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Vyaderm Pharmaceuticals 2014

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Alana C

on 23 January 2014

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Transcript of Vyaderm Pharmaceuticals 2014

Vyaderm Pharmaceuticals
In 1999 we threw out the old executive compensation system altogether and introduced EVA. It was meant to be symbolic-a cathartic change.
-Maurice Vedrine

6. How many shares would the manager have to own such that he makes the same profit on share holdings if the stock price goes up by the amount indicated in Q3?
$2.7BN Company marks Vyaderm’s market capitalization per share.

How EVA affects the value of Vyaderm
Recommendations for Solution for Short-term disruption to EVA
Solution 1:
Quarterly or Semi-Annual Bonuses

Solution 2:
Don’t make the bonuses 100% of EVA excess
1. Compensation
CEO at Apple: Stock Options & Merit Based Bonus

Chief Risk Officer at Goldman Sachs
Restricted Stock Options & Merit-based bonus

Professor of Finance at UF: Fixed Monthly Salary & Merit Based Salary

Student Employee at Leonardo's: Hourly wage with overtime

Student Employee at Satchels: Hourly wage with overtime

Programmer at Grooveshark: Monthly Salary & Merit based annual bonuses

Bartender at "The Swamp": Hourly with overtime

If a manager has discretion over the timing of EVA, what incentives does the current method of bonus calculation provide for the timing of EVA improvements? What about your proposed method?
Alana Cain, Lauren Buckley, Taylor Phaneuf, Nathalie Bijlsma, Shaun Meltzer
2. "Vyaderm was a $2.7BN company"
4. How much does this increase the share price?

5. How much bonus does the manager in Table A get for increasing EVA by $1MM above goal?
7. Why doesn't Vyaderm just give the managers that much in share holdings rather than this complicated EVA system?
Vyaderm Pharmaeuticals
2000 EVA for the North American Dermatology Division
2000 and 2001 EVA bonus payout for a manager earning $200,000, assuming that the manager's bonus was based 100% on the division's EVA
Founded in 1945, HQ Seattle, Washington
$2.7 billion company, 17,5000 employees, 15 subsidiaries worldwide
Former CEO Thomas E. Finn
Earnings per share
Maurice Vedrine new CEO
EVA system
worried about lack of synergy
How could these divisions work together to fuel continuing profitable growth?

-Vyaderm’s new CEO needs the company and its divisional managers on his side

- Vedrine can’t continuously neglect the system he implements

- Going back on his word shows each division that if they perform poorly they will merely be bailed out

When a manager sees that business is not going well for the year as a whole, they are more likely to give up
This is not a good model for employee morale or for Vyaderm’s business.
More frequent and smaller bonuses will motivate managers to stay on track and excel
If EVA is low for one quarter, the manager will be more likely to turn around and be motivated to do better in the next quarter
Give the manager 50% of their exceeded EVA and deposit the remaining 50% excess in the bonus
Finn gave managers a bonus whether the year was good or bad, Vedrine can follow this model but with a more transparent and economically sound bonus system
This will help smooth out business slumps and still be enough to keep managers motivated
Managers will continue to benefit from their own past work even when they have a business slump

Recommended way to account for short term disruption:
Smaller quarterly or semi-annual bonuses
• Manager will be motivated to goals throughout the year
• Positive effect throughout the company
• Motivate the manager to constantly try improve the EVA
• More frequently recover from a bad performance, which will in turn increase the managers and employees morale.

• Lose sight of the overall goals of the company as they are just trying to get their bonuses
• Lose motivation to work under the manager
• Distorted view of the manager’s performance
• Cutthroat environment between employees and managers as their deadlines will be a lot more frequent and they will feel the pressure more often.
• Able to have more influence over their bonus in the future
• Expectations in the following year are going to be a lot lower, which means that you can influence your targets more effectively.
• Influence their bonus by creating more opportunity in future years.
• Additionally, if a manager were to predict that there is going to be a drop in the EVA level of improvement in the next year, they could set aside some of their EVA to hedge against this, enabling them to receive a bonus in both years.
• Discretion of the EVA could now be used to counter regular seasonal changes in order to maintain a steady bonus.
-100 million shares of outstanding stock, selling at $50 per share
-No debt
-A $1 increase in EVA increases after tax profit cashflows by $1 for this and every year in the future. How much does a $1 million increase in EVA increase the value of Vyaderm?
1) The market capitalization is the value of the company, because Vyaderm has no debt.
2) The capital charge rate is equivalent to the WACC of Vyaderm, because Vyaderm has no debt.
3) Vyaderm is growing at a rate comparable to the industry-wide growth rate for pharmaceutical companies. It faces similar outside forces and is affected by them in similar ways as other companies, and the competitiveness of the market (generics, etc.) will keep growth under control.
4) EVA can be valued as a perpetuity, because it adds value to a company that is theoretically infinate.
New market capitalization: $5,496,770,989
Shares outstanding: 100,000,000

Share price=Market capitalization/# of shares outstanding

$5,496,770,989/100,000,000= 54.9677099
New share price=$54.97

Increase in share price of $4.97

He would need to own 752 shares to make the same profit.
-Managers will have more control over their bonus with an EVA system.
-Profits on share holdings is determined by the performance of Vyaderm as a whole
-EVA bonuses are calculated based on the EVA centers
-Managers can control performance in their specific departments, they cannot control other departments and thusly overall company performance
-If managers feel they have more control over their bonus amounts, they are more likely to work to improve the performance of their divisions.
Value of company=PV of free cash flows
PV of free cash flows=Operating free cash flows/(k-g)

So: 5,000,000,000=x/(.11-.0917)

Value of the increase in EVA: 1,000,000/.11=$90,909,090.09

To find the new value of Vyaderm:
(91,500,000+$90,909,090.09)/(.11-.0917)= $5,496,770,989
k=capital charge (11%)
g=growth rate for the pharmacy industry based on a study by the Stern School of Business (9.17%)

Capital Calculation
Formula used:
NOPAT-(Capital x Cost of Capital

Cost of Capital=11%
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