UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

SCHEDULE 14A

Proxy Statement Pursuant to Section 14(a) of
the Securities Exchange Act of 1934 (Amendment No.              )

 

 

April 16, 2007

Dear Fellow Stockholder:

You are cordially invited to attend the 2007 annual meeting of stockholders of Vertex Pharmaceuticals Incorporated to be held on Thursday, May 31, 2007, at 9:30 a.m. at our headquarters at 130 Waverly Street, Cambridge, Massachusetts.

As described in the accompanying notice of annual meeting of stockholders and proxy statement, this year our stockholders are being asked to elect three directors.

Regardless of the number of shares of common stock you may own, your vote is important. YOU ARE URGED TO VOTE, SIGN, DATE AND MAIL THE ENCLOSED PROXY CARD PROMPTLY, whether or not you plan to attend the annual meeting in person. This will ensure your proper representation at the annual meeting.

Thank you for giving these materials your careful consideration.

	Sincerely,
	JOSHUA BOGER
	President and Chief Executive Officer

 

VERTEX PHARMACEUTICALS INCORPORATED
130 Waverly Street
Cambridge, Massachusetts 02139-4242
Telephone: (617) 444-6100
Fax: (617) 444-6680
www.vrtx.com

NOTICE OF ANNUAL MEETING OF STOCKHOLDERS

May 31, 2007

Notice hereby is given that the 2007 annual meeting of stockholders of Vertex Pharmaceuticals Incorporated will be held on Thursday, May 31, 2007, at 9:30 a.m. at our headquarters, located at 130 Waverly Street, Cambridge, Massachusetts, for the following purposes:

·       to elect three directors to the class of directors whose term will expire in 2010; and

·       to consider and act upon such other business as may properly come before the annual meeting.

Please refer to the accompanying proxy statement for more complete information concerning the matters to be acted upon at the annual meeting.

Holders of record of our common stock at the close of business on April 3, 2007, the record date for the annual meeting, are entitled to vote at the annual meeting and at any postponements or adjournments of the annual meeting. All stockholders are invited to attend the annual meeting in person.

Your vote matters. Holders of record of common stock as of the record date are urged to vote, sign, date, and return their proxies in the enclosed envelope. No postage need be affixed if mailed in the United States. Holders of record of common stock as of the record date who attend the annual meeting and wish to vote in person may revoke their proxies.

	BY ORDER OF THE BOARD OF DIRECTORS
	KENNETH S. BOGER
	Secretary
	April 16, 2007

 

VERTEX PHARMACEUTICALS INCORPORATED

130 Waverly Street
Cambridge, Massachusetts 02139-4242
Telephone: (617) 444-6100
Fax: (617) 444-6680
www.vrtx.com

PROXY STATEMENT

2007 ANNUAL MEETING OF STOCKHOLDERS

To Be Held on May 31, 2007

This proxy statement, with the enclosed proxy card, is being furnished to stockholders of Vertex Pharmaceuticals Incorporated in connection with the solicitation by our board of directors of proxies to be voted at our 2007 annual meeting of stockholders and at any postponements or adjournments thereof. The annual meeting will be held on Thursday, May 31, 2007, at 9:30 a.m. at our headquarters, located at 130 Waverly Street, Cambridge, Massachusetts.

This proxy statement and the enclosed proxy card are first being mailed or otherwise furnished to our stockholders on or about April 16, 2007. Our annual report to stockholders for the fiscal year ended December 31, 2006 is being mailed to the stockholders with this proxy statement, but does not constitute a part hereof.

VOTING PROCEDURES

Your Vote is Important.   Whether or not you plan to attend the annual meeting, please take the time to vote by completing and mailing the enclosed proxy card as soon as possible. We have included a postage-prepaid envelope for your convenience.

Who Can Vote?   In order to vote, you must have been a stockholder of record at the close of business on the record date, which is April 3, 2007. Stockholders whose shares are owned of record by brokers and other nominees should follow the voting instructions provided by the institution that holds their shares. As of the record date, there were 130,845,347 shares of common stock issued, outstanding and entitled to vote. Each share of common stock is entitled to one vote on each matter to be voted upon.

How Do I Vote?   If your shares are held of record in your own name, you may vote by completing and returning the enclosed proxy by mail or by voting in person at the annual meeting.

Voting By Mail.   You may vote by mail by completing and returning the enclosed proxy. Your proxy will be voted in accordance with your instructions. If you do not specify a choice on the proposal described in this proxy statement, your proxy will be voted in favor of that proposal. You may revoke your proxy at any time before it is voted by delivering a subsequently dated written revocation or proxy to our corporate secretary or by voting in person at the annual meeting.

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Voting In Person At The Annual Meeting.   If you attend the annual meeting, you may deliver your completed proxy card in person or you may vote by completing a ballot that will be available at the annual meeting.

Voting Shares Held In “Street Name.”   If your shares are held in the name of a bank, broker or other holder of record, you will receive instructions from the institution that holds your shares that you must follow in order for your shares to be voted. If your shares are not registered in your own name and you plan to attend the annual meeting and vote your shares in person, you should contact the institution that holds your shares to obtain a broker’s proxy card, and bring it to the annual meeting in order to vote.

What Constitutes a Quorum?   In order for business to be conducted at the annual meeting, a quorum must be present. A quorum is present if the holders of a majority of the shares of common stock issued and outstanding as of the record date are present at the annual meeting in person or by proxy. Shares of common stock held by a person who is present at the annual meeting in person or by proxy but who abstains or does not vote with respect to one or more of the matters to be voted upon will nonetheless be counted for purposes of determining if a quorum exists. If a quorum is not present, it is expected that the annual meeting will be adjourned until a quorum is obtained.

What Vote Is Required to Elect the Directors and How are Votes Counted?   The nominees for director who receive the most votes, also known as a “plurality” of the votes, will be elected. Abstentions are not counted for purposes of electing directors. You may vote either FOR all of the nominees or WITHHOLD your vote from any one or more of the nominees. Votes that are withheld will not be included in the vote tally for the election of directors. Brokerage firms and other nominees have authority to vote shares of their customers’ held by them in “street name” for the election of directors. If a broker or other nominee does not exercise this authority, their failure to vote, or a “broker non-vote,” will have no effect on the results of the election of directors.

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PROPOSAL 1:
ELECTION OF DIRECTORS

Our by-laws currently provide for a board of directors consisting of such number of directors, not less than three or more than eleven, as may be fixed from time to time by our board. Currently, the size of our board has been fixed at ten directors.

Pursuant to the Massachusetts Business Corporation Act, our articles of organization and our by-laws, our board is divided into three classes, the Class I Directors, Class II Directors and Class III Directors. Each class holds office for a term of three years and the term of office of one class expires each year. The terms of the three Class III Directors will expire at the 2007 annual meeting. Joshua S. Boger, Charles A. Sanders and Elaine S. Ullian are the current Class III Directors and the nominees for re-election at the 2007 annual meeting for a three-year term that will expire at the 2010 annual meeting. The terms of the Class I Directors and Class II Directors will expire at the 2008 and 2009 annual meetings, respectively.

Shares represented by proxies will be voted for the election as directors of Dr. Boger, Dr. Sanders and Ms. Ullian unless otherwise specified in the proxy. The nominees for director who receive the most votes, also known as a plurality of the votes, will be elected. Abstentions are not counted for purposes of electing directors. Stockholders on the record date may vote either “for” all of the nominees or “withhold” the stockholder’s vote from any one or more of the nominees. Votes that are withheld will not be included in the vote tally for the election of directors.

Our board of directors’ policy with respect to the election of directors by stockholders is that any nominee for director who receives a greater number of votes “withheld” from the nominee’s election than votes “for” the nominee’s election in an uncontested election at a stockholder’s meeting should promptly tender the nominee’s resignation to the chair of our board following certification of the stockholder vote. Our corporate governance and nominating committee will promptly consider the tendered resignation and recommend to our board either that it accept or reject any such resignation or take some other action. In considering whether to recommend to our board acceptance or rejection of the tendered resignation, our corporate governance and nominating committee shall consider all factors it deems in its discretion to be relevant to its determination. Our board will act on the corporate governance and nominating committee’s recommendation, which action shall include either acceptance or rejection of the tendered resignation and may include adoption of measures designed to address perceived issues underlying the election results. Following our board’s decision on the corporate governance and nominating committee’s recommendation, we promptly will disclose our board’s decision, including, if applicable, the reasons for rejecting the tendered resignation. Any director whose resignation is being considered under this policy will not participate in the corporate governance and nominating committee or board considerations, recommendations or actions with respect to the tendered resignation.

If any of the nominees for election to our board should, for any reason, be unavailable to serve as such, proxies will be voted for such other candidate as may be designated by our board, unless our board reduces the number of directors. Our board has no reason to believe that Dr. Boger, Dr. Sanders or Ms. Ullian will be unable to serve if elected.

Dr. Slater, one of our Class II Directors, has accepted employment at a pharmaceutical company with an anticipated start date of May 1, 2007. Under an existing policy in place at her new employer, she must

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resign from her position on our board of directors prior to August 1, 2007. Dr. Slater has indicated to us that she expects to resign from our board on July 31, 2007.

The table below sets forth certain information with respect to the nominees for election to our board and also for those directors whose terms of office are not expiring at the annual meeting.

Nominees

Class III Directors—Present Terms Expiring In 2007 And Proposed Terms To Expire In 2010

 

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Continuing Members of Our Board of Directors

Class I Directors—Terms Expiring In 2008

 

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Continuing Members of Our Board of Directors

 

Class II Directors—Terms Expiring In 2009

 

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Continuing Members of Our Board of Directors

 

Information Regarding Our Board of Directors and its Committees

Corporate Governance Principles and Our  Board of Directors

Our governance practices are documented in a Statement of Corporate Governance Principles, which addresses the role and composition of our board, executive management functioning and succession planning, committees of our board, education and compensation of members of our board and the evaluation of our board. You can learn more about our current corporate governance principles and review our Statement of Corporate Governance Principles, committee charters, and Code of Conduct and Ethics at www.vrtx.com under the tab entitled “Investors” and “Governance Documents.”

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Our Board

Our board of directors met six times during 2006. Each director attended 75% or more of the board meetings during 2006. Each member of our board is encouraged to attend each annual meeting of our stockholders. All of our directors except for Ms. Ullian attended our annual meeting of stockholders held in 2006. Our board has determined that the following members of and nominees for the board qualify as “independent” under the definition adopted by The Nasdaq Stock Market, Inc.: Mr. Brandt, Dr. Brimblecombe, Dr. Cordes, Mr. Emmens, Mr. Sachs, Dr. Sanders, Dr. Slater and Ms. Ullian.

Board Committees

Our board of directors currently has five standing committees: the corporate governance and nominating committee, the audit and finance committee, the commercial strategy committee, which was formed in January 2007, the management development and compensation committee, which we refer to as the MDCC, and the science and technology committee. Each of the committees, other than the commercial strategy committee, has the authority to engage legal counsel or other experts or consultants as its members deem appropriate to carry out the committee’s responsibilities. Pursuant to our Statement of Corporate Governance Principles, our board has determined that each of the corporate governance and nominating committee, the audit and finance committee and the MDCC must consist solely of “independent directors,” as that term is defined by the Securities and Exchange Commission and The Nasdaq Stock Market, Inc. We select “independent directors” as members of these committees with the expectation that they will be free of certain relationships that might interfere with their exercise of independent judgment. Participation in the commercial strategy committee or science and technology committee is not limited to independent directors.

Corporate Governance and Nominating Committee

The corporate governance and nominating committee is comprised of Dr. Sanders (Chair), Mr. Brandt, Mr. Emmens and Dr. Slater. Pursuant its committee charter, the corporate governance and nominating committee:

·       assists our board of directors in developing and implementing our corporate governance principles;

·       determines the size and composition of our board and its committees;

·       monitors a process to assess the effectiveness of our board;

·       identifies qualified individuals to become members of our board; and

·       recommends nominations to the full board.

In addition, Dr. Sanders, in his role as chairman of our board and an independent director, serves as the presiding director of executive sessions of our outside directors, which generally are held following each of our board meetings.

In 2006, the corporate governance and nominating committee met four times, and all of its members attended at least 75% of its meetings.

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When assessing potential nominees for election to our board, the corporate governance and nominating committee considers a variety of factors, such as the candidates’ education, experience and knowledge of our industry and experience in other industries that are relevant to us, understanding of our technology and the science associated with drug discovery and development, prior service as a director of a public company and relevant commercial experience. The corporate governance and nominating committee may consider candidates recommended by stockholders, as well as recommendations from other sources, such as other directors or officers, third-party search firms or other appropriate sources. If a stockholder wishes to propose a candidate for consideration as a nominee by the corporate governance and nominating committee, the stockholder should submit any pertinent information regarding the candidate, including biographical information and a statement by the proposed candidate that he or she is willing to serve if nominated and elected, by mail to our corporate secretary at our offices at 130 Waverly Street, Cambridge, Massachusetts, 02139. In general, persons recommended to the corporate governance and nominating committee by stockholders will be considered on the same basis as candidates from other sources. If a stockholder wishes to nominate a candidate to be considered for election as a director at the 2008 annual meeting of stockholders using the procedures set forth in our by-laws, the stockholder must follow the procedures described in “Stockholder Proposals for the 2008 Annual Meeting and Nominations for Director” on page 46 of this proxy statement.

Audit and Finance Committee

Our audit and finance committee is comprised of Mr. Brandt (Chair), Mr. Sachs and Dr. Sanders. Our board has determined that Mr. Brandt, an independent director who serves as the chair of our audit and finance committee, is an “audit committee financial expert,” as that term is defined in applicable regulations of the Securities and Exchange Commission. The primary purposes of the audit  and finance committee are to:

·       assist our board in fulfilling its responsibility for oversight of the quality and integrity of our accounting, auditing and reporting practices; and

·       review and make recommendations to our board concerning our financial structure and financing strategy.

In addition, our audit and finance committee focuses on the qualitative aspects of the financial reporting to stockholders, on our processes to manage business and financial risk and on compliance with significant applicable legal, ethical and regulatory requirements. Our independent registered public accounting firm reports directly to and is held accountable to the audit and finance committee in connection with the audit of our annual financial statements and related services. Our audit and finance committee has sole authority over the appointment, compensation and oversight of the work of the independent registered public accounting firm, and where appropriate, the replacement of the independent registered public accounting firm.

In 2006, the audit and finance committee met twelve times, and each of its members attended at least 75% of its meetings.

The report of the audit and finance committee appears at page 43 of this proxy statement.

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Commercial Strategy Committee

The commercial strategy committee, which was formed in January 2007, is comprised of Mr. Emmens (Chair), Mr. Brandt, Dr. Slater and Ms. Ullian. Our commercial strategy committee will:

·       review our marketing strategy and our marketing plan for telaprevir; and

·       provide our board with periodic assessments of the status of our commercialization efforts.

MDCC

The MDCC is comprised of Dr. Brimblecombe (Chair), Mr. Sachs and Ms. Ullian. Pursuant to its charter, our MDCC:

·       recommends to our full board the amount, character, and method of payment of compensation of all of our executive officers and certain other key employees;

·       plans for the succession of our executives; and

·       administers our stock and option plans and employee stock purchase plan.

In 2006, the  MDCC met six times, and each member of the MDCC attended at least 75% of its meetings.

The report of the MDCC appears at page 22 of this proxy statement.

Science and Technology Committee

The science and technology committee is comprised of Dr. Slater (Chair), Dr. Cordes, Dr. Brimblecombe, Dr. Collinson and Mr. Emmens. The science and technology committee discharges our board’s responsibilities relating to the oversight of our investment in pharmaceutical research and development. In furtherance of that oversight function, the science and technology committee:

·       reviews and assesses our current and planned research and development programs and technology initiatives from a scientific perspective;

·       assesses the capabilities of our key scientific personnel and the depth and breadth of our scientific resources;

·       provides strategic advice to our board regarding emerging science and technology issues and trends; and

·       periodically reviews our patent portfolio and strategy.

In 2006, the science and technology committee met four times, and all of the members of the science and technology committee attended at least 75% of its meetings.

Board Recommendation

Our board of directors recommends that our stockholders vote FOR the election of each of the nominees to the board. A plurality of the votes cast in person or by proxy at the annual meeting is required to elect each nominee as director.

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EXECUTIVE COMPENSATION

Compensation Discussion and Analysis

Overview

The goal of our compensation program is to attract and retain key employees, motivate them to achieve, and reward them for superior performance. We gear different compensation elements to shorter- and longer-term performance, with the overall objective of creating long-term value for our stockholders, consistent with our fundamental corporate purpose of innovating to transform lives with new medicines. We have built, and expect to continue to build, an executive leadership team with the expertise and experience that we need, as we expand our capabilities in late-stage drug development, drug supply, registration and commercialization of pharmaceuticals. The market for these individuals is very competitive, and many of them come to us from large pharmaceutical companies. In order to attract and retain talented executives, we provide shorter-term compensation elements that rival our competitors’, such as base salary, a performance-based annual cash bonus opportunity, and a generous benefits program. However, we also try to conserve our cash resources, since we require significant amounts to fund our operations and are not yet profitable. We seek executives who believe in the long-term potential of our company, and who take responsibility for setting and accomplishing goals that drive us to success. Accordingly, we provide a majority of each executive’s annual compensation in the form of stock option and restricted stock grants that vest over time, or upon achievement of pre-determined goals. The value of these grants will be driven by the value of our stock, which we expect to reflect our performance over the longer term. We do not fund retirement programs, company cars, or other expensive perquisites for our executives.

Role of MDCC and Chief Executive Officer in Setting Executive Compensation.   The MDCC has primary responsibility for advising our board of directors with respect to developing and evaluating potential candidates for executive positions, including the chief executive officer, and for overseeing the development of executive succession plans. As part of this responsibility, the MDCC oversees the design, development and implementation of the compensation program for the chief executive officer and the other named executive officers.

The MDCC evaluates the performance of our chief executive officer and recommends to our board for its approval all compensation elements and amounts to be awarded to our chief executive officer. Our chief executive officer, who is a member of our board, does not participate in board decisions relating to his compensation.

The MDCC also assesses the performance of the other executive officers and recommends compensation elements and amounts for their compensation to our board. Our chief executive officer and our vice president, human resources, assist the MDCC in reaching compensation recommendations with respect to executive officers, including the named executive officers, other than the chief executive officer. The other named executive officers do not play a role in their own compensation determination, other than discussing individual objectives, and their performance against those objectives, with the chief executive officer. Our board makes all final compensation decisions with respect to our executives.

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Role of Compensation Consultant.   Neither the company nor the MDCC has a contractual arrangement with any compensation consultant who has a role in determining or recommending the amount or form of executive or director compensation. Occasionally, the MDCC has engaged Hewitt Associates to discuss different elements of our executive compensation program. For example, in 2006, the MDCC consulted with Hewitt about our approach to setting executive base salary levels. In connection with this consultation, a Hewitt representative delivered collated data about the practices of companies against which we compete for executive services, and advised the MDCC about choosing comparator companies. In 2005, the MDCC consulted with Hewitt about the design of our annual performance-based cash bonus plan. We do not receive any other services from Hewitt.

Elements of Compensation

The elements of our annual executive compensation program are:

·       base salary;

·       non-equity year-end performance compensation, which results in an annual cash bonus;

·       stock option grants;

·       restricted stock grants; and

·       health and other benefits available to all our employees, including matching payments under our 401(k) plan and payment of life insurance premiums.

On an other-than-annual basis, we also occasionally make supplemental grants of restricted stock or stock options, when we believe that they are warranted in order to ensure that we retain key executives at critical times in our business. We pay additional one-time elements in connection with hiring new executives, such as sign-on bonuses, reimbursement of moving expenses, and new-hire grants of restricted stock and stock options.

Each year we review the balance of the elements of our executive compensation program to ensure that we have appropriately designed each element in light of our goals of aligning the program with our shareholders’ interests, the competitive environment and our business strategy. We expect that we may adjust our approach to some or all of these elements over time as our company and our business evolve.

Our compensation system is relatively simple, with a small number of elements that operate independently from one another, except that an adjustment to an executive’s base salary level also will result in a corresponding change in the executive’s bonus opportunity, and potentially, any severance or change-in-control payments. Nonetheless, any time the MDCC evaluates an amount to award or pay for a specific compensation element, we provide a tally sheet that sets forth all elements of the executive’s compensation, including salary, cash bonus, value of equity compensation, the dollar value to the executive and cost to us of all personal benefits, and the actual projected payout obligations under potential severance and change-in-control scenarios, and showing the impact of the proposed award or payment on each compensation element and on aggregate compensation. The MDCC makes all executive compensation recommendations and/or decisions with reference to the provided tally sheets, with a goal of establishing and administering an overall executive compensation program that is fair and reasonable both to our executives and to our stockholders.

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While the tally sheets include information about the current and projected value of each executive’s inventory of outstanding vested and unvested equity awards, we believe it is inconsistent with our compensation philosophy to give this “accumulated wealth” weight in setting current executive compensation levels. The value of an executive’s equity inventory is largely a function of prior performance, in terms of the size of the grants, the duration of the executive’s tenure with us, and the performance of our common stock during that tenure. We do not believe that reducing the amount of an executive’s current compensation on account of wealth accumulated for prior performance would be consistent with our compensation objectives of retaining, motivating and rewarding our executives, and accordingly, we do not do so.

We would like our compensation program to be reasonably cost and tax effective. To the extent consistent with our other goals, we try to preserve corporate tax deductions, while maintaining the flexibility to approve compensation arrangements that we believe to be in the best interests of the company and our stockholders, but that may not always qualify for full tax deductibility. The adverse tax impact to us of making awards that do not qualify as performance-based compensation, such as certain severance payments and restricted stock grants, currently is minimal, because at this time we do not have net income subject to federal income tax.

Base Salary

In general, the MDCC adjusts the executive officers’ base salary levels at the beginning of each calendar year in conjunction with our annual performance review process, which is described more fully below under the heading Performance-Based Elements of Compensation—Annual Cash Bonus and Equity Awards. We recently have modified our practice for setting base salaries for executives. In 2006 and prior years, each executive officer was awarded an increase to base salary over the prior year’s level measured by a percentage that was determined on the basis of the executive’s performance rating for the prior year’s performance. These formula-based merit adjustments were made, for any given performance rating, at the same percentage levels for our executive officers as for all other employees, consistent with a company-wide policy.

In early 2006, the MDCC reconsidered our policies and practices in connection with setting base salary levels for executives. In consultation with Hewitt Associates, the MDCC decided that we should no longer grant formula-based merit increases to our executives’ base salaries, but rather, that we should set base salaries each year on the basis of a market analysis, on a position-by-position basis. Using this approach in 2007, we prepared tables for the MDCC’s review, showing a comparison of each executive’s prior-year base salary and bonus opportunity, at the target level, to salaries and bonuses reported for executives with similar responsibilities in specified comparator companies. For a discussion of our practices in selecting comparator companies, the identity of our comparator companies, and our use of comparative compensation data, see the discussion below at Analysis of Compensation Practices of Comparator Companies. We did not benchmark to a particular level of compensation relative to compensation levels at the comparator companies, but rather, made a subjective judgment about where each executive should fall in comparison with executives with similar responsibilities at the comparator companies, taking into account the executive’s general level of experience and mastery, significance of job responsibilities to achievement of our business strategy and company goals, and general performance over time, including demonstration of the values and desirable behaviors under our core values program. On the basis of that information, the executive’s base salary for the previous year and the terms of the executive’s employment

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agreement with us, if any, the MDCC independently determined an appropriate salary level and any necessary salary adjustment as a result of that determination for each executive officer and recommended the appropriate adjustment to our board for approval.

The named executive officers’ base salaries for 2006 initially were established under the formula-based merit system. Our performance rating for 2005 was the highest possible (which, under our new rating nomenclature for the 2006 performance year, was the equivalent of “leading”) and each named executive officer received the highest possible performance rating. Each of our employees, including the named executive officers, whose 2005 performance was given the highest rating received a formula-based merit increase to base salary of 6.25%. Dr. Hartmann began his employment with us in February 2005, so his merit-based base salary increase in 2006 for 2005 performance was prorated to 5.46%. In addition, in February 2006, we promoted three of our executives to executive vice president, to reflect increased responsibilities for multiple functional areas within our company. In connection with those promotions, the MDCC analyzed market factors, in a manner similar to that adopted for base salary increases after 2006, and determined that Dr. Alam and Mr. Smith should receive additional base salary increases to reflect the new higher level of their responsibilities. Additionally, the MDCC determined that Dr. Boger should receive a salary increase to $600,000 per year, to bring his base salary closer to base salaries of the chief executive officers of our comparator companies. Accordingly, our board approved the following base salary levels for the named executives for 2006:

 

In January 2007, on the basis of its review of comparator companies and other industry data, the MDCC concluded that the base salary levels for each of the named executive officers was generally in line with the salaries paid to executives with similar responsibilities, but that an increase to all the executives’ base salaries was warranted to keep up with general market increases. On the basis of this analysis, the MDCC recommended to our board of directors that each of the named executive officer’s base salaries be increased by 3.0%. Accordingly, in January 2007, our board approved the following base salary levels for the named executive officers for 2007:

 

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Performance-Based Elements of Compensation—Annual Cash Bonus and Equity Awards

Two of the three principal elements of our executive compensation program—annual cash bonus and annual equity awards—are awarded in amounts determined on the basis of annual company and executive performance. The performance factors for each of these programs are established in accordance with our company-wide performance management system, described below.

At the beginning of each calendar year, our board of directors, in consultation with our chief executive officer, establishes company-wide goals for that year. In general, key corporate performance factors for each year include achievement of specific financial objectives, research productivity, development progression with respect to both internal development efforts and collaborative development, the pace and success of our internal growth, and other aspects of company performance that we believe drive stockholder value. We consider specific details of our annual corporate goals to be confidential information and closely guard this information, because we believe that our competitors could use it to modify their strategies to compete more effectively with us. Our goals for every year, including 2006 and 2007, are very ambitious. Due to the high risks associated with developing and commercializing pharmaceuticals, we elect to diversify our research and development activities across a relatively broad array of disease indications and drug targets. While we expect that not all of our programs may be successful, we establish our annual goals as if they will be. Moreover, at the end of the year, our board evaluates our performance against the goals on a “binary” basis—“achieved” or “not achieved.” We do not get partial credit for partially-achieved goals, and complete achievement of all our goals is very unlikely.

At the completion of each calendar year, our board conducts a year-end evaluation of performance against the pre-determined goals and assigns us a company-wide performance rating. The year-end rating is a factor used to establish the amount available for payment of year-end cash bonuses, as discussed more fully below under Annual Cash Bonus Program. Our rating for 2006 was “leading,” which is the highest rating possible under our performance management system.

Similarly, we establish individual performance goals for each executive near the beginning of each calendar year. Our executives’ goals establish expectations for their performance relative to achievement of the company goals. At year-end, each executive is assigned a performance rating on the basis of his performance for the year. It generally is our policy and practice that no executive is awarded a rating that is higher than the company rating for the year. Additionally, each employee at Vertex, including the named executive officers, is evaluated on a “results-based, values-tempered” basis, which takes into account not only “what” was accomplished, but “how.” We have three company core values: “innovation is our lifeblood;” “fearless pursuit of excellence;” and “‘we’ wins.” Under our Values into Practice program, we expect all employees to demonstrate our company core values in all aspects of job performance. We further expect that our executives will be exemplars of our core values, and the performance ratings assigned to them incorporate our board’s assessment of the strength of their leadership with respect to, and demonstration of, values-based behavior.

Each executive’s performance rating is applied, along with other factors as described below, to determine the size of awards made to the executive under our annual cash bonus and stock and option plans.

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Annual Cash Bonus Program

Our annual cash bonus program is designed to reward our employees, including the named executive officers, in the near term, for accomplishment of our annual performance objectives. We adopted an annual cash bonus program based on target bonuses for performance years beginning in 2006. Over the course of 2005, we designed the plan in consultation with the MDCC, incorporating information and advice from the MDCC’s consultant, Hewitt Associates. The amount to be paid to each of the named executive officers under the annual cash bonus program is determined on the basis of the following formula:

 

Target Bonus.   The amount calculated by multiplying an employee’s base salary by his or her individual incentive target is referred to as the target bonus. Individual incentive targets are established solely on the basis of level, and are higher for positions of greater responsibility. Thus, a greater portion of annual cash compensation (salary plus bonus) is “at risk” for our executives than for our non-executive employees, which is consistent with our policy that a significant portion of executive compensation should be performance-based.

The individual incentive targets assigned to each level were determined using available information about comparator group companies. For 2006, the individual incentive targets for our executives were 30% of base salary for vice presidents, 40% of base salary for executive vice presidents, and 60% of base salary for the chief executive officer. The target bonus amounts for the named executive officers, before adjustment upwards or downwards by the individual and company performance factors, are calculated to make the total annual cash compensation for each named executive who meets his objectives to be in the range available to executives at companies in the comparator group.

Performance Factors.   The target bonus is subject to adjustment on the basis of performance factors for the applicable year, based on both the individual and company performance ratings. These adjustments allow for above-median payouts in a year where both the individual executive and Vertex significantly exceed performance expectations. It also provides for awards significantly below the median in years in which Vertex and/or the executive falls short of performance expectations.

Individual Performance Factors.   For each possible performance rating under the system, there is an associated range, which allows the rating supervisor to further fine-tune the individual performance factor. For example, for an executive who has a results-based rating of “leading” and who meets expectations with respect to values-based behaviors, the individual performance factor is set within the range of 120% to 140% by our board of directors following a recommendation (for all executives other than himself) by the chief executive officer. A lower performance rating could result in an individual performance factor as low as 0%. The maximum individual performance factor that can be awarded under

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our current program is 150%. On the basis of the MDCC’s recommendation, our board approves the individual performance factor for each of the named executive officers.

Company Performance Factors.   When our board of directors assigns a performance rating for the completed year, it also assigns two company performance factors—one for our executives and one for all other employees. The range of performance factors for executives is from 0% to 150%. The range of company performance factors for non-executive employees is from 0% to 120%.

Cash Bonus Awards to Named Executive Officers for 2006 Performance.   In January 2007, our board of directors determined that the company performance factor for executives under the annual cash bonus program for 2006 should be 140%. We met or exceeded a very high proportion of our annual goals for 2006 across all significant aspects of our business, including advancement of our telaprevir clinical development program to position that investigational compound to initiate a Phase 3 clinical trial in 2007 and securing a key collaborative relationship with Janssen Pharmaceutica for development and potential commercialization of telaprevir; achievement of key development milestones for earlier stage compounds, including the completion of a Phase 2 clinical trial for VX-702 and a Phase 1 clinical trial for VX-770, and the advancement of VX-680 into a pivotal Phase 2 clinical trial; and accomplishment of certain financial objectives, including the completion of a $330 million common stock offering and reduction of our outstanding convertible indebtedness to approximately $100 million. The board also determined that each of the named executive officers made particularly significant contributions to these accomplishments, and assigned an individual performance factor of 140% to each of the named executive officers. The cash bonus awards to the named executive officers for 2006 performance were as follows:

 

Annual Equity Awards

Stock awards made under our stock and option plans are granted to all eligible employees, including the named executive officers, for the purpose of creating a link between compensation and stockholder return, and to enable the named executive officers and employees to develop and maintain a significant stock ownership position that will vest over time and act as an incentive for the employee to remain employed by us. The number of shares awarded increases with increased responsibility and with a higher year-end performance rating.

Under our current annual equity compensation program, each of the named executive officers is eligible for a combined grant of stock options and restricted stock, in amounts finally determined by the board of directors during the annual performance review process. All grants to employees are made under a stockholder-approved stock and option plan, and are subject to vesting. All stock option awards are granted with an exercise price determined by averaging the high and low price of our common stock on the

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date of grant and vest quarterly over four years. Accordingly, the intrinsic value of any stock option grant is proportional to both the increase in fair market value of the stock between grant and exercise, and to the increasing number of vested shares over time. Accordingly, stock options can serve as a retention tool, progressively rewarding an executive for time-in-service, but since stock options have realizable value only if the value of our common stock increases after the grant date, they serve as a motivational tool for company financial performance as well.

All restricted stock awards made under our annual program to our named executive officers are issued at par value, or $0.01, and vest on the fourth anniversary of the grant date, subject to accelerated vesting for certain performance-based factors. Shares that are vested may be sold by the holder without transfer restrictions. For all annual restricted stock grants made to executive officers beginning in March 2004, 50% of the shares vest if the market price of our stock achieves and maintains a pre-determined level, and 50% of the shares vest if our common stock price outperforms a specified industry-focused share index for two consecutive years. We consider the price target and specific target index to be confidential information, and choose them with the objective of triggering accelerated vesting only upon significant above-market performance of our stock. Restricted stock awards are for a smaller number of shares than stock option awards. They serve principally as a retention tool, because their value on the vesting date corresponds directly to the prevailing stock price at any point in time—rather than to any increase over the prevailing stock price on the date of grant. Accordingly, restricted shares have value to the named executive officer even if we have suffered a setback and the price of our common stock has declined, assuming that the shares vest. They also are linked to performance, however, in the sense that they are more valuable if the stock price increases, and because they vest sooner if the performance-based accelerators are achieved.

Under our current program, the number of shares for each stock option award and restricted stock grant is established using available information about grants made by the comparator companies to executives with similar levels of responsibility. We generally target approximately the median of the comparator group, taking into account the total number of shares, shares outstanding, and comparative value of the awards, and use this information to establish baseline levels of stock option and restricted stock awards, which are awarded to employees, including executives, with a median performance rating and who meet expectations with respect to the demonstration of values-based behaviors. For a lower performance rating, we award from 0% to 70% of the baseline number of shares. We grant 125% of the baseline number of shares to employees who achieve the highest performance rating and 150% of the baseline to our topmost performers who achieve both the highest performance rating and who are exemplary in their demonstration of value-based behaviors. We adopted this “performance-based, values-tempered” approach for 2006. For years before 2006, employees who achieved the highest performance rating were awarded equity grants at 150% of the baseline level.

The annual amount of equity compensation for each of the named executive officers reflects annual performance, which is evaluated after the year is completed. Accordingly, a significant portion of the equity compensation granted in 2006 was granted on account of performance in 2005. Similarly, the MDCC made a final determination of the amount of equity compensation for 2006 performance in January 2007. To compensate for the lag in making equity grants, and to smooth the exercise price of options, our board of directors usually awards a mid-year stock option grant at its regularly scheduled summer meeting. Ordinarily, our board grants a stock option to all eligible employees, including the named executive officers, in an amount that is 50% of the baseline number of shares. The second award is made upon completion of the annual performance evaluation early in the following year. At that time, we

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determine the aggregate number of shares to be awarded for the entire year on the basis of individual performance rating, and award the balance after subtracting the amount granted in the mid-summer award. The numbers of shares subject to option and restricted stock awards for each named executive are adjusted based on the executive’s performance ratings for the year, in amounts ranging from 0% to 150% of the baseline. The restricted stock award portion of annual equity compensation, as adjusted on the basis of performance rating, is made to each named executive in a single grant in conjunction with the annual year-end review process.

Each of the named executives achieved the highest possible performance rating for 2005 performance. The total equity awards made to each of the named executives on account of 2005 performance, in amounts that were 150% of the baseline grant amount and excluding supplemental grants, are as follows:

 

The total equity awards made to each of the named executives on account of 2006 performance, in amounts that were 125% of the baseline grant amounts, and excluding supplemental grants, are as follows:

 

Benefits

Our executives are eligible to participate in all benefits programs on the terms made generally available to our employees, including medical insurance, dental insurance, payment of life insurance premiums, disability coverage, and participation in our employee stock purchase plan. Our retirement benefits are limited to a defined contribution (401(k)) plan, in which our named executive officers are eligible to participate, subject to all applicable limitations under the plan, including the federal maximum annual contribution amounts. We make matching contributions to the 401(k) plan, which are made in the form of fully vested unitized interests in a Vertex common stock fund, and are subject to certain limitations. The formula for determining the amount of our matching contributions is the same for our named executive officers as for our other employees, but the actual contributions made to the accounts of

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our named executive officers are at the top end of the formula range, due generally to the executives’ higher salaries and corresponding higher cash contribution levels. We do not provide any other retirement benefits to the named executive officers.

Supplemental Grants of Equity Compensation

On an occasional basis, the MDCC has recommended that our board of directors make an additional, off-cycle equity award to an executive officer or group of officers in order to achieve one or more of the objectives of our executive compensation program. Our board has made three such awards, beginning in 2004, to some or all of the named executive officers. In May 2004, our board made a retention grant of restricted stock to all of our executives, in order to retain our executive leadership at a time when we had suffered a number of setbacks, particularly with respect to late-stage drug candidates being developed by collaborators. The shares subject to these grants vest in two installments, with 50% vesting on the third anniversary of the grant, and 50% vesting on the fifth anniversary of the grant, or sooner, if we achieve profitability. In February 2006, our board awarded our chief executive officer, Joshua Boger, an additional option grant for 298,500 shares, to bring the total grant on that date to 600,000 shares, all of which vest quarterly over four years. The purpose of this grant was to provide an additional incentive for Dr. Boger, whose performance and leadership are valued very highly by our board of directors, to remain in service as our chief executive officer as we build the company around our later stage drug candidates. Similarly, in January 2007, our board awarded a 20,000 share restricted stock grant to each of our four executive vice presidents—Mr. Smith, Dr. Alam, Dr. Hartmann and Dr. Mueller—as an additional incentive to remain with us over the next several years. Supplemental grants generally are made on an ad hoc basis, when warranted in the judgment of the MDCC and our board, and we cannot predict if the board of directors will make additional grants in the future, or characterize the likely size and/or terms of any such grants.

New Hire Compensation Elements

The initial compensation terms for newly hired executives are the result of negotiations between us, in consultation with the MDCC and our board, and the executive being recruited. Accordingly, the initial employment terms for each of the named executive officers vary significantly, depending on the level of responsibility, market for the executive’s services, value of other opportunities available to the executive and similar considerations. We seek to balance the need to be competitive in a competitive market against the need for the executive’s compensation to be comparable with the executive’s peers’ at the company. In general, each newly hired executive is awarded a stock option and restricted stock grant, and in some cases a sign-on bonus, reimbursement of moving expenses, and other benefits. Dr. Hartmann, who joined us in 2005, moved from Europe, and was reimbursed for his moving expenses in 2006.

Post-Termination Compensation and Benefits

We have entered into employment contracts and/or change-in-control agreements with each of the named executive officers. The terms of these agreements vary from executive to executive with respect to the amount of severance payments, provisions for accelerated equity award vesting, continuation of benefits and other terms, as a result of negotiations with each executive generally at the time the executive was recruited. We believe agreements of this type can be important components of our effort to recruit and retain senior executives, particularly for companies at our stage of development and in our relatively high-

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risk industry. A further discussion of the terms and projected payments under each of these contracts is set forth below under the heading Employment Contracts and Change of Control Arrangements.

Analysis of Compensation Practices of Comparator Companies

In order to make judgments about elements of executive compensation on a competitive basis, we consider information about the compensation practices of a representative group of companies with whom we compete for talent. We select the companies for this comparator group on the basis of industry, annual operating expenses and market capitalization. We review and revise the companies included in the comparator group on a regular basis. To ensure that we have enough comparative compensation information, we generally try to include approximately 20 companies in the comparator group, with Vertex situated approximately at the midpoint of the group, particularly with respect to operating expenses. In order to include this number of companies in the group, we necessarily include companies with operating expenses and/or market capitalizations that are significantly higher or lower than ours. When we are concerned that data from the largest and smallest companies in the group may distort our analysis, we also focus our comparative information reported by a smaller subgroup of the comparator companies, which in our 2007 analysis includes only the companies from Endo Pharmaceuticals Holdings Inc. to MedImmune, Inc. in the list below. We refer to that subgroup of companies as the primary comparator group. For compensation decisions made in January 2007, the comparator group was comprised of the companies set forth in the following list:

 

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For example, when the MDCC set recommended 2007 base salaries for the named executive officers, they reviewed information about the proposed compensation levels for each person, in comparison to comparable data from both the full comparator group and the primary comparator group. The MDCC also compares our executive compensation to that reported in broader industry-specific executive compensation surveys published by Organization Resources Counselors, Inc. and by Towers Perrin. For each of the named executive officers, we consider the quality of the available information on the basis of corresponding job responsibilities and may make adjustments to reflect any differences.

Equity Grant Practices

The exercise price for each stock option awarded to our current executive officers under our equity compensation program is the average of the high and low price for Vertex common stock on the date of grant, as required under our stockholder-approved stock and option plan. Our board generally grants employee options two times per year, on the date of its mid-summer meeting, usually in July, and on the date of its first meeting of each new year, usually in late January or early February. Board and committee meetings generally are scheduled at least a year in advance, and scheduling decisions are made without regard to anticipated earnings or other major announcements by the company.

In general, newly hired employees, including executive officers, are granted options and/or restricted stock effective on the first day of employment, with the options having an exercise price set at the average of the high and low price for our common stock on the employment start date. The employees’ start dates are scheduled without regard to anticipated earnings or other major announcements by the company.

Report of Management Development and Compensation Committee on Executive Compensation

The Management Development and Compensation Committee has reviewed the Compensation Discussion and Analysis and discussed that analysis with management. Based on its review and discussions with management, the Management Development and Compensation Committee recommended to Vertex’s Board of Directors that the Compensation Discussion and Analysis be included in Vertex’s proxy statement for its 2007 annual meeting of stockholders and incorporated by reference into Vertex’s Annual Report on Form 10-K for the year ended December 31, 2006. This report is provided by the following directors who comprise the Management Development and Compensation Committee:

Roger W. Brimblecombe (Chair)
Bruce I. Sachs
Elaine S. Ullian

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Compensation and Equity Tables

Summary Compensation Table

The following table provides summary information concerning compensation earned during the fiscal year ended December 31, 2006 by our chief executive officer, chief financial officer and our three other most highly compensated executive officers, who we refer to collectively as our named executive officers.

 

The amounts set forth under the captions “Stock Awards” and “Option Awards” in the table above represent the stock-based compensation expense recognized in 2006 for financial statement reporting purposes in accordance with Statement of Financial Accounting Standard No. 123(R), “Share-Based Payment,” relating to outstanding equity awards, disregarding the estimate of forfeitures for service-based vesting conditions. Our methodology, including underlying estimates and assumptions for calculating these values, is set forth in Note D to our consolidated financial statements included in our 2006 Annual Report on Form 10-K, filed with the Securities and Exchange Commission on March 1, 2007.

The amounts set forth under the caption “Non-Equity Incentive Plan Compensation” represent cash bonus amounts paid in 2007 for 2006 performance.

The amounts set forth under the caption “All Other Compensation” in the table above consist of:

 

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Grants of Plan—Based Awards

The following table provides information with respect to grants of awards to each of our named executive officers during 2006:

 

The amounts in the “Estimated Possible Payouts Under Non-Equity Incentive Plan Awards” column represent the minimum, target and maximum amounts that our named executive officers were eligible for pursuant to our 2006 annual cash bonus program. Actual amounts paid to each of the named executive officers under this plan are set forth in the summary compensation table above.

The amounts in the “Estimated Future Payouts Under Equity Incentive Plan Awards” column represent the number of shares subject to a restricted stock grant to the named executive officer in early 2006, on account of 2005 performance. Each of these grants is characterized as Performance-Accelerated Restricted Stock, which is subject to time-based vesting on the fourth anniversary of grant, with 50% of the shares subject to acceleration of vesting if the market price of our common stock achieves and maintains a pre-determined value and 50% of the shares subject to acceleration of vesting if our common stock outperforms a specified share index, based on the stock performance of certain competing companies, for two consecutive years.

In accordance with our stock and option plans, the exercise prices for the stock options granted to our named executive officers during 2006 were equal to the average of the high and the low prices of our common stock on the grant date. As a result, in 2006 the exercise prices of options granted to our named executive officers were higher than the closing price of our common stock on the grant date. In the future, we expect that options will continue to be granted with exercise prices equal to the average of the high and low prices of our common stock on the grant date, and that as a result the exercise prices are likely be different from the closing price of our common stock on the grant date. Each stock option set forth in the table above is subject to vesting in 16 quarterly installments during the first four years of its ten-year term.

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