Valeant CEO is the health­care in­dus­try’s high­est-paid ex­ec­u­tive . . . if he meets his num­bers

Modern Healthcare - - NEWS - By Dave Barkholz

Big ex­ec­u­tive pay and poor stock-price per­for­mance make for a volatile mix.

That’s what ex­ec­u­tives are learn­ing at trou­bled Valeant Phar­ma­ceu­ti­cals In­ter­na­tional and hospi­tal chain Tenet Health­care Corp.

The new lead­er­ship at Valeant, CEO Joseph Papa and Chief Fi­nan­cial Of­fi­cer Paul Heren­deen, are health­care’s top­paid ex­ec­u­tives in 2016 at $62.7 mil­lion and $31.4 mil­lion, re­spec­tively, ac­cord­ing to a Mod­ern Health­care anal­y­sis of com­pen­sa­tion fig­ures taken from com­pany proxy state­ments.

But each only worked a par­tial year at Valeant. And un­der Papa, who was re­cruited to Valeant from Per­rigo in May, Valeant’s stock price slid 67% to less than $10 per share. The com­pany ended the year with a $2.4 bil­lion loss.

Ob­vi­ously, some share­hold­ers are un­easy about the re­sults. Valeant’s board this month took the un­usual step of de­fend­ing the com­pany’s pay struc­ture in a spe­cial proxy fil­ing.

In health­care and other in­dus­tries, the trend is to peg com­pen­sa­tion to long-term stock op­tions and other awards that re­quire those ex­ec­u­tives to sus­tain com­pany growth in share price and re­turn on in­vest­ment over a num­ber of years rather than just an­nu­ally, said David Hofrichter, a se­nior part­ner for Aon He­witt’s ex­ec­u­tive com­pen­sa­tion and gov­er­nance prac­tice.

That has the ef­fect of prompt­ing ex­ec­u­tives to put in place ro­bust long-term strate­gic plans for the com­pa­nies they lead by putting fu­ture pay at risk, he said.

Trou­bled Tenet Health­care Corp. says it’s on the road to im­prove­ment with the di­vesti­ture of its At­lanta hos­pi­tals last year and strong earn­ings in its free-stand­ing surgery cen­ter busi­ness. But not all share­hold­ers are buy­ing it.

The In­ter­na­tional Broth­er­hood of Team­sters, whose $100 bil­lion pen­sion and ben­e­fit funds hold a siz­able chunk of Tenet shares, is ask­ing share­hold­ers at the hospi­tal chain’s May 4 an­nual share­holder meet­ing to re­ject the com­pany’s ex­ec­u­tive com­pen­sa­tion plan.

Un­der the 2010 Dodd-Frank Act, pub­lic com­pa­nies must take an ad­vi­sory share­holder vote on ex­ec­u­tive com­pen­sa­tion. The proxy item is known as “say on pay.”

In a let­ter this month to Tenet share­hold­ers, Team­sters Gen­eral Sec­re­tary-Trea­surer Ken Hall says pay for CEO Trevor Fet­ter is set to rise again in 2017, even af­ter Dallas-based Tenet had a dis­mal year in 2016. Hall notes that long-term stock in­cen­tives for Fet­ter, which to­taled $7.3 mil­lion of his $12.4 mil­lion com­pen­sa­tion, will in­crease to $9 mil­lion in 2017 or back to 2015 levels.

He par­tic­u­larly takes is­sue with the low stock-price tar­gets that would grant Fet­ter the at-risk awards. Fet­ter needs to get Tenet’s de­pressed stock price up only 25% any time over the next three years to col­lect the money.

“For a stock that has given up more than 70% since Septem­ber 2014 ... it is not clear this award is a par­tic­u­larly ef­fi­cient or ef­fec­tive means of in­cen­tiviz­ing and re­ward­ing ex­ec­u­tive de­ci­sion­mak­ing,” Hall said.

Tenet shares, which traded as high as $59.43 in July 2015, closed on April 13 at $17.48. The com­pany suf­fered a net loss of $192 mil­lion in 2016 on rev­enue of $19.6 bil­lion.

Tenet de­clined to com­ment on the let­ter and Fet­ter’s com­pen­sa­tion.

But they’d likely be able to make a case for the pay strat­egy. Cur­rently, any­where from 65% to 85% of se­nior ex­ec­u­tive pay at pub­licly traded health­care com­pa­nies comes in the form of long-term stock op­tions and other per­for­mance-based awards com­pared to a frac­tion of that eight years ago, said Mike Hal­lo­ran, a se­nior part­ner spe­cial­iz­ing in ex­ec­u­tive com­pen­sa­tion in the Dallas of­fice of Mercer.

That per­for­mance largely fo­cuses on fi­nan­cial mea­sures, such as prof­its and stock price, he said.

That’s dif­fer­ent from not-for-profit hos­pi­tals and providers, which still rely on base salary for a big chunk of to­tal com­pen­sa­tion, Hal­lo­ran said.

Not-for-profit ex­ec­u­tives, with their duty to the com­mu­ni­ties they serve on a tax-ex­empt ba­sis, are ex­pected to take fewer risks than ex­ec­u­tives at for-prof­its whose first obli­ga­tion is pro­vid­ing a re­turn to share­hold­ers, he said.

Papa and Heren­deen were brought in un­der ex­tra­or­di­nary cir­cum­stances to clean up a mess at Valeant. When they ar­rived, Valeant was un­der nu­mer­ous federal and state in­ves­ti­ga­tions and the com­pany’s share-price plunge was well un­der­way.

Though Papa didn’t cause the slide, he wasn’t able to stop it ei­ther. That’s go­ing to make it harder for him to even­tu­ally col­lect all of the $62.7 mil­lion earned last year.

Ac­cord­ing to the Valeant proxy, $52 mil­lion of the to­tal com­pen­sa­tion is in long-term stock in­cen­tives that he will col­lect over four years if the com­pany’s stock price im­proves. He gets the full amount only if he can nav­i­gate Valeant’s stock price to $60 per share or above over the four years from the $9.48 per share it closed on April 13.

More­over, Valeant paid Papa an $8 mil­lion sign­ing bonus largely to com­pen­sate him for awards he lost for leav­ing Per­rigo, a large generic drug and health­care prod­ucts man­u­fac­turer and dis­trib­u­tor.

That Valeant would de­fend Papa’s per­for­mance and com­pen­sa­tion in a proxy sup­ple­ment says some­thing—that a share­holder or share­hold­ers com­plained about ei­ther the amounts or struc­tures of the com­pen­sa­tion for se­nior ex­ec­u­tives, Hal­lo­ran said. “Some­one’s been crit­i­cal,” he said.

Valeant me­dia and in­vestor re­la­tions rep­re­sen­ta­tives did not re­turn phone calls seek­ing com­ment.

Com­pa­nies that ig­nore share­holder un­ease over ex­ec­u­tive pay are play­ing with fire, said Brian Tan­quilut, se­nior vice pres­i­dent of health­care eq­uity re­search at Jef­feries & Co.

He said ac­tivist in­vestors want­ing to get in­volved in gov­er­nance and try­ing to foist changes on man­age­ment see high ex­ec­u­tive salaries as a red flag that could at­tract other in­vestors to help in their cause.

When it comes to say-on-pay votes, 98% of com­pa­nies get ap­proval on the yes or no vote, with 3 in 4 achiev­ing bet­ter than 90% ap­proval of the bal­lots cast, Hal­lo­ran said.

So when a com­pany falls un­der 70% on the vote, it sug­gests a cer­tain share­holder restive­ness on the is­sue that prob­a­bly de­serves some scru­tiny by the board of di­rec­tors and man­age­ment.

Valeant’s say-on-pay vote was 62% at last year’s an­nual share­hold­ers meet­ing held just be­fore Papa suc­ceeded CEO Michael Pear­son. That gave rise to a board re­view of Valeant’s com­pen­sa­tion struc­ture that led to re­forms, in­clud­ing lower change-of-con­trol payouts and peg­ging more com­pen­sa­tion to long-term in­cen­tives, the com­pany said in its April proxy sup­ple­ment.

“Valeant was dis­ap­pointed that share­holder sup­port for its 2016 say-on-pay vote was 62% but has tried to be proac­tive in so­lic­it­ing feed­back and re­flect­ing it in fu­ture de­ci­sions,” the com­pany said.

Boards set ex­ec­u­tive pay and have shown in­ter­est in peg­ging ex­ec­u­tive pay to at-risk stock in­cen­tives. That can give rise to wide swings in ex­ec­u­tive pay year over year.

Last year’s high­est-paid health­care ex­ec­u­tive was Joe Kiani, CEO of pa­tient-mon­i­tor­ing de­vice maker Masimo. His $119.2 mil­lion in com­pen­sa­tion sur­pris­ingly topped his bet­ter-known coun­ter­parts at other health­care com­pa­nies when he was granted an $111 mil­lion golden para­chute in the event he left Masimo. His prior-year pay was $4.5 mil­lion.

Last year’s No. 2 on the ex­ec­u­tive com­pen­sa­tion rank­ing also in­volved spe­cial cir­cum­stances.

Hori­zon Pharma CEO Ti­mothy Wal­bert pulled in $93.4 mil­lion in 2015 as a re­ward for ex­e­cut­ing a se­ries of mergers with com­pa­nies sell­ing high-priced drugs for rare dis­eases.

On the other side of the spectrum this year, per­for­mance bonuses were lean again for Com­mu­nity Health Sys­tems CEO Wayne Smith and CFO Larry Cash as the two top ex­ec­u­tives at the strug­gling hospi­tal com­pany at­tained just 13% and 15%, re­spec­tively, of their fi­nan­cial and op­er­at­ing tar­gets in 2016.

Smith will re­ceive $640,000 in non­stock in­cen­tive com­pen­sa­tion for 2016, while Cash, who is re­tir­ing in May, earned $255,000. Smith’s to­tal com­pen­sa­tion fell to $5.8 mil­lion in 2016 from $10.4 the pre­vi­ous year, largely as a re­sult of a $5 mil­lion drop in re­stricted stock awards to $2.3 mil­lion in 2016.

Valeant paid Papa an $8 mil­lion sign­ing bonus largely to com­pen­sate him for awards he lost for leav­ing Per­rigo, a large generic drug and health­care prod­ucts man­u­fac­turer and dis­trib­u­tor.

Valeant CEO Joseph Papa

(above) and CFO Paul Heren­deen were brought in un­der ex­tra­or­di­nary cir­cum­stances to clean up a mess at Valeant. When they ar­rived, Valeant was un­der nu­mer­ous federal and state in­ves­ti­ga­tions and the com­pany’s share-price plunge was well un­der­way.

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