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DBL%20Hendrix%20small.png College chemistry, 1983

Derek Lowe The 2002 Model

Dbl%20new%20portrait%20B%26W.png After 10 years of blogging. . .

Derek Lowe, an Arkansan by birth, got his BA from Hendrix College and his PhD in organic chemistry from Duke before spending time in Germany on a Humboldt Fellowship on his post-doc. He's worked for several major pharmaceutical companies since 1989 on drug discovery projects against schizophrenia, Alzheimer's, diabetes, osteoporosis and other diseases. To contact Derek email him directly: derekb.lowe@gmail.com Twitter: Dereklowe

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In the Pipeline: Don't miss Derek Lowe's excellent commentary on drug discovery and the pharma industry in general at In the Pipeline

In the Pipeline

« What's a CEO Worth? | Main | Amgen Buys Onyx »

August 23, 2013

Options And Suchlike

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Posted by Derek

And after that mention of CEO pay, this sounds like a good time to link to this article from Nature Biotechnology. If you've ever been curious about why different companies pay out in stock options and/or restricted stock, this will satisfy your curiosity and more. A big part of the answer, you will not be surprised to hear, is the tax code, and if you're someone getting these kinds of compensation, you need to know some tax angles from your end, too.

And, of course, the type of award that works out best for the company doesn't always work out best for the grantee. Likewise, not every grantee will be best served by a single kind of award - it all depends on what you're trying to reward:

Although stock options continue to be a popular employee incentive device, in the past few years their advantages have been diminished through accounting and tax law changes, whereas their shortcomings have become more apparent in the biotech sector—in which a consistently growing stock price is far from assured, or even likely. As a consequence, biotech firms are moving away from an exclusive reliance on stock options and instead are using a mix of equity-based incentives, most commonly a combination of stock options and performance-based stock units.

From the perspective of a founder or other employee, the shift to a combination of stock options and some form of restricted stock or stock units should be welcome, making it less likely that the employee's awards will have no value at all. Unlike the corporate employer, an employee would prefer that restricted stock or stock units not be subject to performance conditions. . .

Definitely worth a look if you haven't thought about these details. After a good long stare, though, you may decide that the best course is to pay someone else to think about these things for you (!)

Comments (16) + TrackBacks (0) | Category: Business and Markets


COMMENTS

1. anon the II on August 23, 2013 2:40 PM writes...

Restricted and non-restricted stock options, performance awards, bonuses, raises, matching 401Ks, the '90's.

Man, those were the days.

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2. Chrispy on August 23, 2013 4:43 PM writes...

Funny, I saw this morning on Xconomy a platform (Bonus.ly) that allows employees to vote on bonus levels for each other. This would be a great idea except that the folks in upper management would need to implement it and their bonuses would likely take quite a hit...

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3. johnnyboy on August 23, 2013 6:02 PM writes...

I don't understand why anyone in their right mind would think that stock options are actually a performance incentive in companies with tens of thousands of employees. Of course if you're in a small biotech with 100 employees hoping to get bought out, large numbers of options would certainly work as an incentive to work your butt off, because the possibility of a pay-out is real, and so is the impact that your increased work hours could have. But does anyone at Pfizer or Merck really think that their work actually has an influence on the stock price ? (I mean, apart from the guys who decide to shut down entire divisions...)

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4. lynn on August 24, 2013 6:20 PM writes...

When I worked at Merck, we published a paper in Science about an antibacterial inhibitor of a novel target - and the stock price went up a point or two, said to be due to that publication. But no - stock options, nor much of any financial incentive made anyone work harder. On the other hand, NOT getting bonuses, options, or raises due to performance evaluations being rated on a curve was a great disincentive.

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5. milkshake on August 25, 2013 4:25 AM writes...

whatever incentives big pharma and biotech uses, they need to be vested over something like 20 years rather than usual 2 years, to avoid the mentality "after me, the deluge". I worked for a company where a troubled candidate was advanced into phase III because the company had nothing better and needed to assuage the investors (and also our potential buyers) after another candidate failed - also late in clinic. This continued development turned out to be a very costly gambit - and I wonder how big a role the stock option packages of the top management played in that original decision-making.

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6. Lu on August 25, 2013 5:37 AM writes...

4. lynn on August 24, 2013 6:20 PM writes...
... performance evaluations being rated on a curve..

Is it really common in the industry? I mean, your performance rating can depend on your coworker's.

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7. Anonymous on August 25, 2013 6:58 AM writes...

If you want a big slice of the upside depending only on your own performance, then start your own company. Because you can't expect any great benefit from success *and* expect others to take the risk of paying you a nice fat salary in the event of failure. No risk, no return, and no free lunch.

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8. Mostafa on August 25, 2013 6:03 PM writes...

Dear Derek,
Sorry for writing an off-topic comment.
I've been a follower for a blog for sometime now and now I'm about to start a PhD in biochemistry, my PhD will last about 5 years.
There are plenty of thoughts crossing my mid these days.
what should I d during these 5 years? should I put my total focus on research papers and academia, build a better C.V. for a good post-doc and become, hopefully, a research associate in some university? what are the advantages of it?
or perhaps I could get an MBA from some school after my PhD (maybe it is a naive thinking, but when I lurk in many VC websites, I see that most of their teams have both a PhD and an MBA) and try to enter one of these VCs as an advisor. is this route even possible or some kind of, lets say, not practical? shoukd I think of starting to work in industry?
or shall I try to start a bio business? (cognizant of the fact that most of them fail).
should I enter into bio investment world?
I know you love writing, since you've been doing it for 10 years now, so please contribute some of your knowledge and advice on this subject matter from a financial point of view) for a student who is to begin his PhD in Life Science, especially biochemistry and molecular biology?
Thanks in advance,
Mostafa

Permalink to Comment

9. Mostafa on August 25, 2013 6:07 PM writes...

Really sorry for the Typos, I sent the message through my cell phone!

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10. Anonymous on August 25, 2013 6:32 PM writes...

Mostafa, develop some IP during your PhD, then start your own biotech company to commercialise it. Best thing I have ever done, and the experience is worth a thousand MBAs.

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11. weirdo on August 25, 2013 6:35 PM writes...

johnnyboy;
Sure, your individual performance is unlikely to move the stock price. But it's not impossible. And your individual performance IS directly linked to how many options you are awarded (hence the Incentive in ISO). (Spare me the whining about how it works in practice. That's how it works at my company, so if doesn't work like that at your company, then move).

Lu: Yes, at many (if not most) companies, performance is graded on a curve. So, yes, it's a zero sum game. (Even if the ratings are not, the bonus and merit increase pools CERTAINLY are zero sum games). How else could it possibly work (for public companies, anyway)? The finance guys need to budget, after all . . .

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12. srp on August 25, 2013 7:19 PM writes...

The article linked is so exclusively focused on the tax issues that it ignores all the selection, risk-bearing, and incentive issues that also ought to go into designing a compensation system. For example, in a labor market where firms offer different mixtures of performance-based compensation and salary, those more optimistic about their abilities and willingness to provide effort, less risk-averse, and/or most confident about the odds of a given company achieving high performance will gravitate to the more incentive-laden plans. These selection effects should not be ignored.

Similarly, the exact basis on which awards are made (and the form of the awards) within the firm will affect individual and collective behavior--a poor design will generate dysfunctions and frustrate performance. Those issues are at least as important as tax treatments.

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13. johnnyboy on August 25, 2013 11:43 PM writes...

@11 weirdo: great advice, thanks ! Tomorrow morning I tell my boss i'm quitting - the options awarding process is just not working out for me.

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14. newnickname on August 26, 2013 7:59 AM writes...

I don't have a complete tally but my gut is telling me that most biotechs fail, at least from the stock OPTIONS perspective. The VCs will look to recoup first; then, anyone in the company with an MBA will take their share; then, maybe there will be some crumbs left over for others to split up.

(I didn't read the cited article, but) Watch out for things like dilution and reverse splits. I seem to recall that Cubist promised newly hired scientists huge blocks of founders' shares and that they would be rich ... someday ... maybe. Those shares were repeatedly diluted and even subjected to some sort of reverse split before they went public.

Cubist is now successful (by many measures), not from their original research plan but from buying the rights to daptomycin and fidaxomicin which were discovered and developed by other companies.

I am told, however, that the early hires got screwed as the value of their promised shares kept shrinking by formulas more related to finance than performance.

@5 milkshake: Many investors want an exit in 2 years or so (although they usually "say" they're in it for the long haul) and non-scientist MBAs are only too happy to accommodate them with unrealistic promises. I have also seen bad clinical research decisions made to appease investors. In one case, the trial was so bad that I am surprised that there were no criminal charges filed.

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15. TFox17 on August 26, 2013 10:33 AM writes...

@Mostafa: Walk away from the PhD now. Even if you spend a year or two figuring out what else to do with your life, you'll still be well ahead of where you'd be if you did the PhD first. Consider an MD, if health and medicine appeal to you. Lots of possible career paths, with a worst case scenario of being a practicing doctor. And you could combine it with a PhD or an MBA.

Permalink to Comment

16. Mostafa on August 26, 2013 12:58 PM writes...

@TFox17 & @Anon; tnx

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