Overview of Executive and Director Compensation and Related Trends

1. Overview of Executive and Director Compensation and Related Trends Third Annual Advanced ALI-ABA Course of Study June 8, 2000 Michael A. Thompson FREDERIC W. COOK & CO.

2. The Places We’ll Go • The Environment • Trends in Executive Pay • Internet and E-commerce • Trends in Director Pay

3. The Environment • Volatile and uncertain stock market • Investor dilution concerns • FASB Interpretation 44 • Corporate transactions • Re-emergence of venture capital

4. Volatile Stock Market • Nasdaq down 1/3 • Dow back around 10,000 • Many companies have lost 50% or more of their value • Xerox Mattel • Armstrong Bank One • Sara Lee R.R. Donnelley • Sears Toys R Us • E-Toys Red Hat

5. Stock Plan Dilution • Higher “burn rates” and “overhang” • More scrutiny from institutional investors

6. Smaller more frequent share authorizations Shares counted on net, as issued basis, not gross, as granted basis Add back shares re-purchased with option proceeds Board approved plans for non-officers Best voting outcome because of dilution tests Add back shares to pool from stock-swap exercises, etc. Particularly with prevalent buy-back programs Possible under stock exchange rules Stock Plan Dilution

7. FASB Interpretation 44 • Separate presentation tomorrow • Creates some upheaval • Re-pricing • Reloads • Tax withholding • Subsidiary stock and options • Including pre-IPO options • Restricted stock for u/w options • Be careful of share for share matching

8. Mergers Acquisitions Divestitures/ Sales IPOs Spin-offs Tracking Stock Corporate Transactions

9. Rise of Venture Capital • Corporate Venture Capital and Private Equity Funds • Creates significant pressure on executive compensation • Internal venture managers • Raises issues regarding “friends and family” shares on IPO

10. Hot TopicsExecutive Pay • Retention, Retention, Retention • Equity use expansion continues • Stock/options for cash • Deferred stock option gains • Impact of Internet companies

11. Retention, etc. • Way underwater options • Restore retention & motivation • Avoid re-pricing “penalties” • Implementing “claw-backs” • Reducing post-termination exercise • But expanding for retirement, death and disability

12. Retention Alternatives • Front-load future options • Increase in restricted stock • Price-recovery restricted stock • Dividend-equivalents on options • “Claw-back” provisions • “Premium” elective share conversions • Extended stock option vesting

13. Equity Use Expansion • Grant sizes explode • Million option grants now common • Annual share usage over 2% • Broader participation in regular annual grants • Continued use of broad-based grants

14. Stock/Options for Cash • 28% of Top 250 • Mostly voluntary • Some mandatory • BankBoston-25% of bonus over $300k • Often includes premium to play • Alcoa and Gen’l Mills-one add’l share for every four elected • Dell-discounts from market value

15. Deferred Option Gains • Deep in-the-money options expiring • Offers opportunity to protect some carried interest • Must use stock-swap exercise • Deferral in stock units payable in shares • Irrevocable election 6 months in advance • Still owe FICA/Medicare tax

16. Internet Impact • Changing the game • Focus on carried interest, not Black-Scholes value • Equity interest in E-commerce units • Raises the ante for retention • Significant salary increases in some sectors, e.g., law firms

17. ($000) Internet Internet Internet GI Internet GI GI GI CFO CEO Top Sales General Counsel Generic Job Comparisons

18. Annual Grants as a % of Outstanding Shares 91% Growth Run Rate Comparisons

19. 99% Growth Potential Dilution as a % of Outstanding Shares Dilution Comparisons

20. Director Compensation • Keep the stock coming • Away from meeting fees • Flexibility Reigns • Ownership guidelines • Interesting variations

21. Increasing Stock • Interpretation 44 finalized • Directors considered employees so no P&L charge • Pension debate is over • Replaced with stock grants

22. Director Stock UsageTop 250 Companies Source: FWC&Co. 1999 Top 250

23. Retainer-Only Plans • Move away from meeting fees • Paying for governance, not time spent • More complete disclosure encourages attendance • Eliminates administrative complexity • Facilitates conversion of compensation to stock

24. Flexibility Reigns • Trade off everything for everything • Directors from increasingly diverse backgrounds

25. Ownership Guidelines • 16% of Top 250 • Not a lot, but increasing • Most use multiple of retainer • 5x most common • Other examples • Citigroup—75% of shares granted • Comcast—60% of vested value • Airtouch--$100k owned before option grants made

26. Other Variations • Performance Options • Computer Associates--# based on ROE • SYSCO—options granted only if 10% growth in EPS • UP—options vest on stock price • Reloads for directors • Includes Abbott, Allstate, Sara Lee, US Bancorp, Wells Fargo

27. Overview of Executive and Director Compensation and Related Trends Third Annual Advanced ALI-ABA Course of Study June 8, 2000 Michael A. Thompson FREDERIC W. COOK & CO.