Beginning with 2018 filings, companies are required to disclose the ratio of their CEO pay to that of the median employee. To date, 16 of the 19 companies in CAP’s Small Pharma/Biotech Sample have disclosed ratios. Among these companies, the reported CEO pay ratios ranged from 13:1 to 215:1 with a median ratio of 89:1. Given the flexibility that companies had in the methodology and assumptions used to calculate the ratio, comparisons of ratios between companies is less meaningful. To date, institutional investors and proxy advisory firms have not used disclosed CEO pay ratios to inform their voting decisions. We may see some year over year comparisons in the second year of disclosure.

For questions or more information, please contact:

Kelly Malafis Partner [email protected] 212-921-9357

Lauren Peek Principal [email protected] 212-921-9374

Michael Bonner Associate [email protected] 646-486-9744

Kyle Eastman Associate [email protected] 212-921-9362

Joanna Czyzewski, Matt McLaughlin, Amanda Miles and Joshua Hovden provided research assistance for this report.

CAP’s Small Pharma/Biotech Sample

• Akorn Inc.
• Alexion Pharmaceuticals Inc.
• Alkermes plc
• AMAG Pharmaceuticals Inc.
• BioMarin Pharmaceutical Inc.
• Catalent Inc.
• Endo International plc
• Horizon Pharma plc
• Impax Laboratories Inc.
• Incyte Corporation
• Jazz Pharmaceuticals plc
• Lannett Company Inc.
• Mallinckrodt Public Limited Company
• Myriad Genetics Inc.
• Opko Health Inc.
• Perrigo Co
• Regeneron Pharmaceuticals Inc.
• United Therapeutics Corporation
• Vertex Pharmaceuticals Inc.

Compensation Advisory Partners (CAP) examined 2016 executive pay and company performance at 19 large pharmaceutical and biotechnology companies with median revenue of approximately $23B. CAP’s study includes 12 U.S. companies and 7 non-U.S. companies.

2016 Overview

In 2016, large pharmaceutical and biotechnology companies generated strong financial results; however, a challenging environment and the uncertain outlook for the industry drove total shareholder returns (TSR) below those of the S&P 500. The high cost of R&D, loss of exclusivity, and increased regulation continue to challenge growth and profitability, while the current U.S. administration’s focus on drug pricing, healthcare reform, and global policy create an air of uncertainty that could positively or negatively impact the industry.

In response to these difficulties, companies have focused on expense management, strategic alliances, and mergers and acquisitions to grow sales and manage costs. Pharmaceutical and biotechnology companies are also looking to different strategies, such as investing in biologics, to position themselves for growth in the future. We have seen incentive plan design in the pharmaceutical and biotechnology industry evolve to focus executives on achieving these objectives by rewarding them based on key performance metrics, such as sales, profits, pipeline development, and strategic initiatives, that together influence long-term shareholder value.

2016 Financial and TSR Performance

Sales and EPS among companies in our sample grew by +6% and +7%, respectively, at median. Pharmaceutical and biotechnology companies also had strong operating performance in 2016. The companies in our sample improved operating margin from 26% in 2015 to 27% in 2016. U.S. companies in particular saw an improvement in operational results in 2016, improving profit margin by 3 percentage points vs. 2015.

While the Pharma industry experienced stronger top and bottom line growth than the S&P 500 in 2016, median TSR results among companies in the industry (-10%) were lower than median TSR results among S&P 500 companies (+13%). Following several years of above-market stock price performance, 1-year TSR performance, in part, may have been depressed by the focus on drug pricing during the 2016 presidential election and the uncertainty centered around how the new administration’s policies will impact the industry.

Annual Incentive Payouts and Plan Design

At median, pharmaceutical CEOs received annual incentive payouts at 121% of target for 2016 performance. These payouts are reflective of strong (i.e., above target) performance; however, they also reflect a decline versus 2015 when the median payout was 156% of target.

Annual incentive payouts among pharmaceutical companies are most often determined based on sales, profits, and pipeline or R&D-related goals:

• 94% of companies use sales goals
• 75% of companies use net income or EPS goals
• 75% of companies use pipeline or R&D goals

While 2016 revenue and EPS growth were generally stronger than 2015, the decline in 2016 payouts may be reflective of some pipeline challenges that companies faced during the year. Many companies in our sample also include an individual or strategic performance component, which can impact final annual incentive plan payouts.

2016 CEO Pay vs. Performance:

2016 actual total compensation (salary, bonus, and long-term incentives) for CEOs at large pharmaceutical and biotechnology companies was flat vs. 2015. Actual bonus payouts were generally down. Base salaries and long-term incentive awards were generally flat at median; however, several companies provided modest increases in base salaries and more substantial increases in long-term incentive awards, resulting in minimal change (+1%) in actual total compensation at median. Overall, actual compensation levels seem to align with a holistic view of industry performance, where revenue and EPS growth were strong, but stock prices were down.

Pay Mix

Overall, pay mix for CEOs at companies in our sample is aligned with CEO pay mix in the broader U.S. market. Within the pharmaceutical industry, non-U.S. companies tend to place a greater emphasis on base salaries than U.S. companies (i.e., 16% vs. 10% of total pay). U.S. pharmaceutical companies place a greater emphasis on long-term incentive awards than both non-U.S. pharmaceutical companies and U.S. general industry companies.

Long-term Incentive Mix and Long-term Performance Plan Design

While overall pay mix is consistent with general industry companies, pharmaceutical companies tend to grant a greater portion of their long-term incentive awards in performance-based vehicles and a smaller portion in time-based restricted stock or units than the broader U.S. market. The industry’s emphasis on long-term performance-based compensation creates a strong link between executive rewards and the length of product life-cycles, from drug development to product sales.

Similar to companies in the broader market, most pharmaceutical companies (88%) use relative TSR as a long-term incentive metric to align long-term performance plan payouts with the market’s view of future growth potential. Similar to annual incentives, long-term performance-based vehicles also tend to include sales and bottom-line income goals:

• 53% of companies use sales goals
• 41% of companies use net income or EPS goals

These metrics focus executives on long-term growth through new product sales or acquisitions while also maintaining profitability.

Looking Ahead for Executive Compensation in the Pharma Industry

Even as companies across industries are in a “wait and see” period as the current administration begins to tackle executive compensation-related issues, the pharmaceutical industry faces its own unique environment, where setting incentive plan goals is becoming ever more challenging.

The outlook for the U.S. market is growing increasingly complex as the industry faces intense scrutiny and the current administration tries to overhaul the Affordable Care Act. At the same time, the industry has experienced strong stock price performance to date in 2017, indicating the market’s continued confidence in future growth despite regulatory pressure and public scrutiny over drug prices.

In an industry where incentive plans are meant to reward prior performance, but the stock market is always looking forward, companies must continue to focus on setting incentive plan goals that reward executives for driving innovation and growth and therefore, align them with long-term shareholder returns.

For questions or more information, please contact:

Kelly Malafis Partner [email protected] 212-921-9357

Lauren Peek Principal [email protected] 212-921-9374

Michael Bonner Associate [email protected] 646-486-9744

Kyle Eastman Associate [email protected] 212-921-9362

Joanna Czyzewski and Whitney Cook provided research assistance for this report.

Pharmaceutical / Biotechnology Companies – Total Sample

AbbVie Inc.
Allergan plc
Amgen Inc.
AstraZeneca plc
Biogen Inc.
Bristol-Myers Squibb Co
Celgene Corp
Eli Lilly and Co
Gilead Sciences Inc.
GlaxoSmithKline plc
Johnson & Johnson
Merck & Co Inc.
Mylan N.V.
Novartis AG
Pfizer Inc.
Roche Holdings AG
Sanofi S.A.
Shire plc
Teva Pharmaceutical Industries Ltd

Companies use annual bonuses as a tool to reward executives for achieving short-term financial and strategic goals. Setting appropriate annual performance goals is essential to establishing a link between pay and performance. Goals should achieve a balance between rigor and attainability to motivate and reward executives for driving company performance and creating returns for shareholders.

Key Takeaways:

• Based on our analysis of actual incentive payouts over the past 6 years, the degree of difficulty, or “stretch”, embedded in annual performance goals translates to:
  • A 95% chance of achieving at least Threshold performance
  • A 75% chance of achieving at least Target performance
  • A 15% chance of achieving Maximum performance
• This pattern indicates that target performance goals are challenging, but attainable, and maximum goals are achievable through highly superior performance
• The majority of companies use two or more metrics when assessing annual performance
• Annual incentive payouts have been directionally linked with earnings growth over the past 6 years

Summary of Findings

Plan Design

For the purposes of this study, we categorized annual incentive plans as either goal attainment or discretionary. Companies with goal attainment plans define and disclose threshold, target and maximum performance goals and corresponding payout opportunities. Alternatively, companies with discretionary plans do not define the relationship between a particular level of performance and the corresponding payout. Discretionary programs provide committees with the opportunity to determine payouts based on a retrospective review of performance results.

Consistent with the findings from our study conducted in 2014, 72% of sample companies have goal attainment plans. Our study focuses on these companies.

Performance Metrics

Most companies (61%) use 3 or more metrics to determine bonus payouts. This reflects a shift from 2014, where 48% of companies used 3 or more metrics. Companies annually review metrics to ensure that they align with the business strategy.

Many companies use financial metrics such as revenue and profitability, which are indicators of market share growth and stock price performance. Some bonus plans also include strategic metrics, which incentivize executives to achieve goals that may contribute to long-term success, but may not be captured by short-term financial performance. Companies in the pharmaceutical industry often use strategic goals, such as pipeline development. Similarly, companies with large manufacturing operations often use quality control metrics.

Pay and Performance Scales

Compensation committees annually approve threshold, target, and maximum performance goals, and corresponding payout opportunities, for each metric in the incentive plan. Target performance goals are typically set in line with the company’s internal business plan. Executives most often earn 50% of their target bonus opportunity for achieving threshold performance and 200% for achieving maximum performance. Actual payouts are often interpolated between threshold and target and target and maximum.

Annual Incentive Plan Payouts Relative to Goals

All Companies

Based on CAP’s analysis, companies paid annual bonuses 95% of the time. Payouts for the total sample are distributed as indicated in the following charts:

This payout distribution indicates that committees set annual performance goals with a degree of difficulty or “stretch” such that executives have:

• A 95% chance of achieving at least Threshold performance
• A 75% chance of achieving at least Target performance
• A 15% chance of achieving Maximum performance

From 2010-2015, no more than 10% of companies failed to reach threshold performance in any given year. By comparison, in both 2008 and 2009, which were challenging years, approximately 15% of companies failed to reach threshold performance goals.

When looking back over 8 years (2008-2015), companies achieved at least threshold and target performance with slightly less frequency. Based on CAP’s analysis of this 8-year period, executives have:

• A 90% chance of achieving at least Threshold performance
• A 70% chance of achieving at least Target performance
• A 15% chance of achieving Maximum performance

By Industry

Pharmaceutical and healthcare companies have paid at or above target more frequently than companies in any other industry over the past 6 years. Both industries have experienced significant growth over the period in part due to consolidation. The companies in the IT, Consumer Discretionary and Consumer Staples industries tend to pay below target at a higher rate. Average payouts for each industry are distributed as indicated in the following chart:

Relative to Performance

CAP reviewed the relationship between annual incentive payouts and company performance with respect to three metrics: revenue growth, earnings per share (EPS) growth and earnings before interest and taxes (EBIT) growth. While payouts were generally aligned with revenue and EPS growth, they most closely tracked with EBIT growth over the period studied (2010-2015). Companies may seek to align bonus payouts with operating measures, such as EBIT, as they capture an executive’s ability to control costs and improve operational efficiency.

The chart below depicts the relationship between median revenue, EPS, and EBIT growth and target and above annual incentive payouts among the companies studied.

Conclusion

In the first quarter of 2017, committees will certify the results and payouts for the fiscal 2016 bonus cycle and approve performance targets for fiscal 2017. Given the uncertain economic outlook following the 2016 presidential election, establishing performance targets for 2017 may be more challenging than usual. Companies may choose to use a range of performance from threshold to maximum to build flexibility into their plans given the unpredictable environment. Our study of annual bonus payouts over the past 6-8 years supports setting goals such that the degree of difficulty, or “stretch”, embedded in performance goals translates to:

• A 90-95% chance of achieving at least Threshold performance
• A 70-75% chance of achieving at least Target performance
• A 15% chance of achieving Maximum performance.

Companies should continue to set target performance goals that are challenging, but attainable and maximum goals that are achievable through outperformance of internal and external expectations – therefore, establishing a bonus plan that is attractive to executives and responsible to shareholders.

Methodology

CAP’s study consisted of 100 companies from 9 industries, selected to provide a broad representation of market practice across large U.S. public companies. The revenue size of the companies in our sample ranges from $18 billion at the 25th percentile to $70 billion at the 75th percentile.

CAP analyzed the annual incentive plan payouts of the companies in the sample over the past 6-8 years to determine the distribution of incentive payments and the frequency with which executives typically achieve target payouts. In this analysis, CAP categorized actual bonus payments (as a percent of target) into one of six categories based on the following payout ranges: