Boston Scientific (BSX)

Executive Summary

Boston Scientific has designed its executive compensation program to motivate and reward our executives for Company performance and to attract and retain talented executives, while aligning their compensation with the interests of our stockholders. The challenge and aspiration of our Compensation Committee this year was to:

On average, 72% of our total compensation for the executive officers listed in the Summary Compensation Table on page 39, or Named Executive Officers (NEOs), is directly linked to our performance in the form of performance-based cash and equity awards. Our past efforts to put a significant amount of our executives’ compensation at risk by tying its future value to the future value of our stock have meant (given our recent stock price performance) that, even though there is an accounting cost attributable to these awards as disclosed in the Summary Compensation Table, our executives, including our CEO, have a significant number of historical equity awards with little realizable value. In other words, those awards are truly “pay for performance” in that until our stock price improves, those prior awards will continue to be of little value to our executives.

In 2008, our Performance Incentive Plan is designed to have a longer-term focus so that our salaried employees (including our executives) are rewarded for annual performance in addition to quarterly performance, with annual performance having a heavier weighting than individual quarterly performance. In February 2008, we made an annual equity award to our executives, other than our CEO, in order to provide them with an opportunity to realize future value when our stock price improves. Through these and other measures, we are attempting to more closely tie our executives’ compensation to our long-term corporate performance. In addition, in 2008 we made retention awards to certain of our executives (including two of our NEOs) to encourage them to remain with the Company for, at a minimum, the next two years to help us achieve these long-term goals.

The global financial and credit crisis has presented challenges for many companies, including Boston Scientific. Our Compensation Committee has not lowered the performance targets for our executive officers, and cash incentive payouts are made only if the Company achieves its pre-established performance targets. Although we met our financial metrics under our Performance Incentive Plan for 2008, our Compensation Committee adjusted funding for our executives downward by 11.35% as a reflection of our performance versus our 2008 quality objectives, which included lifting our corporate warning letter. Prior to year-end, in December 2008, the Compensation Committee decided to defer merit increases on base salaries for certain salaried employees, including executives. The Committee will review the merit budget in mid-2009 to determine whether merit adjustments should be made at that time. If adjustments are made, they will be based on the approved budget and Performance Achievement and Development Review (PADR) ratings for 2008, as well as an individual employee’s performance evaluation prior to the date of the adjustment. Based on our

Executive Summary

        The year 2007 was a year of challenges for Boston Scientific. Due to an unforeseeable shrinkage in our primary market, drug-eluting stents, and a slow down in the growth rate of our other major market, cardiac rhythm management, our corporate performance lagged our expectations and our stock price declined throughout the year. In response, we implemented numerous initiatives designed to bring our expenses in line with revenue levels, including numerous non-strategic asset divestitures and expense and headcount reduction initiatives. Our expectation is that these efforts will improve our future financial and stock price performance and ultimately enhance stockholder value.

        We believe that our executive team consists of the skilled people to enable us to achieve these goals. The drug-eluting stent and cardiac rhythm management market challenges that we face are, in large part, outside of the control of our employees, including our executives. As a result, the challenge and aspiration of our Compensation Committee this year was to:

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compensate our executive officers in a manner that provided appropriate incentives for our executives to improve Company performance;



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retain those executives despite the fact that many of them have existing equity awards with little retentive value;



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retain and engage those executives in a market where they are presented with other attractive employment opportunities; and at the same time



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tie our executives' pay to actual Company performance.

        Our past efforts to put a significant amount of our executives' compensation at risk by tying its future value to the future value of our stock have meant (given our recent stock price performance) that our executives have a significant number of historical equity awards with little value. In other words, those awards are truly "pay for performance" in that until our stock price improves, those prior awards will continue to be of little value to our executives.

        We had not made an annual equity award to our executives since 2005, when we made a three-year equity grant (though certain of them did receive mid-year promotional awards in recognition of increased responsibilities). In February 2008, we again made an annual equity award to our executives in order to provide them with an opportunity to realize future value from that award if our stock price improves. In addition in 2007 and 2008, we have migrated our performance incentive plan to have a longer-term focus so that our employees (including our executives) are rewarded for annual performance in addition to quarterly performance, with annual performance having a heavier weighting in 2008 than individual quarterly performance. Through these and other measures, we are attempting to more closely tie our executives' compensation to our long-term corporate performance. In addition, in 2008 we made retention awards to certain of our executives (including two of our Named Executive Officers (NEOs)) to encourage them to remain with the Company for at least the next two years to help us achieve these long-term goals.

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Executive Summary

        Our net sales in 2005 increased to $6,283 million from $5,624 million in 2004, an increase of 12 percent. Excluding the favorable impact of $25 million of foreign currency fluctuations, our net sales increased 11 percent. Our gross profit increased to $4,897 million, or 77.9 percent of net sales, in 2005 from $4,332 million, or 77.0 percent of net sales, in 2004. Our reported net income for 2005 was $628 million, or $0.75 per diluted share, as compared to $1,062 million, or $1.24 per diluted share, in 2004. Our reported results included net after-tax charges of $894 million, or $1.07 per diluted share, in 2005 as compared to net after-tax charges of $332 million, or $0.39 per diluted share, in 2004.¹ In addition, our cash provided by operating activities was $903 million in 2005, which includes $750 million paid for the Medinol settlement, as compared to $1,804 million in 2004.

        The growth in 2005 resulted largely from a full year of sales of our TAXUS® Express²™ paclitaxel-eluting coronary stent system that we launched in the United States in March 2004 and increased sales of the TAXUS stent system in our Europe and Inter-Continental markets. TAXUS stent sales in 2005 were $2,556 million as compared $2,143 million in 2004, an increase of 19 percent. We have achieved and maintained leading drug-eluting stent market positions within our U.S., Europe

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The 2005 net after-tax charges consisted of a $598 million litigation settlement with Medinol Ltd.; $267 million in purchased research and development primarily attributable to our recent acquisitions; $24 million of asset write-downs and employee-related costs that resulted from certain business optimization initiatives; $11 million in expenses related to certain retirement benefits; and a $6 million tax adjustment associated with a technical correction made to the American Jobs Creation Act. The 2004 net after-tax charges consisted of a $75 million provision for legal and regulatory exposures; a $71 million enhancement to our 401(k) Retirement Savings Plan; $65 million of purchased research and development; a $61 million charge relating to taxes on the approximately $1 billion of cash that we repatriated in 2005 under the American Jobs Creation Act of 2004; and a $60 million non-cash charge resulting from certain modifications to our stock option plans.

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and Inter-Continental markets. Further, due to increased penetration rates and the successful launch of our next-generation TAXUS® Liberté™ paclitaxel-eluting coronary stent system in our Europe and Inter-Continental markets, our international TAXUS stent system sales for 2005 increased by 38 percent as compared to 2004. This increase in sales was offset by decreased TAXUS stent system sales in the U.S. during the second half of 2005, as compared to the same period in the prior year largely due to a reduction in market share, as well as pricing pressure. During the first three quarters of 2005, we experienced sequential declines in our market share. In the fourth quarter of 2005, our market share stabilized and was relatively consistent with the prior quarter. We expect to launch our TAXUS Liberté stent system in the U.S. in the second half of 2006 and our TAXUS Express² stent system in Japan in the first half of 2007, subject to regulatory approvals.

        In addition, during 2005, our worldwide Endosurgery group sales increased to $1,228 million from $1,088 million in 2004, an increase of 13 percent. Further, our Neuromodulation division, formed following the June 2004 acquisition of Advanced Bionics Corporation, generated $148 million in net sales during 2005 as compared to $46 million in 2004, which represents the period following the acquisition.

        During 2005, we invested a portion of our increased gross profit in various research and development initiatives, particularly related to our 2004 acquisition of Advanced Bionics and our 2005 acquisition of TriVascular, Inc., as well as on projects within our Endosurgery group, including our Endovations™ Endoscopy Suite. We funded additional headcount and programs to strengthen our sales and marketing organization and we made enhancements to our manufacturing and distribution network.

        We continued to generate strong operating cash flow during 2005. In addition, due to favorable market conditions, we raised $750 million from the public markets through a November 2005 debt offering. We used cash generated from operating activities and from the public debt issuance to: repay short-term debt obligations; repurchase shares of our common stock on the open market; and fund 2005 strategic alliances and acquisitions.

Recent Developments

        On January 25, 2006, we entered into a definitive agreement to acquire Guidant Corporation for an aggregate purchase price of $27 billion (net of proceeds from option exercises), which represents a combination of cash and stock worth $80 per share of Guidant common stock. We expect that this acquisition will enable us to become a major provider in the high-growth cardiac rhythm management business, significantly diversifying our revenue stream across multiple business segments and enhancing our overall competitive position. In addition, in conjunction with the acquisition of Guidant, Abbott Laboratories has agreed to acquire Guidant's vascular intervention and endovascular businesses and has agreed to share the drug-eluting stent technology it acquires from Guidant with us. This will enable us to access a second drug-eluting stent program that will complement our existing TAXUS stent program. The transaction is subject to customary closing conditions, including clearances under the Hart-Scott-Rodino Antitrust Improvements Act of 1976 and the European Union merger control regulation, as well as approval of Boston Scientific and Guidant shareholders. Subject to these conditions, we currently expect the acquisition to occur during the week of April 3, 2006.

        On January 26, 2006, we received a corporate warning letter from the FDA notifying us of serious regulatory problems at three facilities and advising us that our corporate wide corrective action plan relating to three warning letters issued to us in 2005 was inadequate. As also stated in this FDA warning letter, the FDA will not grant our requests for exportation certificates to foreign governments or approve pre-market approval applications for our class III devices to which the quality control or current good manufacturing practices deficiencies described in the letter are reasonably related until the deficiencies described in the letter have been corrected. We intend to resolve the quality issues

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cited by the FDA prior to the anticipated launch of our TAXUS Liberté stent system in the United States and therefore do not anticipate delays of this product. However, while we believe we can remediate these issues in an expeditious manner, there can be no assurances regarding the length of time it will take to resolve these issues to the satisfaction of the FDA, and any such resolution may require the dedication of significant incremental internal and external resources. In addition, if our remedial actions are not satisfactory to the FDA, the FDA may take further regulatory actions against us, including but not limited to seizing our product inventory, obtaining a court injunction against further marketing of our products or assessing civil monetary penalties.