What Are You Worth?

‘Tis the season – to be holding Compensation Committee meetings. This board committee is perhaps the most important committee – all investor directors want to be on this committee. The yearend review process is fraught with misgivings and misunderstandings as boards must review the team’s performance against a set of objectives developed 12 months ago.

Yesterday I received from Wachtell, Lipton, Rosen & Katz – one of the most preeminent Wall Street law firms – an 81-page document entitled Compensation Committee Guide, which underscored the increasing pressure on directors to be diligent when it comes to compensation matters. Granted the focus was on public company boards but the juxtaposition of that standard to how many private, venture-backed boards operate was disturbing.

Before sharing some fascinating compensation data I will offer perhaps obvious dynamics which risk creating a dysfunctional board when it comes to compensation matters.

  • Directors strive to maintain close working and personal relationships with senior executives yet need to respect the cash-strapped nature of venture-backed companies and the pressures to reign in compensation costs. “Cash is king” with many board directors. Focus on burn rate is very high in this environment when financing rounds are so hard to get done.
  • Increased regulatory and accounting burdens on many of the traditional compensation tools make for a confusing minefield of plans and structures.
  • Developing a compensation philosophy that is aligned with everyone’s best interests at heart – nearly impossible. In fact one observation I would offer is that over the last 3 years there has been a “devaluation” of founders stock and equity in general – just “show me the cash” philosophy with many executives – when hoarding cash on companies’ balance sheets has never been at such a premium.
  • What is the best framework and how should one weight individual versus corporate goals? Often times objectives set at the beginning of the year are irrelevant by year’s end so how does one acknowledge and reward accomplishments not even in the plan of record? Ideally these frameworks are not meant to be formulaic but rather a tool to inform boards what earned bonuses and stock grants could look like.
  • Succession planning and the development of a deep bench.
  • And then there is the “Revolution of Rising Expectations” as invariably executives feel that their performance is outstanding when directors may not see it the same way. Missing revenue by 10% is still a miss – even in this hostile economic environment. Google’s 10% across-the-board salary increase certainly put pressure on those discussions.

In preparation for the last two months of meetings I studied a number of compensation surveys and there were some fascinating insights – too many to include – again which I will share.

  • The Hay Group reported that in 2010 average salaries increased 2.4% and they are projecting that salaries will increase 2.8% in 2011. Between 2005 and 2007 – pre-crisis – average salaries increased around 4% per annum.
  • J. Robert Scott (which provides a very comprehensive compensation survey by position/region/size of company – get your hands on it) projected that life science salaries will increase on average 3.6% this year.
  • 18% of companies last year had a “pay freeze” and 4% actually lowered salaries.
  • On average life science executives in venture-backed companies earned ~25% more in current compensation when compared to IT executives (perhaps helping those people pay off all their advanced degrees).

When I consider how the Compensation Committees I am on performed, I am certain we would not have achieved all of our objectives. My partners and I continually push on “best practices” for our board obligations and, as such, there are a number of things we do each year.

  • We rank order all our CEO’s across a number of dimensions: Industry Expertise, Vision and Creative Thought, Ability to Raise Capital, “Pied Piper,” Manage Operating Plan, and “Clock Rate.” We do this to highlight where we believe teams may be deficient but also to see what resources the Flybridge partnership can bring to bear to ensure success. This is a very illuminating exercise.
  • We, too, have developed a proprietary compensation survey which we provide back to all our management teams so they can see what data we are looking at as we develop compensation recommendations.
  • I encourage many of the CEO’s I work with to map each of their direct reports on a matrix – Performance vs Potential – in part to call out where focus and attention needs to be placed but also to highlight key executives on the bench who can take on more. “Ok, everybody, up and to the right!”
  • Provide written CEO feedback. Not all the boards I am on embrace this philosophy but I encourage it as a forum to sort through any latent unhealthy board dynamics as well as to provide hopefully constructive performance feedback to the CEO.
  • Detailed analysis of vested vs unvested stock grants to highlight the “hold” – that is what is each executive team member working for. It is also equally as helpful to look at the “dollars at work” – which is the implied value of the equity each team member holds.

The better VC’s certainly understand that VC’s only make money when the people we back make money – or at least feel like they have the potential to make a lot of money. It is somewhat surprising that this important issue is only really addressed once a year – and even then, at times, in a cursory manner.

4 Comments

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4 responses to “What Are You Worth?

  1. Hi Michael. Do VC firms use Comp Committees (say, composed of LPs or Advisors) or any type of general partner comp review that is not managed by the partners themselves?

  2. not to my knowledge. when LP’s commit – and occassionally when there are issues – they will certainly ask about the compensation scheme – particularly the distibution of carry – but not like Comp Committees of boards you and I know. Some firms are “budget based” where rather than getting a flat percent of assets under managment the GP’s get paid pursuant to an approved budget.

  3. Pingback: Biotech executive’s pay premium vs Tech: more cash, less equity

  4. Pingback: Biotech Executive's Pay Premium vs Tech: More Cash, Less Equity - Forbes

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