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

Posted July 5th, 2011 in Uncategorized

Compensation in startups is a subject where vague notions of the right comparable benchmarks (“the market rate”) and organizational inertia (“that’s what we’ve done before…”) come together to prevent useful transparency.

Mountains of data are thrown at comp committees to determine the next year’s salary increases, bonus awards, new hire matrices, equity targets, etc…  Most of it gets filtered through the lens of a company’s “compensation philosophy” to focus on how (un)-competitive a specific comp package might be.

Having recently looked at the data, what’s clear to me is that at a macro level the Biotech startup compensation philosophy is quite different than that in Tech startups. And it’s not always clear why.

In short, as others have noticedBiotech startups pay more for their senior teams than Tech startups. And Biotech apparently favors cash over equity.

I’ve reviewed the 2010 J. Robert Scott and Thelander surveys and the same trend exists in both.  Here’s the snapshot of the data on cash compensation for CEOs:

  • Median non-founder CEO cash compensation (salary + bonus) in 2010 was 24-39% higher in Biotech than Tech, nearly $100K more per year (range depends on the survey).
  • A common refrain is that the difference exists because of age: founders in Tech startups are ’20-somethings’, whereas in biotech they tend to be mid-career executives.  This is probably true, and explains why Biotech/LS founding CEOs make nearly 60% more than their tech counterparts.  But the non-founder numbers above represent the more seasoned non-founding pool of CEOs on the Tech side, so it’s not about age – it’s about the compensation culture.
  • Interestingly, this differential compensation holds through an IPO. Using CapIQ to compare Biotech and Tech IPOs from 2006-2010, I found that the age of the CEOs are roughly the same (median of 51 and 47, respectively), but Biotech cash salaries in the first year of being public were 20% more.  But in the first few years following an IPO, the difference disappears as Tech salaries catch up.

The flip side to this difference in cash comp is the difference in equity ownership:

  • At the median, non-founding and founding Tech CEOs in 2010 have 15-30% and 270% more equity than their Biotech counterparts, respectively (5.2% vs ~4.0% fully diluted median ownership).  The non-founding CEO numbers are the difference that’s most surprisingly to me: similarly seasoned executives take less cash in exchange for more equity.
  • Around the time of their IPOs, the median Tech CEO had nearly 50% more equity during the 2006-2010 period

Clearly it’s more of an equity-led compensation culture in Tech.  There are lots of possible reasons for the more cash, less equity” culture in Biotech:

  • Seasoned executives from Pharma with lots of advanced biomedical degrees have expensive comp packages to compete with (though I’m sure Microsoft and Google pay their senior executives handsomely)
  • The perception that equity capital intensity (dilution) and timeline to liquidity are traditionally larger/longer in Biotech leads to lower premium for equity
  • The relative risk tolerance in the Biotech recruitment pool may be lower than for Tech (maybe)
  • A systematic bias in survey reporting by biotech executives to push up compensation numbers (joke)…

Many of these make sense, and I’m sure other reasons exist.  Frankly, it doesn’t trouble me that our CEOs are well paid: at the end of the day, we recruit from a finite pool of CEOs and want our startups to have the best leadership possible.

But the more bothersome statistic for me in the comparison with Tech is that this “more cash, less equity” difference exists for the entire senior non-scientific team: COOs, CFOs, CBOs/Heads of BD, and even Controllers all get paid 20-30% more in cash compensation in Biotech vs Tech.  And most are 10-20% lower on equity than their Tech peers.

Now some of these roles (CBO and perhaps COO) exclusively recruit from bigger Pharma/Biotech backgrounds and often have strong science components, so that creates a higher cash comparable for sure (if you believe that’s a reason for the CEO difference).  And I certainly want Pharma-experienced, well-connected BD exec’s out driving deals for our companies.

But I’m not sure why this comp difference should be the case across the board, especially for roles like CFOs, VPs of Finance, and Controllers.  These roles are just as often from accounting firm backgrounds as they are LS operating companies.  Are the financial reporting requirements of Biotech so unique as to demand a premium for finance skills?  I’m sure esoteric issues around R&D expenses and such exist, but esoteric issues in Tech, like revenue recognition issues with software licenses, are also complicated.

So why does this “pay premium” exist in biotech across the board?  Part of it is clearly the ‘compensation culture’.  But my belief is that it’s more to do with organizational inertia.  We tend to use the same self-reinforcing sector-specific comp surveys to “establish” what the market rates are, we apply our “this is the way everyone does it” filter, and we fail to look outside our sector for more generalist skills.  Furthermore, we compare across the executives on a senior team and invariably compensation parity issues arise.

It’s interesting to note that J. Robert Scott’s Comp Study captures the Head of Human Resources role and, in contrast to these other roles, it’s exactly the same across Biotech and Tech.  At least HR can claim to have an efficient market-clearing price for its cross-sector skill set…

I think we as a sector should reflect on whether the “more cash, less equity” culture is one we should be reinforcing.What would happen if we shifted it to be more Tech like? Would our companies become more capital efficient, less willing to take on dilution with bigger rounds?  An interesting thought experiment.

I also think we should be more thoughtful about how we think through market comparables, especially for non-science roles.  We shouldn’t strive for being top quartile in comp across the board if that just means across the board inflation. We should also be a lot more creative with regard to tricky HR issues (e.g., title inflation, time-based vesting schedules, value-based adjustment of matrices, cash bonus targets from loss-making companies, etc…).  We shouldn’t use the crutch of “that’s how others do it” as a reason to legitimize a long-standing but inefficient compensation practice.  I have lots of opinions on more creative HR strategies, but let’s leave this post to just compensation issues for now.  More to come.

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  • Derek

    Love this post.  My guess is that it boils down to a few factors:

     – True value in Biotech is harder to generate via execution, and there is little that can be done to overcome the inherent risk in biology.  Making successful drugs is extremely difficult, as predicting how patients will react to a particular drug is extremely challenging.  If you are a CEO and this won’t be answered for 6 – 10 years (mid-clinical trials) “more cash now” seems like a logical choice.  (Especially in terms of competing offers!)

     – The pool that CEOs are drawn from is small, and the value of experience in having done it before is very very high.  While it is exceptionally difficult (impossible?) to define clinical risk, the pool of people who have demonstrated the ability to build effective teams and organizations in the crazy biotech world are few and far between.  Hence, the immediate vlue is high.

     – Scientific Founders can often be academics, and are also likely to be replaced as CEOs when investors put money into the company.  As biotech has a greater proportion of VC funding, it is also perhaps relevant that VCs are driving some of the deal terms?

    Could it be more like tech? Yes, I think so, although I think this has to be CEO-led and not VC-led.  There needs to be the belief and buy-in from the CEO that he or she believes that they can create value and are willing to take the required salary cut. 

    I think there is a significant amount of value to be created from people who can efficiently take scientific innovations into biotech – be it through new technologies or execution/strategy in clinical development.  With the patent cliff and all of the general problems facing big Pharma and biotech, there are no shortages of opportunities . . .

  • Chacao_100

    Great post.  Could it be that the success rate of biotechs is so low that executives have little faith in those options? Just give me the cash now…. 

  • CpgGuy

    The high salaries for LS CEOs may be partly because you are competing with pharma, who generally pay quite well for Sr. talent, and partly as mentioned below that an experienced LS CEO typically has several decades of working in different parts of the industry, and the pool of folks who’ve succeeded consistently is pretty small.  As for the disparity in equity compensation, is it possible that this is partly driven by the much lower probability of a 10X increase in value for the equity of a LS company compared to a tech company?  Even a great CEO who does everything right in LS may not be able to drive a large increase in share value, compared to what is relatively common in tech startups.  So although it still should cunt for a lot (!), the equity is relatively less important. 

  • Anonymous

    Art – agree that we compete with Pharma for LS CEO compensation, but I suspect on the Tech side that Microsoft, Oracle, Google all pay quite well for good talent too. On the equity front, it could be driven by that perception, but over the past decade LS has had 2-fold higher frequency of 5x+ hits than Tech. I think the timelines and high capital requirements (hence dilution) play a big role in this…

  • Anonymous

    I certainly hope that’s not the case!

  • Anonymous

    Thanks Derek. Good comments. Not sure I agree completely with the statement that ‘true value in biotech is harder to generate via execution’. Great execution delivers an outcome in a capital efficient manner – a good foundation for healthy returns. Yes there’s biology risk but good execution at least lets you test the hypothesis cleanly.

  • baobab

    Another relevant factor is the differing degree of executive control vs. technical and regulatory risk in tech vs. biotech. Most tech [excluding hardware] doesn’t have much potentially fatal technical risk or regulatory involvement. Many biotech companies have enormous all-or-nothing technical / clinical risk, along with uncertainty around the regulatory process. Tech executives have far more control and ability to make or break the company, while even the best biotech executives can fail through no fault of their own. Thus tech executives are essentially betting on themselves with equity stakes, while biotech execs use higher salaries and smaller stakes to insure against the risk of technical / regulatory failure.