Corporate Governance

Incentives for sustainable performance

Compensation policies and plans at Sulzer are based on performance orientation and the company’s strong emphasis on creating long-term shareholder value and sustainable growth.

The compensation report follows section 5 of the SIX Swiss Exchange Guidelines on Corporate Governance Information (RLCG). Further information relating to the remuneration of the members of the Board of Directors and the Executive Committee can be found in the financial section of the Sulzer Annual Report 2011 under note 32 (pages 108 to 110) and note 33 (page 111) as well as in the financial statements of Sulzer Ltd under note 109 (pages 126 to 129).

Board of Directors
The compensation paid to the Chairman of the Board of Directors and the other members of the Board of Directors is based on a compensation regulation. The compensation is reviewed by the Nomination and Remuneration Committee (NRC) on an annual basis and, if necessary, adjusted by the full Board of Directors based on a proposal by the NRC. The compensation consists of a fixed cash component and a restricted stock unit (RSU) component with a fixed grant value. The latter replaced the option component in 2009 and ensures the long-term alignment of the interests of shareholders and Board members. The compensation does not include a short-term variable (bonus) element, and no Board member receives pension benefits. No attendance fees are paid. The members of the Board of Directors are paid for their service over a 12-month period starting with their election. Whereas the cash remuneration is paid in quarterly installments (for the Chairman, monthly installments), the RSUs are granted once a year (see below). The total amount of compensation for the Chairman as well as the other members of the Board of Directors is guided by compensation benchmarks (see the box "Compensation benchmark" below), and it reflects the amount of responsibility, the complexity of the tasks, the professional and personal requirements placed on them, and the expected average time spent executing such duties. However, the final compensation and the weighing of the different criteria is ultimately the result of discretionary decisions by the full Board. The same is true for the higher compensation of the Chairman, which reflects his higher level of responsibility, the broader scope of his tasks, as well as the greater amount of time spent executing this role. Early 2011, the Board decided to return the fixed cash compensation to the levels it was before the economic downturn (as per April 1, 2011). The elements and new (annualized) values of the compensation of the members of the Board of Directors are shown in the table below.

The grant value of the RSUs is fixed (CHF 125 000 per Board member and CHF 250 000 for the Chairman of the Board). The number of RSUs is determined by dividing the fixed grant value by the volume-weighted average share price of the last ten trading days prior to the grant date, which lies between the date of the publication of the year-end results and the Annual General Meeting. One-third of the RSUs vest after the first, second, and third anniversary of the grant date respectively. Upon vesting, one vested RSU is converted into one share of the company. The vesting period for all options and RSUs granted to the members of the Board of Directors ends no later than the date on which the individual steps down from his respective function. Although the grant values of the RSUs are fixed, they are considered a variable compensation element since the development of their values follows the share price. The variable compensation of the Chairman of the Board represented 51% of the fixed component. For the other Board members, the variable component represented between 0% and 161% of the fixed component. Further details can be found in the financial section of the Sulzer Annual Report 2011 under note 109 (pages 126 to 129).

Further details on the RSU component are available in the Executive Committee subsection. Detailed information on the remuneration of the Board of Directors (including Hans Hubert Lienhard and Tim Summers, both Board members until April 14, 2011, and Jill Lee and Marco Musetti, both Board members since April 14, 2011), is given in the financial statements of Sulzer Ltd in the Sulzer Annual Report 2011 under note 109 (pages 126 to 129).

Executive Committee
The compensation of the Executive Committee members is governed by internal regulations (total reward policy, bonus plan, restricted stock unit plan, and performance share plan). The compensation is reviewed by the Nomination and Remuneration Committee (NRC) on an annual basis and, if necessary, adjusted and approved by the full Board of Directors based on a proposal by the NRC. The full Board also approves the performance targets as well as the performance achievement levels for all Executive Committee members based on recommendations of the NRC. The members of the Executive Committee have no right to either attend or vote at meetings concerning their compensation. However, the CEO attends meetings in which the proposed compensation of members of the Executive Committee is being discussed, and he submits proposals (except concerning his own compensation).

In order to reflect the objective of pay for performance, the total direct compensation package of the CEO and the members of the Executive Committee includes a fixed annual base salary (in cash) and a variable component. The variable component consists of a short-term annual performance- and results-based bonus (in cash) as well as long-term incentives: the restricted stock unit plan (RSU plan) and the performance share plan (PSP). In 2011, the variable compensation to the CEO (January 1, 2011 – October 31, 2011) represented 60%¹ of the fixed component (base salary, pension fund contribution). For the entire Executive Committee, the variable component represented 105%¹ of the fixed component. The relationship between the fixed and the variable component of compensation reflects Sulzer’s high performance orientation and the company’s strong emphasis on aligning the interests of the Executive Committee and the shareholders to create long-term shareholder value and profitable growth. Further details can be found in the financial section of the Sulzer Annual Report 2011 under note 109 (pages 126 to 129).

To ensure that the remuneration of the members of the Executive Committee is nationally as well as internationally competitive, Sulzer regularly participates in respective benchmarks, such as the 2011 study provided by Towers Watson, a leading global consultancy. It focused on Swiss-based multinational corporations with—as median—a comparable number of employees and sales volume (see the box "Compensation benchmark" above for the comparison group). Sulzer aims for remuneration between the median and the 75th percentile of the benchmark.

The elements of the compensation of the members of the Executive Committee are summarized in the table below.

Base salary (fixed, in cash)
To determine the base salary—which ultimately is the result of a discretionary decision by the full Board—the market median level for the respective position, individual qualifications and experience, and the prevailing local labor market conditions, i.e., for members of the Executive Committee, Swiss labor market conditions, are taken into account. In order to review, assess, and, where needed, adjust the individual compensation, compensation benchmark studies with Swiss-based multinational companies issued by external advisors are used (see “Executive Committee”, above). Positions are evaluated according to the Towers Watson Global Grading System (GGS). GGS builds on company criteria such as size, complexity, and geographic scope to assess the number of levels. Positions are evaluated in a two-step process of banding and grading: Banding places jobs in the framework based on how they contribute to the overall organization. Grading assesses jobs against standard factors. For further details, see www.towerswatson.com/assets/pdf/2815/TowersWatson-GGS-CM-Factsheet-NA-2011-19979.pdf.

Bonus (variable, performance-based, in cash)
The annual target bonus corresponds to a percentage of the base annual salary (50% for the CEO, 30% or 35% for the other members of the Executive Committee; see footnote 1 of the table above for the changes coming into effect as of January 1, 2012). The actual bonus paid depends on the attainment of the agreed targets. 70% of these targets are of a financial nature (such as order intake, operating income, net income, and return on capital employed) and 30% are individual targets, which can be both qualitative and quantitative. For each of those targets, a target value as well as a lower and an upper target level are set. Depending on the level of achievement, a corresponding number of points is calculated. The sum of the points determines the payout ratio, which can be between zero and two and a half times the target bonus. No bonus at all is paid if the minimum target level is not reached. Exceptions to this policy may be defined by the Board of Directors in response to a proposal by the Nomination and Remuneration Committee (NRC). For the year 2011, no such exceptions were granted. The bonuses for 2011, which are assessed by the NRC and approved by the full Board, will be paid in March 2012. Ton Büchner, who left the company on October 31, 2011, received a bonus for 2011 of CHF 473 231 (which represents 60%¹ of the fixed component). He also received an additional discretionary bonus in the amount of CHF 1.7 million for his outstanding contributions during his time with Sulzer. In addition, he received payments for unused vacation days of CHF 345 815. For the entire Executive Committee, the bonus paid represented 52%¹ of the fixed component. The relationship between the bonus and the variable component of compensation reflects Sulzer’s high performance orientation. Further details can be found in the financial section of the Sulzer Annual Report 2011 under note 109 (pages 126 to 129).

Restricted stock unit plan (variable, fixed grant value, share-based remuneration)
Sulzer has used a restricted stock unit plan (RSU plan) as a long-term performance incentive since 2009. Following a benchmarking analysis (PricewaterhouseCoopers: Executive Compensation Benchmark 2008) and in consultation with PricewaterhouseCoopers and Mercer, the Board of Directors decided to replace the previous long-term option plan with an RSU plan starting in 2009. Each year, members of the Sulzer Management Group receive RSUs; the grant value of the RSUs depends on the respective management grade (for a definition of the Global Grading System, see “Base salary”). In 2011, it was reviewed using the Towers Watson Benchmark 2011. All senior managers with the same global grade receive the same number of RSUs. The number of RSUs granted is calculated by dividing the defined grant value per global grade by the volume-weighted average share price over the last ten trading days before the grant date. The RSUs are not definitively allocated when issued; instead, one-third of the units granted are vested every year. In the event that the employment is terminated, all options and RSUs that are unvested on the day the working relationship expires shall lapse. With the introduction of the performance share plan (see below) all members of the Executive Committee agreed to have their RSU values—compared with those granted in 2009—reduced for the years 2010 to 2012 (by two-thirds for the CEO and by one-third for all other Executive Committee members) and have these amounts invested into the performance share plan. In 2011, the RSU plan for the CEO represented 0%¹ of the fixed component. For the entire Executive Committee, the RSU plan represented 26%¹ of the fixed component. The relationship between the fixed component of compensation and the RSU plan reflects Sulzer’s strong emphasis on aligning the interests of the Executive Committee and the shareholders to create long-term shareholder value. Ton Büchner is entitled to receive the RSU that vested during his contractual notice period. All RSU with later vesting dates were, however, forfeited without compensation. Further details can be found in the financial section of the Sulzer Annual Report 2011 under note 109 (pages 126 to 129).

Performance share plan (variable, performance-based; share-based remuneration)
Sulzer aims to further align the interests of the members of the Executive Committee with those of the shareholders and, particularly, to motivate the members of the Executive Committee to maintain the strong operational management of the company, while at the same time using balance sheet assets to make sound investments (primarily in the form of capital expenditures and acquisitions). Therefore, the full Board of Directors decided in 2010 to introduce a long-term performance share plan (PSP) for the members of the Executive Committee. The PSP is a one-time plan with a performance period of three years (see graphic below). The plan was designed by the Nomination and Remuneration Committee with support from Towers Watson. The members of the Executive Committee will be measured on very ambitious targets with regard to (i) the cumulative adjusted net income, (ii) the total shareholder return (TSR), and (iii) the acquisition volume.

• (i) Cumulative adjusted net income: The sum of the net income from 2010 to 2012 attributable to shareholders, adjusted by acquisition costs, integration costs, as well as effects related to business combinations (as introduced with IFRS 3 “Business Combinations”) over the performance period (January 1, 2010 – December 31, 2012).
• (ii) Total shareholder return (TSR): The share price growth plus dividends over the performance period. To calculate the share price growth, the initial share price is set as the ten-day volume-weighted average share price prior to the grant of RSUs in 2010 (i.e., the same amount that is used to calculate the restricted stock units for 2010). The ending share price is the volume-weighted average share price between January 1, 2013, and March 31, 2013.
• (iii) Acquisition volume: Total volume spent on the activation of balance sheet assets for the purpose of acquisitions or other sound investments of Sulzer’s liquid assets over the performance period, for example, share buyback programs. For major acquisition and investment decisions (see chapter "Division of powers between the Board of Directors and the CEO" ), the approval of the Board of Directors is necessary.

The PSP includes a requirement for the participants to invest a portion of their yearly RSU grant into the PSP plan. The CEO must invest two-thirds of each of the three annual RSU grants, which results in a total investment of the equivalent of two annual grants during the performance period. All other Executive Committee members must invest one-third of each of the three annual RSU grants, which results in a total investment of the equivalent of one annual grant during the performance period. At the grant date, each investment is matched by a co-investment by the company. The company matches 100% of the amount invested (and of the amount to be invested) of the CEO and 80% of the investments of the other Executive Committee members. The number of performance share units (PSUs) granted at the grant date is based on the number of RSUs shifted into the PSP and the company match divided by the volume-weighted average share price prior to the 2010 grant of RSUs. The PSP will result in a one-time payout by conversion of PSUs into shares on the vesting date (March 31, 2013). However, on the day when the entire award automatically vests, only 50% of the shares shall automatically be de-blocked (settlement possible in cash or shares). The remaining 50% of the shares shall be de-blocked on the first (30%) and second (20%) anniversary of the vesting date. The plan includes a significant leverage in the case of extraordinary performance over the three-year performance period. At vesting, the number of PSUs granted is multiplied by two factors (see graphic above). The first factor is defined by a matrix that consists of the cumulative adjusted net income and the total shareholder return; it ranges from 0 to 2.5. The second factor is defined by the acquisition volume; it ranges from 0.8 to 1.8. Of the three PSP metrics (total shareholder return, cumulative adjusted net income, acquisition volume), the total shareholder return has the highest impact on the final vesting value, which reflects Sulzer’s strong emphasis on aligning the interests of the Executive Committee and the shareholders to create long-term shareholder value. The value vested is calculated by multiplying the final number of PSUs vested with the share price at March 31, 2013. The maximum payout is capped at four (for the CEO) to five (other members of the Executive Committee) times the total value at grant of the PSP, i.e., the total investment of the participant plus the company matching. Failure to achieve the minimum performance thresholds (i.e., the predetermined amounts of the cumulative net income and the ending share price) will result in a zero payout, meaning that the Executive Committee member will lose the entire investment (i.e., their RSU contribution) value at grant invested into the PSP including the respective company match amount. If a member of the Executive Committee terminates his employment during the performance period, all PSUs granted shall lapse. If Sulzer terminates the employment or the Executive Committee member without cause prior to the vesting date, the member shall be entitled to a monetary compensation reflecting the pro rata achievement under the PSP. For the entire Executive Committee (excluding Ton Büchner, who lost all his PSUs due to his leaving), the PSUs represented 27%¹ of the fixed component in 2011.The relationship between the fixed component of compensation and the PSP reflects Sulzer’s strong emphasis on aligning the interests of the Executive Committee and the shareholders to create long-term shareholder value and profitable growth. Further details can be found in the financial section of the Sulzer Annual Report 2011 under note 109 (pages 126 to 129).

The former CEO Ton Büchner left the company as per October 31, 2011. He received the base remuneration for the first ten months, a pro rata bonus, and an additional discretionary bonus. Additionally, he is entitled to the RSUs that vest within the contractual notice period. He lost all RSUs that vest thereafter as well as all PSP units. For details, see financial section of the Sulzer Annual Report 2011 under note 109 on pages 126 to 129. Jürgen Brandt, ad interim CEO as of November 1, 2011, and CFO since November 1, 2010, has participated as CFO on a pro rata basis in the PSP as of 2011.

Apart from the additional discretionary bonus granted to Ton Büchner (see above), no severance payments to members of the Executive Committee were made during the reporting year. The employment contracts of the Executive Committee members make no provision for unusually long notice periods or contract terms. However, Executive Committee members who joined the Executive Committee prior to April 2009 were given the right to compensation if an employment contract is terminated within 18 months after a change of control or in the event of a considerable change to a member’s function. This compensation consists of the base salary plus the target bonus plus 10% of the base salary for one year. The Board of Directors has undertaken this measure in the interests of the company. Furthermore, if there is a change of control (for members of the Executive Committee, including the replacement of the majority of the members of the Board of Directors) or a public takeover bid that is not supported by the Board of Directors, all allocated options of the option plan and RSUs of the RSU plan are automatically vested.

All other information on compensation (including that of the CEO and the Executive Committee as a whole) can be found in the financial section of the Sulzer Annual Report 2011 under note 32 (pages 108 to 110) and note 33 (page 111) as well as in the financial statements of Sulzer Ltd under note 109 (pages 126 to 129).

¹ Adjusted for all payments and disclosure requirements related to the departure of Ton Büchner. These include: an additional discretionary bonus of CHF 1.7 million, a payment for unused vacation days (CHF 345 815), and the negative Performance Share Plan value (minus CHF 666 667)—which was introduced to reverse the amount that was disclosed as positive value in the Sulzer Annual Report 2010 but entirely forfeited due to Ton Büchner’s departure.