Editor’s Note: This article, Part 2 of a two-part series, is excerpted from “The Continuing Evolution of the Pharmaceutical Industry: Career Challenges and Opportunities,” published in December 2007 by Michael Steiner and colleagues at RegentAtlantic Capital, LLC. Where Part 1 offered an overview of the issues shaping pharma, Part 2 focuses on individual career and financial planning.
Given the changes transforming the pharmaceutical industry, summarized in Part 1 of this article, every pharmaceutical industry professional must develop a career strategy that takes advantage of his or her unique human capital. This type of career planning is a very personal activity involving many variables and can be quite complex. There is no “one-size-fits-all” career planning strategy, but here are some prerequisites.
Assess Your Tolerance for Risk
From a top-down perspective, the pharmaceutical industry today is similar to the structure shown on the left side of Figure 1.
Over time, we believe that it will more resemble the structure on the right. Much of the growth in the numbers of small companies and independent contractors in the future will result from pharmaceutical companies embracing outsourcing on a much grander scale. Many future employment opportunities will be with smaller companies and contractors.
Determine Your Best Culture
An important step in any individual’s career planning process is determining which type of corporate culture offers the best personality fit for the employee. Despite the challenges that we outlined in Part 1, large companies will continue to offer excellent long-term careers in the pharmaceutical industry. However, the cultures of large pharmaceutical companies will change as their business models evolve, de-emphasizing R&D and increasing focus on marketing and sales and short-term, rather than long-term, results.
Assess Risks vs. Rewards
Understanding the risk involved in each employment opportunity, as well as one’s ability to bear risk, is paramount. All career choices involve some degree of risk. Everyone in the industry knows of someone who joined a start-up and made millions of dollars. What is often not discussed, however, is the risk that the individual took in pursuing this type of career opportunity.
Only about one in five venture-backed biopharmaceutical start-ups succeed. This issue of risk — and one’s ability to bear it — often becomes a dominating factor when making career choices. Many people can’t choose to work for a start-up or become an independent contractor because they simply lack the financial resources necessary to maintain an acceptable lifestyle should their career bet fail.
The Economic Impact of a Career Change
Because people who work in the pharmaceutical industry typically have a wide variety of investment assets, it can be difficult to gauge the exact value of what they own, in addition to what type of lifestyle those assets will support. For example, a senior manager who has worked for a pharmaceutical company for many years will often have many different financial assets. These might include: numerous sets of stock options with different strike prices and vesting dates, company stock acquired from different restricted stock grants and/or purchased through the company’s employee stock purchase plans, a defined benefit pension plan (i.e., traditional pension), and nonqualified deferred compensation.
Additionally, senior managers will often own mutual funds, as well as individual stocks and bonds purchased through their company’s 401(k) plan or with savings using after-tax dollars. These high-level executives typically also have material real estate investments in the form of a primary residence and, oftentimes, a vacation home, too. With so many different types of assets, determining one’s resources is a complicated exercise. It is an even more complex exercise, however, when one must include the effect of taxes in this analysis.
Determining Your Financial Situation
Consider a typical pharmaceutical industry executive’s case. The individual has spent his or her entire career with a single employer and most of this person’s net worth is invested in one form or another in that company’s stock. For purposes of this example, assume that the individual is 55 years old and holds investments worth $2 million. Over time, if the portfolio appreciates at a rate similar to that of the expected returns from a typical diversified portfolio – that is, one with 30% invested in U.S. large company stocks, 5% in U.S. small company stocks, 20% in international and emerging markets stocks, 25% in bonds and 20% in alternative investments – this portfolio would be worth almost $5 million in 20 years. The next step is to determine how much — in terms of after-tax dollars — this individual will need every year to support an acceptable lifestyle.
Assume that he or she plans to work for 10 more years and currently spends about $150,000 per year after taxes. When considering the effect of inflation, in 20 years this person will need more than $270,000 plus taxes per year to maintain a similar lifestyle and more each year thereafter. The good news is that with a $5 million portfolio in 20 years, it is highly likely that this individual could maintain his or her lifestyle to age 95.
It is important to note, however, that this example is overly simplistic.
- The tax treatment for each of the assets is different, and is tied to how and when the funds are used or the assets are sold.
- Investments such as stock options have finite lives and the timing of their exercise likewise significantly affects the value achieved.
- This individual must pay taxes on all gains recognized each year on his or her after-tax investments.
Most importantly, nearly three quarters of this individual’s portfolio is invested in the stock or stock options of his or her employer. From any rational investment perspective, such an asset allocation is extremely risky. Vioxx provides an example of what can go wrong. Consider a hypothetical Merck employee.
As shown in the graphic (below right), 72% of the individual’s assets are invested in his or her employer’s stock. During the 29 trading days that followed Vioxx’s withdrawal from the market, Merck’s stock price dove more than 42%.
In this example, the individual’s value in company stock would have lost nearly $380,000. More problematic, depending on their strike price, the options in this portfolio could have lost most, if not all, of their value.
In this instance, if the options lost about 75% of their value or $400,000, the executive’s net worth will have fallen $780,000. While it is essential to understand and measure one’s resources and what they imply in terms of an ability to bear risk, there is another, less obvious issue that also affects which choices a pharmaceutical professional may consider: the potential hidden costs of switching employers. The stock options or restricted stock grants that employees receive as part of their compensation typically have vesting requirements.
Any unvested options and stock are typically forfeited should the employee leave the company. Second, for those options with current value, their forced exercise prevents the employee from realizing any benefits from the stock price appreciating over the remaining term of the grant and deferring the payment of taxes on their gains. A third potential hidden cost of switching jobs is that many large pharmaceutical companies provide their retirees with post-retirement health benefits.
For many retirees now participating in such programs, this benefit is worth as much as $1,500 per month. In addition to understanding the costs that one might incur when leaving a previous employer, it is equally important to identify and understand the risks assumed in taking a new job.
Equity vs. Cash Compensation
The compensation of most senior management in the industry includes an equity component. Whatever value one actually receives from that equity can be more than half of the total potential remuneration paid to employees of large companies, and as much as 90% at small ones. For example, at a large company, a senior manager might receive $200,000 in salary, a $50,000 bonus, $100,000 of restricted stock in the company, and 10,000 stock options.
While at first glance, it appears that about 28% of this individual’s total compensation is in equity in the company, it can be much larger if the company’s stock performs well in the future. More specifically, should the stock appreciate at about 10% annually, the restricted stock would be worth $133,000 in three years, when it would typically vest.
If the stock price had been $50/share, it would now be worth $66.55/ share and the stock options could be exercised for a gain of $165,500. In only three years time, the percentage of total compensation received in equity would become 54%, rather than the originally estimated 28%. Thus, anybody who elects to take a job at a large pharmaceutical company should analyze the equity compensation component in the same way that a Wall Street stock analyst would:
- What do the company’s current revenues and product pipeline look like?
- How fast are its earnings likely to grow in the future?
- How has the stock performed in the past and what factors might affect how well it does in the future?
- Is the company a potential takeover target?
Such due diligence is even more important for the individual considering joining a small company. For those individuals who elect to become independent contractors, taxes play a material role in compensation matters. For example, independent contractors can potentially write off any and all of the things that they use in their business, including a home office, car, travel, etc.
They also are able to deduct their health insurance premiums. More importantly, although they are selfemployed, independent contractors are entitled to the same tax benefits from saving for their own retirement as big companies get from providing retirement benefits to their employees. For example, in many cases an independent contractor can create his or her own defined benefit pension plan (a traditional pension that pays benefits from retirement until one dies).
With such plans, one can potentially defer paying taxes on more than $100,000 of income per year, and the amounts in the plan compound tax-free until they are withdrawn. Additionally, one does not have to start withdrawing funds from the plan (and thus can defer paying taxes) until he or she is 70.5 years old. He or she can contribute into a tax-deferred 401(k) plan, but can also establish and fund a personal defined benefit plan, which would allow him or her to invest an additional $100,000 per year on a tax-deferred basis, reducing taxes by about $40,000 per year.
Another essential element of career planning today involves determining whether one wants to be a “specialist” — an individual with very narrow, but extremely sophisticated expertise, or an “athlete” — someone who has the ability to play many different roles and to manage and work with many different specialists. The key is to avoid being caught in the middle of these two approaches to career planning. Should you find yourself in a mass layoff, consider the following:
- Employers are particularly interested in having their terminated employees execute a release of claims – i.e., they want them to agree to not sue their now former employer. This provides the departing employee with bargaining power.
- Generally, today’s severance packages are much less generous than they were in the past. Most typically include four weeks to six months (or, at the most, 12 months) salary.
- These packages, however, are often negotiable. While it may be difficult to get additional salary, companies are often more flexible on what a former executive will receive in health benefits or altering the terms of the stock option and restricted stock grants.
- Labor laws vary from state to state and generally are designed to protect employees from corporations. Consequently, before entering into any negotiations with an employer — much less agreeing to a release of claims — it is important to obtain competent legal advice.