Internet Compensation Increasingly Resembles Traditional Packages

In a continuing effort to enhance management team performance during turbulent times, Internet companies are now employing more creative executive compensation packages that include aggressive equity participation and more comprehensive employment agreements, according to a survey by Unifi Network.

The “Internet Compensation Survey: 2001” by Unifi Network, a subsidiary of PricewaterhouseCoopers LLP, found that online companies are rewarding top executives with aggressive cash and equity compensation packages. Seventy-one percent of executives surveyed received an increase in total cash (base and bonus) compensation over the previous year — primarily a result of higher bonus payouts.

In general, of executives that received an annual bonus, the median increase was 82 percent over their previous year’s bonus amount.

“This increase demonstrates that some Internet companies are tying pay to performance through variable pay bonus programs to drive an organization’s top and bottom line performance,” said Edward Speidel, a director in Unifi Network’s Compensation Practice. “This is particularly true in light of the industry’s emphasis on reducing losses and increasing profitability, requiring a disciplined and focused management team.”

But the survey also showed that not all companies are tying bonuses to performance. In some cases, cash bonuses were used as a retention tool, since many executives found themselves holding significant amounts of underwater options. This was particularly the case where a strong need to retain and motivate executives to implement a company-wide turnaround required more than increasing or repricing option grants.

Equity remains a significant component of executive pay packages. In prior years, rising run rates (the annual total number of options granted to employees as a percent of total shares outstanding) were products of increased equity usage used to attract key new hires as companies staffed their organizations. But this year equity run rates increased as a result of companies making additional grants to employees to compensate for underwater options. Although the value of executives’ option holdings has declined substantially, the number of shares held by executives have increased.

The industry’s high overhang (which is an indication of potential dilution that shareholders will face) is a result of many employees being unable to exercise options that were granted at strike prices significantly higher than the current value of the stock. Significant employee turnover and uneven exchanges or repricing of underwater options in the past year, has helped to control overhang and refresh option pools through recovered canceled shares.

The use of equity at the Board level also increased significantly over the past year, while the practice of offering a compensation package to Board Members composed of both cash and equity decreased.

Another reason for more traditional compensation packages may be the increase of traditional executives filling the top five executive positions at many of the companies. Salary increases were up a median of 17 percent this year, and the use of employment agreements providing for change-in-control protection was more prevalent.

“As the ‘New Economy’ matures, we find that New Economy companies are learning from traditional companies as far as using performance metrics tied to an organization’s strategic goals,” said David Hofrichter, a Unifi Network Principal and the National Compensation Practice Leader. “Internet companies are restructuring their compensation programs to motivate their executives, just as traditional companies are learning to include more employees at all levels with a variety of compensation tools.”

Overall, 98 public Internet companies were represented in this year’s Unifi study compared to 123 last year. The decline in the number of companies surveyed in comparison with last year’s study was the result of numerous business failures, mergers and acquisition activity. For the remaining companies surveyed, market capitalization for more than 90 percent of those companies that were reviewed had decreased by an average of 80 percent.

According to data compiled by Webmergers.com, the first half of 2001 accounted for nearly 60 percent of all Internet-related shutdowns to date (555 since January 2000). More than nine times as many companies shut down in the first half of 2001 as in first half of 2000 (330 in 2001 vs. 36 in the same period in 2000).

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