2005 Compensation For Top-Earning Executives Grew With Stock Option Awards

By David S. Hilzenrath and Derek Willis
Washington Post Staff Writers
Monday, July 10, 2006; D01

It was another banner year for the Washington area's highest-paid executives.

The median total compensation for the 100 highest-paid executives at local public companies rose 21.2 percent in 2005, to $6.4 million from $5.2 million the year before. While the median salary for that group increased 4 percent, bonuses climbed nearly 14 percent, the value of the typical stock option grant went up by more than 25 percent, and other forms of long-term compensation leapt by a third.

The Washington Post's annual ranking of local executive pay was topped by four chief executives who received more than $30 million each: SLM Corp.'s Thomas J. Fitzpatrick ($39.6 million); Capital One Financial Corp.'s Richard D. Fairbank ($31.6 million); United Therapeutics Corp.'s Martine A. Rothblatt ($31.1 million); and Sprint Nextel Corp.'s Gary D. Forsee ($30 million).

Just as options buoyed compensation for the top group, a decline in the awards dragged down results for others: The median total compensation package for the next 600 executives in the study fell by 3.9 percent to $642,543. Companies with executives in that group cited a variety of reasons for a fall-off in options, including failure to meet financial targets and concern about a new rule forcing companies to count the cost of stock options as an expense. The median is the midpoint in the sample.

Altogether, the more than 700 executives at 157 firms in The Post's study took home $467.5 million in salary and bonus. Their total compensation -- including options, perks and other items -- had a combined value of almost $1.4 billion, more than the budget of the D.C. public schools.

The average worker in the Washington area was making $50,000 in wages or salary as of May 2005, according to the most recent local snapshot from the Bureau of Labor Statistics. For private-sector workers nationwide, total compensation rose an average of 2.9 percent last year.

The Post's survey, based on pay disclosures filed with the Securities and Exchange Commission, includes salaries, bonuses, stock option grants, long-term awards of restricted stock and other items. It does not include the value of executive retirement plans. In the case of mortgage companies Fannie Mae and Freddie Mac, which are both behind in their annual SEC filings, executive compensation was calculated through other public disclosures. The value of stock option grants ultimately depends on future share prices. For consistent comparisons, the Post estimates the value using a standardized approach accepted by the SEC. (See accompanying articles.)

SLM's Fitzpatrick led the rankings with estimated total compensation of $39.6 million. Fitzpatrick was promoted last year to chief executive from chief operating officer of the student loan marketing firm and was awarded an estimated $31.4 million in stock options, assuming that the stock price increases 5 percent annually over the life of the options.

The company, also known as Sallie Mae, formerly operated under a government charter and has long been a generator of executive wealth. For example, in the Post's executive compensation survey for 2002, Fitzpatrick's predecessor as Sallie Mae chief executive, Albert L. Lord, ranked first and Fitzpatrick ranked second.

Sallie Mae's profit declined 27.8 percent last year, to $1.4 billion from $1.9 billion the year before. The company ranked 39th in total return to shareholders over the past five years and 44th in total return last year, among 107 Washington area companies in the compensation study that have been public for the past five years. Sallie Mae's total returns, which include stock appreciation and dividends reinvested, were 160.2 percent over five years and 4.9 percent last year.

Ranked second for the second year in a row was Fairbank, whose stock options at credit card issuer Capital One have routinely made him one of the region's most highly paid executives. Fairbank's estimated total compensation of $31.6 million last year paled beside the $105.5 million pay package that put him first in the 2001 rankings. Fairbank, chairman, president and chief executive of the company, takes no salary or bonus. His perks include a $65,000 allowance for professionals to help him manage his money.

Fairbank's 2005 total did not include the $249.3 million he reaped last year from cashing in older stock options, almost all of which were expiring.

Capital One's profit rose 17.2 percent last year, a middle-of-the-pack increase relative to other companies in the compensation survey. The company ranked 70th out of 107 in total return to shareholders over the past five years and 46th last year. Capital One's five-year return was 32.6 percent and its one-year return was 2.7 percent.

The compensation committee of Capital One's board said in an SEC filing that Fairbank's compensation package "is an important component of retaining a successful and highly talented senior executive."

Ranked third in total compensation was Rothblatt, the chairman, chief executive and founder of biotech firm United Therapeutics. Rothblatt's $30.3 million in stock option grants last year included the reissuance of older options on more favorable terms, plus options from 2004 that were delayed so she could take advantage of the reissuance.

An option gives the holder the right to purchase stock at a fixed "exercise" price. The usual objective is to reward the holder if the stock's market price climbs above that level.

With the price of its stock sagging below the exercise price on many previously awarded options, United Therapeutics reduced the exercise price. It was the second time in recent years that United Therapeutics lowered the bar, though Rothblatt was excluded from the earlier repricing.

The compensation committee of the United Therapeutics board "determined that the repricing of Dr. Rothblatt's stock options in 2004 was appropriate to enhance the retention of Dr. Rothblatt and further align her interests with that of our shareholders," company spokesman Andrew Fisher said in an e-mail.

The survey's top 10 executives in total compensation last year included two from Sprint Nextel, the phone company; one from Freddie Mac, the government-chartered mortgage finance company recovering from massive accounting errors and manipulations; and one each from major defense contractors General Dynamics Corp. and Lockheed Martin Corp.

Dale B. Wolf of the HMO company Coventry Health Care Inc., who led the 2004 rankings with $32.3 million in total compensation -- including an especially large option grant that accompanied his elevation to chief executive -- slipped to 12th on the 2005 list with $13.1 million.

Executives of XM Satellite Radio Holdings Inc. took a much steeper tumble. Hugh Panero and Gary Parsons, who ranked third and fourth in 2004 on the strength of large option grants, fell to 249th and 314th respectively on the 2005 list. They received no new options in 2005.

Companies generally described options as a form of incentive pay. In many cases, option recipients already had major incentives to help their companies succeed because they already held substantial stakes in those companies.

Fitzpatrick, who joined Sallie Mae in 1998, ended the year with unexercised options worth $96.3 million, most of which he was free to exercise. Capital One's Fairbank ended the year with $306.3 million in unexercised options, the vast majority of which he could have cashed in.

Some of the Washington area's best known companies, such as the Carlyle Group, an investment firm, and candymaker Mars Inc., are not in the study because they are privately held and do not disclose compensation.

Cash Kings

First in cash compensation in 2005 was William L. Walton of Allied Capital Corp., with $5.8 million in salary and bonus. (See accompanying story.) He was followed by two Sprint Nextel executives: Timothy M. Donohue with $5.6 million and Gary D. Forsee with $4.7 million.

After the merger of Sprint and Nextel last year, Forsee, the former Sprint chief executive, became chief executive of the combined firm, while Donohue, the former Nextel chief executive, became chairman. Donahue's pay included a special $2,250,000 award, which the company variously described as being "for work performed in connection with our merger" or as a "retention payment" determined "prior to our merger."

Emanuel J. Friedman and Eric F. Billings of Friedman, Billings, Ramsey Group Inc., who tied for first in total cash in 2004 with $9.8 million each, plummeted in 2005. During a money-losing year for the Arlington-based investment firm, Billings ranked 304th in cash with $480,000, having traded his traditional cash bonus for restricted stock, and Friedman left the firm during regulatory investigations.

Opting for Options

Generally, option grants ballooned for the executives at the top of the chart and deflated for the rest.

A defining feature of the tech bubble of the late 1990s, options have been criticized as rewarding executives for any increase in their company's stock price, even if it lagged market averages. Some policymakers argued that options encouraged executives to inflate earnings. From an accounting standpoint, options appeared to be something of a free lunch, because companies were not required to count them as an expense against earnings when they were awarded.

Defenders of stock options said they provide important incentives and predicted they would dwindle if the accounting rulemakers required that awards be counted against quarterly profits.

A new rule requiring that options be expensed began taking effect for some companies in the second half of last year. For the 100 most highly paid executives in the Post's study, the median option grant increased in value by 25 percent. At a median value of $3.1 million, option grants accounted for about half of the median pay package in that group.

For the next 600 executives in the survey, the median option grant declined in value by 60.6 percent to $24,904.

VSE Corp., for example, stopped issuing options to avoid having to count them against earnings. Telos Corp. issued no new options to top executives in 2005 because the company failed to meet financial performance triggers.

After receiving a $6.6 million option grant in 2004, which had not vested, Cogent Communications Group Inc. chairman, founder and chief executive Dave Schaeffer said he did not need more options to stay motivated. Schaeffer did receive $985,000 in restricted stock, a different form of award.

Some options, like those awarded to Sallie Mae's new chief executive, came with performance-based conditions. Sallie Mae's Fitzpatrick can't cash in any of the new options until May 2008, and before he can exercise them the company's stock price must meet targets ranging from an increase of at least 25 percent for some of the options to 50 percent for others.

But other options vest automatically over time, like those awarded to Fairbank of Capital One, or immediately, like those awarded to Rothblatt of United Therapeutics.

Compensation analysts had predicted a shift from option grants to awards of restricted stock-- shares that are given to the executive but that can't be liquidated until time passes or performance targets are met -- and there were signs of that in the survey. However, the survey also suggested that some executives are getting more restricted stock in addition to options rather than in place of them.

Forsee, the Sprint Nextel chief executive, received $13.7 million in restricted stock that vests after three years, up from $7.2 million in 2004, and also received 885,000 stock options, up from 779,400 in 2004.

For the 100 most highly paid executives, there was a 34 percent increase last year in median long-term compensation, a category on SEC disclosure forms that often includes restricted stock. Unlike options, restricted stock ordinarily has value even if the share price declines.

The one category of pay that declined last year for the 100 most highly compensated executives was also the smallest. "Other compensation" was down 60.4 percent, to $32,621.

That grab-bag category can include perks such as company cars and personal use of the company jet. But it's hard to determine how much those numbers have changed, because companies are not required to disclose the value of perks unless it exceeds a substantial threshold.

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