In Sickness and in Wealth: A Closer Look at Executive Pay in Healthcare

by Bob Herr, Ryan Oden of AllianceBernstein, 2/22/25

In recent years, the global healthcare sector has seen rapid growth and generally strong performance. But its pay practices leave something to be desired, in our view—too often rewarding executives even if their company fares poorly. We think this issue deserves a closer look by investors.

Having engaged* with more than 100 healthcare firms on compensation-related issues, we’ve found misaligned pay incentives to be pervasive. Many companies reward executives even when they fail to create value for customers and shareholders. In our view, only when executives do well by their customers and shareholders should they do well themselves.

The Plague of Poor Pay Incentives

Poorly designed pay incentives abound—from early-stage IPOs to established healthcare companies across subindustries.

For example, many large pharmaceutical and medical device companies adjust litigation and compliance expenses out of executive compensation calculations. This can result in generous bonuses even in years when stakeholders are adversely affected by legal settlements and penalties that detract from financial performance. Companies sometimes characterize litigation expenses as legacy concerns, since the alleged damages occurred in the past—or as one-offs, despite multiple occurrences.

We think investors should be particularly wary of these tactics when practiced by firms with recurring product-quality and safety issues. Our view on this is simple. If executives can be rewarded for selling legacy products, then they should also be accountable for managing the legal risks.

IPOs, too, may create poor incentives. New research from Yale Law School reveals that early-stage biotech firms frequently partake in a practice called pre-IPO option discounting. This involves awarding options to insiders shortly before an IPO, with an exercise price well below the expected IPO price. This risky practice can create an immediate windfall for insiders, without any meaningful performance conditions or approval from public investors.

In a sample of more than 100 newly public biotech companies, researchers found that more than two-thirds of these firms awarded discounted options to insiders. On average, recipients enjoyed a discount of 48% off the IPO price.

Of course, there must be incentives to develop new therapies, and we’re in favor of well-structured option grants. But we think pre-IPO option discounting warrants closer scrutiny from investors, as it may create a day-one jackpot for executives but dilution down the road for public investors.