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Connell & Partners2013 IPO ExecutiveCompensation StudyA Look at Executive Compensation Pay Levelsand Practices in Recent IPO’s in Human CapitalIntensive Industries
Connell & Partners 2013 IPO Executive Compensation Study Page 2Table of ContentsSection PageIntroduction 3Executive Summary 4Compensation Levels 7 CEO 8 CFO 9 Head of Sales 10Share Usage and Dilution 11Plan Design Features 16 Bonus Plan Design ESPP (Employee Stock Purchase Plan) Severance and Change-in-ControlCompensation Committee Checklist for Pre-IPO Companies 17Best Practices in the Compensation Arena for Companies 19Preparing for an IPOAppendix (Companies Included in Study) 21About Connell & Partners 22 IPO ExperienceBios and Contact Information of Key Team Members 23
Connell & Partners 2013 IPO Executive Compensation Study Page 3IntroductionThe 2012 Connell & Partners’ IPO Executive Compensation Study providesinsight into how recent IPOs in the high technology, biotechnology andalternative energy arenas (all human capital intensive industries) modify thestructure of their executive compensation levels and practices as they transitionto a publically traded company.We have also included our IPO Compensation Committee Checklist and IPOTrends and Best Practices lists at the end of this report to help companies thinkthrough and address the executive compensation challenges associated withbecoming a public company.If you would like to discuss any aspect of this study further, or how we may beof service to your firm, please contact us at: Contact Us or visit us on the web atwww.dolmatconnell.com.Best Regards,Jack ConnellManaging Director
Connell & Partners 2013 IPO Executive Compensation Study Page 4Connell & Partners 2013 Executive Compensation in Recent IPO StudyExecutive SummaryThe transition from pre-IPO to a publicly traded company is significant in many areas,including executive compensation levels and practices. Some of the major areas that changeinclude:Cash Compensation – Cash compensation levels increase for all executives, particularly forthe CEO and CFO.Cash compensation levels increase for all Focus of Studyexecutives, particularly for the CEO and Our study is comprised of 46 companies in theCFO. This is usually because companies high technology, biotechnology andtry to rebalance their total compensation alternative energy arena (the complete listoffering and shift from a heavier reliance can be found in the Appendix to this study) that went public in the year 2011 and haveon equity to a balanced approach of since released proxy data for that year. Weshort- and long-term incentives. With looked at the compensation levels andtheir newly procured cash, there is less of practices in the year prior to their IPO, and inthe need for employees to defer their the year of their IPO to examine the changes.compensation into equity holdings. We examined the CEO, CFO and Head of SalesFurthermore, the additional risk, Positions as these were the three most prevalent positions listed. Other roles did notexposure, shareholder commitments, and have enough data points to be statisticallymanagement of Wall Street expectations, significant. We only used incumbents whois a significant increase in executive were in their roles for the two-yearresponsibility, and the pay levels reflect timeframe.that.Increase Amounts – Increased amounts are generally in the double digits for key executivessuch as the CEO, CFO and Head of Sales.CEO – The median increase for a CEO’s base salary was 14%, and the mean 21%. The targetbonus opportunity as a percentage of base salary had a median increase of 12%, and a meanincrease of 16%. (Note: This is an increase in the percentage of base salary. For example, anincrease from 25% of base to 75% would be an increase of 200%, not 50%. The math of each isas follows—the correct calculation is (75-25=50 then (50/25)*100=200% and not just 75-25=50which is just the delta in the percentages.) The increase in CEO target total cashcompensation was 21% at the median and our group had a mean increase of 36%. Thisnumber reflects the distribution of the change in target total cash among companies thatreported target bonus figures for both the year of IPO and the year prior.
Connell & Partners 2013 IPO Executive Compensation Study Page 5CFO – CFO target total cash compensation increased 16% at the median with a mean of 20%.Base salaries had median and mean increases of 5% and 9%, respectively, and target bonuseshad increases of 6% and 11% at the median and mean, respectively.Head of Sales – Head of Sales compensation (actually the #2 most highly paid executive atthe median vs. the typical CFO or COO role in larger public companies) target total cashcompensation increased 9% at the median with a mean of 16%. Base salaries had median andmean increases of 3% and 6%, respectively, and target bonuses had increases of 8% and 16%at the median and mean, respectively.Bonus Targets – Bonus targets increase and bonus plans shift from primarily discretionaryto more formulaic and goal based.This is because sustained growth in traditional metrics such as revenue and income (andoften earnings per share or EPS) becomes more expected. Public companies also tend to havegreater ability and resources to forecast future performance, thus a more formulaic approachto compensation becomes a viable option once public.Share Usage and Dilution – Equity dilution and the annual stock “burn rate” increases as theIPO approaches.Equity dilution and the annual stock “burn rate” for executive and employee stock plans,which were significant early on in pre-IPO firms, temper as the company approaches laterstages prior to the IPO. Burn rate then increases again as the firm approaches and completesthe IPO due to refresh grants to enhance retention for executives and key employees, andESPP’s are implemented. Once in a public company environment, dilution and overhangneed to be managed relative to institutional investor expectations. “Evergreen” stock planreplenishment is often highly recommended, as it will provide the share pool with flexibilityto make on-going grants to new critical employees, and pre-public is the only time acompany can implement such a plan feature. It is critical to ask for a large enough evergreen(typically 4-5%/year in the industries we studied,) to fund the stock needed per year. Thisdoes not mean you have to use this amount every year as it can be “banked” for future years.Equity Vehicles – Options continue to remain the primary vehicle of choice for pre-IPO/IPOfirms.In the first years after IPO (often 2-3 years out), companies begin to shift away from relyingsolely on stock options to incorporating other stock based vehicles, such as full-value shares.Restricted stock awards or restricted stock units help to manage stock dilution, providedownside protection in the event of moderate to flat growth post-IPO, and provide increased
Connell & Partners 2013 IPO Executive Compensation Study Page 6retention potential. Performance-based awards are still a significant minority of shares used,or not used at all, as companies often have limited performance history to predict multi-yearperformance necessary for implementing these plans.Security Provisions – Severance and Change-in-Control protection helps to provide addedsecurity for the employee and ensure business continuity for the company due to theheightened risk of an IPO.Because of the increased risk of IPO failure and heightened potential for takeover in the firstyears of being a public company, companies will often provide enhanced security throughseverance and change-in-control (“CIC”) arrangements (although still below those in thelevel of more mature public companies). Given the current governance environment, theyusually lack the so-called “egregious” or “problematic” provisions such as single triggers andgolden parachute gross ups (IRC SS. 280(g) AND 4999) that were prevalent many years ago.There is generally some (most common practice is 100% though a few companies have less)acceleration of equity vesting upon a double-trigger (CiC and loss of employment) severance.Severance and CIC levels for freshly public firms are still low when compared to the broaderpublic company environment of 2-3X for the CEO and 1-2X for his/her direct reports.Stock Ownership Guidelines – Formal Stock Ownership Guidelines are a minority practice.Only two of the companies in the sample implemented executive stock ownership guidelines.This differs greatly from most mature public companies who have implemented them, asstock ownership guidelines have evolved into a corporate governance best practice.Companies at such a young stage likely do not feel the need to implement them as most keyexecutives are holding large quantities of stock and are subject to post-IPO lock ups, typicallydelaying insider sales for up to six months post-IPO, and are therefore appropriately alignedwith shareholder interests. Thus, companies typically will wait several years beforeimplementing formal guidelines. Given some of the poor stock price performance of recentIPOs, however, we may begin to see more of a focus on ownership guidelines in the future,as Boards and shareholders look for additional tools to ensure executives remain focused likeowners and are aligned with shareholder interests.
Connell & Partners 2013 IPO Executive Compensation Study Page 7Compensation Levels – CEO and CFO Pay Increases with AdditionalResponsibilities.CEO and CFO compensation changed the most Why do we Illustrate Multipledramatically in the year of IPO, likely in Compensation Changes?response to the significant changes to theirroles. You will notice that when we talk about the various changes in compensation, weOut of all the public company officers, these first present the median and meantwo roles often have the biggest increase in increase in various compensation elements. It is important to differentiaterisk since they now have to sign off on the these increases from the differences infinancial statements under Sarbanes-Oxley, the median or the mean summaryand they also have the additional statistics for each year of data. For theresponsibilities of working with Wall Street increase amounts, we took the differenceand the investment community to generate between the two years of data examinedcontinuing interest in the company. for each individual executive, then presented the median (50th percentile) and mean (arithmetic average) of theCompensation also increases as the companies data set of those changes.no longer, in general, have the cash burnconstraints that they had as private, venture- Now, why do we do this? We feel this isbacked organizations, and therefore can take a the best way to illustrate howmore reasonable and balanced approach to compensation philosophies can adjusttotal compensation by shifting compensation with an IPO, because this group was crafted without respect to size of theinto cash instead of relying on mostly equity. company. On base salary for example, this methodology helps a firm anticipate what a typical base salary increase might look like in the year of IPO.
Connell & Partners 2013 IPO Executive Compensation Study Page 8Chief Executive Officer (CEO) Compensation Changes (Pre- and Post-IPO)The median change in base salary for a CEO from pre-IPO to the year of IPO the year of IPOwas 14% and the mean was 21%. The median change of our sample went from $307K to$383K, or an increase of 25%. For companies that reported annual bonus targets in both years,the median increase in target Total Cash Compensation was 21% and the mean was 36%.Total Cash Compensation reflects base salary + annual target bonus.Some of the bigger names in IPOs also had some of the most drastic changes to their CEOs’pay. LinkedIn doubled their CEO’s cash compensation, with base salary going from $250K to$480K per year, and target total cash from $400K to $818K. On the other hand, Groupon CEOAndrew Mason had his base salary shifted, at his request, from $180,000 to $756.62. Changes in Cash Compensation with IPOElement of Compensation 25th Percentile 50th Percentile 75th Percentile MeanBase Salary Change (%) 3% 14% 28% 21%Target Bonus Change (% points of base) 0% 12% 34% 16%Target Total Compensation Change ($K) 7% 21% 67% 36%Notes:Executives for which target bonus was not available were not figured into target total cash compensation. Fiscal Year before IPOElement of Compensation 25th Percentile 50th Percentile 75th PercentileBase Salary ($K) $282.2 $307.4 $382.0Target Bonus (as % of Base) 35% 50% 80%Target Total Compensation ($K) $404.3 $482.5 $664.2Notes:Executives for which target bonus was not available were not figured into target total cash compensation. Year of IPOElement of Compensation 25th Percentile 50th Percentile 75th PercentileBase Salary ($K) $318.1 $382.5 $450.0Target Bonus (as % of Base) 46% 67% 100%Target Total Compensation ($K) $482.5 $727.5 $834.0Notes:Executives for which target bonus was not available were not figured into target total cash compensation.When possible, executives post-IPO cash compensation is used.
Connell & Partners 2013 IPO Executive Compensation Study Page 9Chief Financial Officer (CFO) Compensation Changes (Pre- and Post-IPO)The median of the changes in base salary for the CFO was 5% and the mean was 9%, withincreasing base salaries from $250K to $285K, or a change at the median of 12%. Annualtarget bonuses had a mean increase of 11% and target total cash compensation had a meanincrease of 20%. Also, there was a slight increase in the premium the CEO receives relative tothe CFO over the time period examined. The average premium for target total cash wentfrom 54% in the year prior to IPO to 65% in the year of IPO. This is likely due to marketpressures for the CEO role, versus a prior focus of more internal equity between executiveswhile still private/VC-backed. Also, the CEO might delay an increase in cash compensationwhile guiding what is often his or her company towards IPO, while CFOs are often broughtin and expect to be compensated closer to the market rate from the outset. Changes in Cash Compensation with IPOElement of Compensation 25th Percentile 50th Percentile 75th Percentile MeanBase Salary Change (%) 2% 5% 13% 9%Target Bonus Change (% points of base) 1% 6% 16% 11%Target Total Compensation Change ($K) 7% 16% 33% 20%Notes:Executives for which target bonus was not available were not figured into target total cash compensation. Fiscal Year before IPOElement of Compensation 25th Percentile 50th Percentile 75th PercentileBase Salary ($K) $221.3 $250.0 $290.0Target Bonus (as % of Base) 25% 38% 50%Target Total Compensation ($K) $302.8 $355.0 $386.5Notes:Executives for which target bonus was not available were not figured into target total cash compensation. Year of IPOElement of Compensation 25th Percentile 50th Percentile 75th PercentileBase Salary ($K) $250.0 $286.0 $309.0Target Bonus (as % of Base) 30% 50% 60%Target Total Compensation ($K) $336.5 $435.0 $500.8Notes:Executives for which target bonus was not available were not figured into target total cash compensation.When possible, executives post-IPO cash compensation is used.
Connell & Partners 2013 IPO Executive Compensation Study Page 10Head of Sales (HOS)The median of the increases in base salary for the HOS was 3% and the mean at 6%. Annualtarget bonuses had a mean increase of 16% and target total cash compensation also had amean increase of 16%. This is actually the #2 position in terms of total target compensation;however, it is a small sample size of 12 and is due primarily to the high targeted bonuses ofnearly 100%, showing the importance of meeting revenue targets once a company goes public.This “targeted compensation” is generally earned in the form of commission, which is paidonly if sales or margin targets are met unlike the “corporate” plans that the CEO and CFO arelikely on. Changes in Cash Compensation with IPOElement of Compensation 25th Percentile 50th Percentile 75th Percentile MeanBase Salary Change (%) 1% 3% 7% 6%Target Bonus Change (% points of base) 3% 8% 26% 16%Target Total Compensation Change ($K) 5% 9% 27% 16%Notes:Executives for which target bonus was not available were not figured into target total cash compensation. Fiscal Year before IPOElement of Compensation 25th Percentile 50th Percentile 75th PercentileBase Salary ($K) $202.8 $225.5 $235.0Target Bonus (as % of Base) 28% 70% 119%Target Total Compensation ($K) $283.6 $331.3 $445.0Notes:Executives for which target bonus was not available were not figured into target total cash compensation. Year of IPOElement of Compensation 25th Percentile 50th Percentile 75th PercentileBase Salary ($K) $208.6 $28.0 $249.0Target Bonus (as % of Base) 50% 98% 117%Target Total Compensation ($K) $350.3 $450.0 $498.5Notes:Executives for which target bonus was not available were not figured into target total cash compensation.When possible, executives post-IPO cash compensation is used.
Connell & Partners 2013 IPO Executive Compensation Study Page 11Share Usage and DilutionCompanies Refresh or Revamp Equity Incentive Plans Pre-IPOAn important step before completing an IPO is to approve a new stock plan and sharereserve, as previous methods of distributing shares to employees will likely have beenexhausted or close to it. Furthermore, it is much more efficient to get plans with the neededflexible provisions, such as annual replenishmentfeatures (or Evergreens), approved in a private company Equity Outstanding – The sumenvironment than with public shareholder scrutiny. The of stock options outstanding andgraph below illustrates the equity outstanding, shares unvested restricted sharesavailable for grant, and the total equity overhang outstanding as a percentage ofpercentiles for the study group pre-and post-IPO. shares outstanding.We examined these figures from each company’s Total Overhang – The sum ofprospectus filing and separated out the new equity plans equity outstanding and shareswhere possible. Many companies will approve the stock reserved for issuance.plan before the IPO and wait to implement itconcurrently with the offering. Others will start using it before the offering. Equity Overhang Pre-IPO Post-IPO 35% 32.7% % of Basic Shares Outstanding 29.6% 30% 26.1%22.5% 25% 23.3% 21.6% 16.9% 20% 17.6% 16.6% 15% 13.4% 13.8% 13.0% 9.0% 8.3% 10% 6.2% 5% 3.8% 1.7% 0.7% 0% PG … PG … PG … PG … PG … PG … PG … PG … PG … Equity Outstanding Shares Available for Grant Total OverhangApproval of the new share plan outweighs the incremental dilution caused by the shareoffering leading to increases in total overhang. “Evergreen” provisions provide for theautomatic annual replenishment of a stock plan’s share reserve by a set amount of shares, apercentage of shares outstanding, or more often, the lesser of the two. These have becomeincreasingly popular, with a vast majority of companies in the study enacting them pre-IPO.
Connell & Partners 2013 IPO Executive Compensation Study Page 12Many companies have implemented Evergreens as a part of their Employee Stock PurchasePlans (ESPPs) as well.The following charts display the breakdown of Evergreens for stock plans and ESPPsaccording to the percentage of shares outstanding providing for in the plans. Equity Plan Evergreen Percentages ESPP Evergreen Percentages 2%+ No 7% 5.0% 28% Evergreen 1% 25% 23% 3.0% 5% No ESPP 4.5% 0.50% 56% 3.5% 7% 2% 4.0% 5% 3.9% ESPP w/o 28% 2% Evergreen 12%We have long recommended between 4% and 5% of shares outstanding for stock planEvergreens, and the data shows this continuing to be the trend. 1% of shares outstanding isthe most popular amount for an ESPP evergreen.Pre-IPO and IPO Equity Grants Remain a Prevalent Practice, with Options Continuing tobe the Vehicle of ChoiceGrants of any type of equity vehicle (stock option, restricted stock award/unit, performanceshare) were awarded by approximately 75% of companies in the year prior to IPO and nearly90% of companies in the year of IPO, indicating that companies are likely “reloading”executives and key employees prior to the IPO. Many of them are presumably nearly or fullyvested with very low strike prices given the length of time that it is taking companies to gopublic these days. Gone are the days of the “initial/new hire” grant prior to IPO and then nofurther grants until post-IPO, which was very prevalent in the dot.com boom of the late 90’s.Approximately 70% of the companies granted stock options in the year prior to IPO andslightly over 75% in the year of IPO. Stock grants (either restricted stock awards or restrictedstock units (RSUs)) were granted by approximately 15% of companies in the year prior to IPOand nearly 30% in the year of IPO. Finally, performance awards (either grant or vestingcontingent on performance hurdles being met) comprised less than 10% of companies eachyear, likely due to the fact that for companies in this stage of growth, it is very difficult topredict and forecast multi-year performance.
Connell & Partners 2013 IPO Executive Compensation Study Page 13LTI DesignVehicles – Stock Options Remain the Most Prevalent Choice of Equity VehiclesStock Options are still far and NEO LTI Instrument Usageaway the vehicle of choice for 100%new IPO’s. In the year of IPO, 90%76% of the participants in the 80%survey granted stock options, 70%while 28% granted RSU’s. This 60%is not surprising given thestrong alignment between pay 50% Prior Year IPO Yearand performance and the direct 40%connection options create 30%between employees and 20%shareholders. Moreover, they 10%are an effective way to rewardemployees in a start up 0% Options Stock Performance Any Instrumentenvironment for theirsignificant hard work and sacrifices prior to the IPO. Additionally, as small, early-growthstage companies they generally have a larger allowable burn-rate by institutional investors,and/or they adopted an Evergreen element to their plan while still private so they do nothave the burn-rate constraints that many larger public companies have and thus are forced touse restricted stock units to manage their share pools more conservatively. Additionally,they often do not have the executive/key employee retention concerns that larger companieswith flat share prices may have; again alleviating the need to deliver RSU’s to increaseretention value. Only one recent public company offered performance-based LTI as mostlikely cannot forecast multi-year financials accurately enough to make them a feasiblealternative.The previous LTI usage chart is for all Top 5 reported officers (not the entire employeepopulation, which likely differs, as this is not disclosed) in the S-1 filings who were in placein their respective companies for both years (year of IPO and prior year). This is likely moreillustrative initially than showing a position-by-position look, which we will look at after thisanalysis as there are some intriguing differences.
Connell & Partners 2013 IPO Executive Compensation Study Page 14CEO LTI Instrument UsageThis LTI usage chart is for the CEO LTI Instrument Usage 80%CEO who was in place in theirrespective company for both year 70%of IPO and the year prior to IPO. 60%46% of the CEOs were grantedstock options in the year prior to 50%IPO and approximately 65% in the 40% Prior Yearyear of IPO. Stock grants (either IPO Yearrestricted stock awards or 30%restricted stock units (RSUs)) were 20%granted by approximately 15% ofcompanies in the year prior to IPO 10%and fell slightly too 0%approximately 13% of companies Options Stock Performance Any Instrumentin the year of IPO. Finally, performance awards (either grant or vesting contingent onperformance hurdles being met) were granted by 7% and 2% of companies each year,respectively, likely due to the fact that for companies in this stage of growth, it is verydifficult to predict or forecast multi-year performance. Grants of any type were made by 59%of companies in the year prior to IPO and 72% in the year of IPO. These figures are all lowerthan the Top 5 reported officers, likely because the CEO has the highest total shares held as apercentage of shares outstanding and thus is least likely to need any “refresher” shares.CFO LTI Instrument Usage CFO LTI Instrument Usage54% of the CEO’s were granted stock 70%options in the year prior to IPO and inthe year of IPO. Stock grants (either 60%restricted stock awards or restricted stock 50%units (RSUs)) were granted by 7% in theyear prior to IPO and rose significantly to 40%15% in the year of IPO (likely to insure Prior Year IPO Yearretention of the CFO and to reflect the 30%significant increase in responsibilities for 20%this position). Finally, performanceawards (either grant or vesting 10%contingent on performance hurdles beingmet) were granted by 4% of companies 0% Options Stock Performance Any Instrumenteach year, likely due to the fact that for
Connell & Partners 2013 IPO Executive Compensation Study Page 15companies in this stage of growth, it is very difficult to predict multi-year performance.Grants of any equity type were made by 61% and 60% of companies, respectively, in the yearprior to IPO and in the year of IPO. This is likely low due to the fact that most VC/PE-backedcompanies do not hire a CFO to take the company public until a couple of years before theIPO, thus there is no need to refresh the shares.Stock Ownership Guidelines – While Equity Grants are Prevalent, Formal OwnershipGuidelines are Not.Only 2 of the companies in the sample implemented executive stock ownership guidelines.This differs greatly from most mature public companies who have implemented them, as ithas evolved as a corporate governance best practice. They likely do not feel the need at sucha young stage as most key executives are holding large quantities of stock and are subject topost IPO lock ups preventing insider sales for up to six months post-IPO. Thus, companiestypically will wait several years before implementing them. Given some of the poor stockprice performance of recent IPOs, however, we may begin to see more of a focus onownership guidelines in the future, as Boards and shareholders look for tools to ensureexecutives remain focused like owners and aligned with shareholder interests.
Connell & Partners 2013 IPO Executive Compensation Study Page 16Other Plan Design FeaturesAnnual Bonus Plan Design – Most Bonus Plans Remain DiscretionaryOf the 46 annual bonus plans, 17 (37%) were formula based, 27 (59%) were discretionary and2 (4%) had no formal plans. Revenue (in 20% of companies) and profitability (net income,EBITDA, etc.), used in 16% of companies, were the most prevalent metrics listed in theCompanies’ Compensation Discussion &Analysis (CD&A) sections of the Proxy. This is notsurprising given that these are typically the two biggest drivers of value creation andexpectations by Wall Street of a new public company.Employee Stock Purchase Plan (ESPP) – ESPPs Remain a Critical Mechanism forEncouraging Employee Ownership40% of the recent IPO’s implemented an ESPP upon IPO. Of those that did, roughly 50%implemented an evergreen feature in the plan with a median replenishment of 1% of sharesoutstanding added to the plan every year. All (100%) also had a “look-back” feature, with anaverage look-back of 6 months, allowing participants to purchase their company’s stock at a15% discount, making these plans a very attractive benefit for the broad-based population.The majority of larger public technology and life science firms have an ESPP, so this is anarea of significant difference between the two types of firms. We suspect that this is due tothe notion that IPO companies typically grant equity more broadly than their more maturecounterparts, and therefore, already have broader ownership levels.Severance/CIC65% of companies in the study offered severance benefits for executives without a change-in-control (CEO and CFO), whereas 82% (CEO and CFO) of companies offered severancebenefits to executives with a change-in-control.The median cash payment to a CEO upon a separation without a CIC was 6 months of salary,including non-receiving. The median was 12 months for those receiving. For a separationwith a CIC (all double-trigger), the median was 12 months, including non-receiving and themean for those receiving was 12 months. For the CFO, the median without a CIC was 6months, including 0’s and 12 months for those receiving.
Connell & Partners 2013 IPO Executive Compensation Study Page 17Compensation Committee Checklist for Pre-IPO CompaniesThe compensation changes outlined in this white paper are only a fraction of what theCompensation Committee must address as it prepares for an IPO. Here below are additionaltopical areas the Compensation Committee should be thinking about as a firm iscontemplating going public in the near future. If companies can address these issues as earlyin the run up prior to the IPO as they can, they will be rewarded with more flexibility onshare usage, compensation expense forecasting, disclosure, and potential for increasedperformance to help drive the business strategy. They will also have a more strongly writtenCD&A, with fewer comments, that need to be responded to, by the SEC.Overall Determine roles and decision rights of employees (HR, Finance) and consultants in developing executive compensation programs. Assess current compensation consultant, including independence and potential conflicts of interest. If you do no not currently have a consultant, hire one before the IPO. If you do, assess current consultant and select for next year ensuring the firm is as strong in a public company environment as it is in a VC-Backed environment. Develop an executive compensation philosophy (including program objectives, pay positioning, mix, types of vehicles, etc). Develop a defensible Peer Group of comparable public companies. Review competitiveness of executive compensation. Set competitive compensation levels (base, target bonus, equity/long-term incentive awards, perquisites/benefits and total direct compensation).Short-Term Incentive/Bonus Plans Determine overall strategy and framework (e.g., financial goals, milestones, discretionary, frequency). Select financial performance measures and individual / MBO goals. Calibrate financial performance targets versus market/street expectations, internal budget, and Peer Group performance. Develop formalized Short-Term Incentive Plan document.
Connell & Partners 2013 IPO Executive Compensation Study Page 18Long-Term Incentive Review / develop a long-term incentive strategy including appropriate instrument use / mix. Develop an LTI award matrix with values and participation rates for all employee levels. Determine if an “Evergreen” provision will be used. If so, determine appropriate evergreen size. Set equity utilization (share run rate) budget for coming fiscal year. Determine if any IPO awards will be made to top executives and key employees. This will be key to do if most or all of current awards are fully vested as the company thus has little or no retention capability. Discuss and potentially implement executive and Board share holding/ownership requirements.Employment, Severance, and Change-in-Control (CIC) Arrangements Review existing employment, severance, and CIC agreement terms and conditions and potential payouts. Complete a competitive analysis of key terms for employment, severance, and CIC agreements and set terms going forward based on the market and overall pay philosophy. Ensure all “egregious” pay provisions are removed from any existing agreements or a commitment is made in the CD&A to grandfather in existing executives but not have any egregious provisions in any new agreements going forward.Governance Develop or amend (as needed) Compensation Committee charter. Draft Compensation Discussion & Analysis (CD&A) and accompanying tables for S-1 and Proxy. Compensation risk assessment. Review and set Board of Directors compensation for the following year. Set equity award approval process, including what authority, if any, will be delegated to management. Formalize policy regarding award grant timing.
Connell & Partners 2013 IPO Executive Compensation Study Page 19Best Practices for Companies Preparing to IPOIn working with many Compensation Committees for firms that are going to IPO, weconsider these to be “best practices” in the marketplace: Compensation Committee selects and has an independent executive compensation consulting firm work for it -- a firm that does no other work for the management of the company and whose consultants have no personal (e.g., non-business ) relationships with the Board. A named Peer Group of public company comparables (for executive compensation purposes) exists that is similar in terms of industry, revenues and market capitalization so the executive compensation decisions are reasonable, appropriate and defensible (if challenged by institutional investor advocacy groups). o Ideally 15-20 firms o Company at or near the median of proposed group of companies in terms of both revenues and market capitalization. Executive compensation levels are within market norms (defined as 25th to 75 th percentile of the Peer Group and any surveys that are used). o Longer-term, CEO pay levels need to be supported by company performance, most notably TSR. The company should adopt an “Evergreen” provision in its Equity plan pre-IPO which will be the only time that this is feasible. o Ensure evergreen is large enough to support annual ongoing equity grants and any M&A activity that may occur– typically in the 4-5% range for human capital intensive firms such as high-technology, biotechnology and alternative energy firms. o Having a 4-5% pool become available every year does not mean the firm has to use all of those shares – they simply become available for grant and may be “banked” for future use. Implementing too small of an evergreen will cause it to have to be discarded, as it is seen as an egregious compensation practice for mature companies by Institutional Shareholder Services (ISS) who would vote “no” on any stock request with such a provision. o Market (Peer Group) median annual burn rates and dilution levels will have to be achieved over time (the numbers fall as the Company gets larger/more mature).
Connell & Partners 2013 IPO Executive Compensation Study Page 20 Remove any “egregious” executive compensation practices so that they are not “red flags” to ISS and similar advisory firms providing counsel to Institutional shareholders: o No gross-up provisions in severance/change-in-control arrangements. o Double (i.e., CIC and termination/material change in employment relationship) versus single trigger change-in-control arrangements. o Excessive executive benefits and perquisites (not typically found in firms that are going to IPO). Were typical in larger public companies. Firm is prepared for a Say-on-Pay vote after being a public company. Conduct a compensation risk assessment and include the results in the CD&A. Ensure key management and other employees are “locked in” for the foreseeable future through equity refresh grants prior to/concurrent with the IPO, as the time to IPO/exit has extended and that may mean that many people are or are near fully vested upon IPO and therefore there is no retention capability. The best way to look at this is through a “carried interest” analysis that looks at “in the money” value of awards not vested under various stock price scenarios. Have a succession plan in place for the CEO so management continuity is ensured should something unfortunate happen to him/her. This is becoming a market governance best practice, plus it is far cheaper and less dilutive to shareholders to promote from within that to recruit a new CEO.
Connell & Partners 2013 IPO Executive Compensation Study Page 21AppendixThe companies included in the study are as follow along with summary financial statistics ontheir size:Median revenues (Last 4 quarters before IPO was $75.3M with a 25th percentile of $15M and a75th percentile of $184M). Market capitalizations upon the market close on the date of IPOwere a median of $513M, a 25th percentile of $268M and a 75th percentile of $1.05B.ACELRX PHARMACEUTICALS INC RESPONSYS INC.ACTIVE NETWORK INC RPX Corp.ANGIES LIST INC SAGENT PHARMACEUTICALSBANKRATE INC SERVICESOURCE INTL.BG MEDICINE INC SKULLCANDYBOINGO WIRELESS INC SYNERGY PHARMACEUTICALSCARBONITE INC TANGOECLOVIS ONCOLOGY INC THERMON GROUP HOLDINGSCORNERSTONE ONDEMAND INC TRANZYMEDEMAND MEDIA INC ZELTIQ AESTETICSDIGITAL DOMAIN MEDIA GRP INC ZILLOWELLIE MAE INC ZIPCARENDOCYTE INC ZYGNAFLUIDIGM CORPFREESCALE SEMICONDUCTOR LTDFRIENDFINDER NETWORKS INCFUSION-IO INCGEVO, INC.GROUPON INCHOMEAWAY INCHORIZON PHARMA, INC.IMPERVA INCINTERMOLECULAR INCINVENSENSE INCJIVE SOFTWARE INCKIOR INCKIPS BAY MEDICAL INCLINKEDIN CORPMEDGENICS INCNEOPHOTONICS CORPNEWLINK GENETICS CORPPACIRA PHARMACEUTICALS INCPANDORA MEDIA INC
Connell & Partners 2013 IPO Executive Compensation Study Page 22About Connell & PartnersConnell & Partners is an independently run division of Gallagher Benefits Services whichitself is a division of Arthur. J Gallagher (NYSE:AJG) dedicated to providing independent,insightful, and innovative advice in all areas of executive compensation and Board ofDirectors remuneration. We meet all of the independence requirements required by the SECunder the Dodd-Frank Act.At a time of unprecedented scrutiny of executive compensation programs, Connell &Partners delivers the independent advice required in today’s demanding governanceenvironment. We have no benefits brokerage, HR outsourcing, insurance, actuarial, ormanagement consulting conflicts and no cross-selling pressures.Our consultants draw on their significant consulting and corporate experience to provideinsightful advice to a wide range of clients, including venture-backed start-ups and Fortune500 companies. Connell & Partners offers expertise that rivals our largest competitors withthe innovative, tailored advice and exceptional client service associated with a dynamicconsulting boutique.We welcome the opportunity to introduce you to our firm and to discuss how our servicesmay benefit your organization.Our IPO ExperienceSince we founded the firm in 2005, we have worked on over 100 successful IPOs, includingseveral of the most successful in the last few years: BroadSoft (BSFT) in 2011, ProtoLabs(PRLB) in February of 2012 and Millennial Media, which raised its price target from $9-$11 to$11-$13 and then debuted at $25/share. We also did the work for Kiva Systems, which sold toAmazon for $775M in cash and several other historically very successful exists, includingEqualLogic (sold to Dell for $1.4B prior to IPO, the highest cash price ever paid for a privatecompany), Starent Networks (sold to Cisco for $2.9B or a 20% premium over its share price atthe time), PhaseForward (sold to Oracle), BG Medicine, and BladeLogic (sold to BMC) toname a few. We also worked with EnerNOC, BG Medicine, Actelion, MomentaPharmaceuticals, and Acceleron. Our work with all of these firms continued after they werepublic until they were acquired. We sold the firm to Arthur J. Gallagher (NYSE:AJG) in 2010so you still get all of the benefits of an independent boutique with the resources of a muchlarger firm behind it.
Connell & Partners 2013 IPO Executive Compensation Study Page 23We also were named by Equilar (the executive compensation research firm) in 2012 as theexecutive compensation consulting firm having the 2nd highest rate of 3-year totalshareholder return in its clients for 2011. Clearly, the most successful firms work withConnell & Partners.Our Bios and Contact InformationJack ConnellJack is Founder and founder and Managing Director of Connell & Partners, Inc., anindependently run division of Gallagher Benefits Services (GBS), itself a division of Arthur J.Gallagher (NYSE:AJG). Jack is a nationally recognized expert in executive compensation,incentive plan design (short-term and long-term), linking pay and company performance,and total reward strategy development. He works with organizations ranging from start-upsto Fortune 50 companies. He has worked on over 100 IPOs over the course of his consultingcareer. He focuses on industries with intensive human capital needs, including hightechnology and life sciences. He also has special expertise in mergers and acquisitions, andturnarounds.Jack has significant experience at both consulting firms and corporations, and brings bothperspectives to his work when advising clients. His consulting experience includes serving asManaging Director and National High Technology and Life Science Practice Head for PearlMeyer and Partners, Managing Director and East Coast Practice Leader for iQuantic,Managing Director and National Consulting Practice Leader of The Wilson Group, andPresident and Founder of Solutions at Work. His corporate experience includes serving asSenior Vice President of Global HR for Geac Computer; Senior Director of Compensation,Benefits, and HRIS at Avid Technology and Stratus Computer; and various HR, andcompensation and benefits roles at Digital Equipment Corporation and Data GeneralCorporation.He earned a Bachelors Degree in Economics from the University of Michigan and an MBA inOrganizational Behavior and Corporate Strategy from the University of Michigan RossGraduate School of Business. Jack has also been an adjunct professor at Bentley College andBabson College, and an instructor for WorldatWork.Jack has published more than 40 articles and book chapters, including articles in Forbes,WorldatWork Journal, Chief Legal Executive, Mass High Tech, and Boston Business Journal.He has been quoted extensively in such publications as The Wall Street Journal, BusinessWeek, CFO Magazine/CFO.com, Red Herring, USA Today, The San Jose Mercury News,Corporate Governance News, Employee Benefits News, and Compliance Week. Jack speaksregularly at many national and regional conferences.
Connell & Partners 2013 IPO Executive Compensation Study Page 24Justin FossbenderJustin is a Principal Consultant for Connell & Partners. He is responsible for client deliveryand business development for the firm.Justin brings a balanced perspective to clients, having both significant consulting and in-house, corporate senior leadership experience. He has been responsible for client service,delivery and business development on the executive compensation consulting side at Hewitt,now AonHewitt, Fred Cook & Company, and Watson Wyatt (now Towers Watson). He hasalso led significant change management initiatives through his leadership of thecompensation, benefit, talent management and HR technology functions as Vice President ofTotal Rewards at Millipore Corporation, a $1.7B leading-edge Life Science Company, untilMillipore’s acquisition by Merck, KGaA and then Senior Director of Total Rewards, HRIS andTalent Management at VCE, The Virtual Computing Environment Company, a joint venturebetween EMC, Cisco Systems and VMware focused on cloud computing.Through Justin’s consulting and in-house leadership experience, he has provided strategicadvice and counsel to Senior Management and Boards of Directors across all aspects of theexecutive compensation area, including compensation strategy and philosophy development,short- and long-term incentive plan design, M&A, employment arrangements, retention plandesign, communications, and corporate governance.Justin graduated from Columbia University with a Bachelor of Arts degree. He thenobtained a Juris Doctor degree from New York Law School. He is licensed to practice law inthe state of New York.David DreyfusDavid is a Managing Consultant for Connell & Partners. He is responsible for day to dayproject management and quality control for many of our clients.David began his career in the Business Analyst program at Capital One Financial Corp. Heworked on the Sales Strategy and Analysis team in the Point of Sale Finance Division inFramingham, MA. There he designed and implemented the sales compensation plans. Healso worked on the Workforce Planning team at Vistaprint, N.V. in Lexington, MA, apublically traded e-commerce company.
Connell & Partners 2013 IPO Executive Compensation Study Page 25David graduated from the Olin Business School at Washington University in St. Louis with aBachelor of Science in Business Administration. There he double-majored in Finance andEconomics.Contact InformationJack Connell Justin Fossbender David DreyfusManaging Director Principal Consultant Managing Consultant781.647.2739 781-496-3406 firstname.lastname@example.org email@example.com firstname.lastname@example.orgVisit our website at www.dolmatconnell.com or visit/follow us on social media at:LinkedIn: http://www.linkedin.com/profile/view?id=2406443&trk=tab_proTwitter: https://twitter.com/execcompconsultFacebook: https://www.facebook.com/ExecCompConsult