The merger-and-acquisition frenzy that embodied 1994 paid off for top executives at some investor-owned hospital chains.
Many chief executive officers received bonuses based on their ability to engineer multimillion-dollar deals. Others saw the value of their stock options rise when their companies were bought out.
Richard Scrushy, chairman, president and CEO of HealthSouth Corp., received a $2 million bonus for adding 52 rehabilitation hospitals from deals with National Medical Enterprises and ReLife as well as for meeting budget targets, according to the company's proxy statement.
With HealthSouth working on two other deals-acquiring Surgical Health Corp. and NovaCare-Scrushy may be bound for another big pay-off in 1995.
The year's top dealmaker, Richard Scott, president and CEO of Columbia/HCA Healthcare Corp., earned a bonus of $520,000 and stock options valued at $3.1 million. Interestingly, the bonus was given for surpassing earnings goals rather than devising billion-dollar deals. Columbia's 1994 mergers with Hospital Corporation of America and Medical Care America weren't mentioned as motives for the bonus or options in the company's proxy. The options granted were comparable to those awarded to other healthcare company CEOs, the proxy explained.
However, mergers and acquisitions are a way of helping companies achieve earnings goals, especially when they add efficiencies and increase profitability.
Compensation incentives can prod CEOs into bucking the industry's financial trends. "The cold facts are that hospital profits are going to go down," said Grant Wicklund, vice president in the Dallas office of Paul R. Ray & Co., an executive search firm. He noted that CEOs must advance their companies through mergers or by expanding beyond inpatient settings.
Incentive compensation traditionally hasn't been a big part of a CEO's total pay in the hospital industry, however.
A study by William M. Mercer, a national benefits consulting firm, showed that incentive compensation to healthcare company CEOs was 22% of base salary in 1994. That ranked healthcare toward the bottom of all industries, lagging far behind telecommunications and retailing, where bonuses were given for up to 50% of base salary.
Taking stock. Stock option awards can be the most lucrative part of a CEO's pay, a lure that makes the investor-owned side of the business appealing to hospital executives. Executives at tax-exempt hospitals can't reap wealth through options because there's no publicly traded stock in their businesses.
With the assistance of Price Waterhouse's healthcare industry expert Bruce Den Uyl, MODERN HEALTHCARE assessed the value of stock options awarded using the Black Scholes Option Pricing Model. The formula is used by many Fortune 500 companies and some hospital chains, such as Vencor.
To calculate the value of the options, Price Waterhouse assumed a risk-free rate of 6% and a standard deviation of 0.3 as the measure of volatility. The only options that reflect dividends were for Columbia, which pays 3 cents per share quarterly.
Price Waterhouse didn't make adjustments for any potential stock price dilution that may affect the value or other factors such as lack of marketability or potential early exercise of the options.
Of course, options aren't guaranteed income. They're usually awarded at the company's market price. The executive doesn't profit from the options unless the stock price rises.
For example, Richard Conte, chairman, president and CEO of Community Psychiatric Centers, is rich in options that are worthless-at least right now. Conte has 189,800 options that aren't worth anything because the exercise price is higher than the stock price, according to the company's proxy. He has another 350,200 options that the proxy reports are worth just $15,000, a pittance in the world of corporate stock options.
CPC's stock price must rise considerably to put Conte "in the money" on some of those options. He had 100,000 stock options with an exercise price of $29.50, substantially above the $12 a share at which CPC has been trading recently. However, when the board granted the options, it said the price would drop $5 each year if CPC "meets specific targets or increases total return to shareholders."
The company's proxy reported that those targets were met in fiscal 1993, and the option price was lowered to $24.50. However, the targets were not met in fiscal 1994.
On the other hand, Conte cashed in 160,000 options that were worth $1.2 million in fiscal 1994, according to the proxy.
For this survey, total pay was calculated based on salary, bonus and options awarded for fiscal 1994. Options awarded in prior years that were cashed in during fiscal 1994 were not included.
Like Conte, some other executives exercised options and profited nicely. William Schoen, chairman, president and CEO of Health Management Associates, cashed in options worth $7.4 million in 1994.
Companies usually file their proxies within four months of the end of their fiscal years. However, Columbia's proxy for fiscal 1994 was delayed because of its merger with Healthtrust, which was completed at the end of April. Columbia's proxy was filed with the Securities and Exchange Commission earlier this month.
Because fiscal-year ending dates vary among companies, some high-profile transactions are not reflected in the 1994 data. Tenet Healthcare Corp. (formerly National Medical Enterprises) closed its fiscal year on May 31, meaning 1994 figures are nearly a year old.
Tenet resulted from the merger of NME and American Medical International. AMI's chairman and CEO, Robert O'Leary, received total compensation of $1.8 million in fiscal 1994, which puts him at about the midpoint among his peers in the ranking.
But his big payday came after his company's fiscal 1994 ended Aug. 31. AMI was acquired by NME in a $3 billion deal completed this March. That signifies a "change of control" in compensation parlance, which means severance packages and stock options become effective. The bottom line is that O'Leary reaped about $10 million in cash and stock as part of the AMI sale (March 6, p. 72).
Rating a raise.
In the proxy statements, compensation committees must justify to their shareholders the compensation earned by top executives. These explanations often make CEOs sound underpaid, thereby justifying hefty increases.
For example, Charter Medical Corp.'s compensation committee hired consultants and found out that Chairman, President and CEO E. Mac Crawford was paid "below the 50th percentile of the peer group chief executive officers." So, the board gave him a 15% raise.
OrNda HealthCorp's board, which rewarded top executive Charles Martin with an 89% raise in salary and bonus, took a straightforward, albeit unique, approach. After spending more than a page to explain its compensation policies, base salaries and incentives, the compensation committee threw a disclaimer in the proxy statement: "No particular weight is given by the compensation committee to any of the foregoing factors, and decisions as to adjustments in base salaries are primarily subjective."
Scrushy received the highest salary and bonus of his investor-owned hospital chain peers, although others ranked higher in total pay because of stock option awards and other compensation.
Scrushy didn't receive any stock options in 1994, but he's certainly rich with them from past years. His options are worth almost $62 million, more than any other hospital chain CEO. Those options, which are exercisable at any time, amount to a 7.5% stake in the company. That makes him the single largest shareholder in HealthSouth.
On the other hand, Rocco Ortenzio, Scrushy's counterpart at rival Continental Medical Systems, saw a drastic drop in pay as hard times hit the formerly high-flying rehabilitation chain. As chairman and CEO, Ortenzio saw a 75% drop in his salary and bonus. He received neither a salary increase nor a bonus in 1994, an unusual occurrence among for-profit hospital chains.
Ortenzio's son, Robert, who is president of the company, also didn't receive a bonus in 1994, nor did two other top officers. However, Robert Ortenzio did receive a 6.8% raise in salary to $427,000, making him the highest-paid executive at Continental. That, too, is an odd occurrence among chains, where the CEO is typically the highest-compensated officer.
The formula on which the senior Ortenzio's bonus is based was lucrative during Continental's profitable years, but not when the Mechanicsburg, Pa.-based company lost money as it did in 1994. In the fiscal year ended June 30, Continental reported a net loss of $34.5 million, or 92 cents per share, on revenues of $1 billion.
In the past, Ortenzio, who owns 11% of Continental's stock, has been paid a percentage of the company's pre-tax earnings. That equaled a 1993 bonus of $1.2 million.
But not everyone got big bonuses based on mergers in 1994. For example, E. Thomas Chaney, president and CEO of Community Health Systems, didn't see his pay increase much-just 2.5% over the previous year.
The company did very well last year, completing a major acquisition of Hallmark Healthcare Corp., which doubled the size of the company. In addition, the company's stock price appreciated 45%, which translated into a $127 million bonus for shareholders.
Top five future fortunes
Value of CEOs' unexercised stock options
HealthSouth Corp.$61.7 million
Health Management Associates23.9 million
Tenet Healthcare Corp.14.2 million
E. Mac Crawford,
Charter Medical Corp.11.2 million
W. Bruce Lunsford,
Source: 1994 proxiesTop five CEO shareholders
Value of their shares and percent stake in company
Columbia/HCA Healthcare Corp.$240 million (1.7%)
HealthSouth Corp.102.8 million (7.5%)
W. Bruce Lunsford,
Vencor74.2 million (8.1%)
Health Management Associates63.9 million (5.3%)
Continental Medical Systems41.1 million (11%)
Source: 1994 proxies and recent stock prices