Merck : Compensation Report 2022

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Compensation Report

This compensation report describes the structure and application of the compensation system for the Executive Board of Merck KGaA, Darmstadt, Germany, in the fiscal year 2022. It provides a transparent overview of the relationship between compensation and performance, and presents the compensation awarded or due to the members of the Executive Board and the Supervisory Board in the 2022 fiscal year. The compensation report has been jointly prepared by the Supervisory Board and the Executive Board in accordance with the provisions of Section 162 of the German Stock Corporation Act (AktG) and the recommendations of the German Corporate Governance Code in the version dated April 28, 2022. It has formally and materially been audited by KPMG AG Wirtschaftsprüfungsgesellschaft in line with the requirements of Section 162 (3) AktG as part of the combined management report. The compensation report and the corresponding audit opinion as part of the audit opinion on the annual financial statements of Merck KGaA, Darmstadt, Germany, can be found on our website.

The legislation and regulations relating to the compensation report are geared toward the situation at a German stock corporation ("Aktiengesellschaft" or "AG") and do not take into consideration the special characteristics of a corporation with general partners ("Kommanditgesellschaft auf Aktien" or "KGaA"), such as our company.

Major differences between the two legal forms exist in terms of liability and management. In the case of an AG, only the AG is liable as a legal entity, whereas the general partners of a KGaA also have unlimited personal liability for the company's obligations (Section 278 (1) AktG). Unlike the management board members of an AG, the members of the Executive Board of our company are personally liable partners of both Merck KGaA, Darmstadt, Germany, and the general partner E. Merck KG, Darmstadt, Germany, and not merely employed members of a corporate board. Given the structural differences between an AG and a KGaA, several recommendations of the German Corporate Governance Code apply to a KGaA only in a modified form.

Review of the 2022 fiscal year

The fiscal year 2022 was a year of continued growth, both financially and in terms of value creation for patients, customers, and investors. At the same time, the market environment was characterized by tensions due to the war in Ukraine, Covid-19, the progressive effects of climate change and geopolitical tensions. This was also reflected on the stock markets. Our share price has been influenced by major fluctuations over the fiscal year 2022.

All three business sectors, Life Science, Healthcare and Electronics, contributed significantly to our success in the fiscal year 2022. Our "Big 3", Process Solutions and Life Science Services, new Healthcare products, and Semiconductor Solutions, were key to growth, combined with the strong performance of established portfolio products. Thanks to the strong growth, we now have excellent financial flexibility, enabling the implementation of our very ambitious investment and growth plans.

In addition to commercial success, we strongly focused on sustainability as integrated component of our strategy in 2022. We set clear sustainability goals, which were linked to the LTIP 2022 by the sustainability factor. In 2022, the independent Science Based Targets Initiative (SBTi) confirmed that our 2030 emissions targets are in line with the current state of climate science. We are thus contributing to limiting global warming to 1.5 °C and thus fulfilling the requirements of the Paris Climate Agreement.

In the fiscal year 2022, severe inflation, the energy crisis and ongoing disruptions to global supply chains were a major challenge for us. Rising costs impacted our business, our customers, and our employees. Regarding employee compensation, we continuously monitor the markets and take appropriate targeted action as needed to ensure that our compensation remains competitive. We are aware of the pressures and significant social impacts on our employees -particularly those with lower incomes. We closely monitored inflation and wage trends and took proactive measures in selected markets by adjusting salaries during the year. We also introduced other supportive benefits for our employees. This is an ongoing process, and we will continue to ensure that we provide appropriate salary adjustments to all employees. We will look for ways to protect our lower-income employees who are most affected by the rising cost of living.

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In the fiscal year 2022 there was no increase of the contractually agreed compensation of the Executive Board. We have met the challenges with strong economic performance which is reflected in the payouts of the variable compensation components. This follows the "pay for performance" principle of the compensation system, which means that excellent performance is rewarded while missed targets are taken into account accordingly. Further details can be found in the Compensation System approved by the Annual General Meeting 2021 and published on our website.

Furthermore, during the fiscal year 2022 the composition of the Executive Board remained unchanged and stable. There were no personnel changes. In the Supervisory Board there was one change of mandate. Effective May 15, 2022, Edeltraud Glänzer left the Supervisory Board and as of July 14, 2022 Birgit Biermann took over.

Approval of the Compensation Report 2021

At the Annual General Meeting 2022, the Compensation Report 2021 was approved with a voting result of 84.73%. Only shares traded in the free float are entitled to vote at the Annual General Meeting.

In relation to the Annual General Meeting 2022 and in ten investor meetings after the Annual General Meeting, We obtained feedback from investors and all relevant shareholder associations and proxy advisors regarding the compensation of the Executive Board and its presentation in the Compensation Report 2021. Similar to the voting results, we received mostly positive feedback to last year's revision of the Compensation Report. In particular, the increasingly transparent presentation was positively highlighted.

We have implemented the suggestion to present the individual maximum amount of the profit sharing and to explain the adjustment factor for increasing or reducing the profit sharing in this compensation report. While the criteria of the adjustment factor are already described in the Compensation System, we are additionally including them again in this Compensation Report to increase transparency even more. With this in mind, this year we are also publishing the target corridor of the respective indicators of the sustainability factor in the Long-Term Incentive Plan (LTIP) already at the beginning of the performance period for the first time.

We received further suggestions related to the LTIP. Regarding the performance indicator, which measures the relative performance of the share price compared to the DAX®, a more ambitious definition of the targets and, in isolated cases, a longer performance period overall are desired. The current tranches show a strong share performance, which according to the system leads to a performance-related payout. Furthermore, the current plan design reflects common market practice in Germany. However, we will consider such advice in the regular review of the compensation system and discuss them as part of a possible adjustment to the LTIP.

It was also made clear that potential adjustments of the Executive Board compensation as well as payments compensating forfeited compensation from a previous employment (sign-on payment) should be explained appropriately. In this regard, we will ensure an even more transparent explanation in the future. In the fiscal year 2022 there were no compensation adjustments.

Concerning the compensation tables, we follow the same approach as last year with the same interpretation of Section 162 (1) of the German Stock Corporation Act (AktG). In this context, we observe the practice of other companies and actively follow the decisions in connection with possible model tables of the EU Commission.

Involving our investors is an important and ongoing process. We will continue to maintain dialogue with investors in relation to the Annual General Meeting 2023 and beyond. Consequently, we can ensure that we receive constructive and valuable feedback which can be incorporated into both the design of the compensation system and the decisions of the Personnel Committee. Accordingly, we will report on the feedback received in the next Compensation Report.

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Compensation for fiscal year 2022 - Summary

Summary of the compensation for the Executive Board members' performance up to December 31, 2022 - voluntary diclosure

1 The compensation of Kai Beckmann and Marcus Kuhnert is included in the average calculation of the further members of the Executive Board. Peter Guenter and Matthias Heinzel joined the Executive Board in the fiscal year 2021 and therefore did not receive any compensation from the LTIP 2020. Taking their compensation into account would therefore lead to a distorted presentation.

Compensation for fiscal year 2022 - Chronological overview

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Relevant key performance indicators for profit sharing and Long-Term Incentive Plan (LTIP)

Profit after tax of	Share price development
E. Merck KG, Darmstadt, Germany

LTIP 2020

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Determining the compensation of the Executive Board

At our company, unlike at publicly listed German stock corporations, it is not the Supervisory Board but the Board of Partners of E. Merck KG, Darmstadt, Germany, that is responsible for designing and reviewing the compensation system and deciding on the amount and composition of compensation received by the Executive Board members. The Board of Partners has assigned this task to its Personnel Committee. As a result, the Personnel Committee is responsible for the development and regular review of the compensation system, i.e., for the structure and examination of the performance-independent and performance-related compensation elements. The Personnel Committee also considers the compensation system for managers and employees below Executive Board level to ensure consistency and a uniform steering effect between the compensation systems. Furthermore, the Personnel Committee is responsible for defining the annual targets and thresholds of the key performance indicators for the performance-related compensation elements.

In addition to the structure of the Executive Board compensation system, the Personnel Committee is responsible for defining the specific amounts of compensation paid to the members of the Executive Board. The compensation paid to the members of the Executive Board considers the responsibilities and duties of the individual Executive Board members, and in particular their status as personally liable partners, their individual performance, and the economic situation, as well as the performance and future prospects of the company.

Furthermore, Executive Board compensation is oriented toward the external peer environment of our company, which comprises the DAX® companies as well as a group of selected international competitors:

The international peer group was defined considering the size, business area and geographic location of the headquarters of the respective competitors. Overall, the peer group offers an appropriate ratio of companies headquartered in Europe and the United States as well as a balanced coverage of the Life Science, Healthcare and Electronics business sectors. Based on the size criteria of sales, number of employees and market capitalization, the Group positions itself around the median of this international peer group.

The relationship between Executive Board compensation and the compensation of top management and the workforce as a whole continues to be taken into account, also in a multi-year assessment. Top management is defined as encompassing the senior levels of management below the Executive Board. The compensation of the remaining workforce as a whole is based on typical employee compensation.

The Personnel Committee reviews the amount and structure of the Executive Board compensation by reference to the peer groups described and with the assistance of an independent compensation consultant.