Stock Options Overview
To understand this problem we have to review what a stock option is. Typically options are a right to buy a stock at a certain price. Many employees of companies, especially company officers receive a large amount of stock options as part of their pay. The main objective is to encourage the employee's to make the company money and in exchange their stock options will be worth more.
Stock options are beneficial to a company for three reasons. The first is that the align employee goals with the company's overall goals. The second is that stock options are low risk; the company doesn't lose as much if its performance has been bad. The third is cash flow; the company does not actually have to find cash to pay the employees.
The Valuation Rules of the 1990's
In 1993 the FASB attempted to create Statement of Financial Accounting Standard (or SFAS) 123. This would require companys to record stock options as an expense based on their fair market value from the day they were granted. This seems to be a most logical way to account for stock options since it records the opportunity cost of not selling the stock options on the open market and instead giving them away to employees. Unfortunately, tech industry lobbyist and Congress decided to step in.
Soon after the FASB attempted to create this rule Senator Joseph Lieberman (D-Conn) proposed the Equity Expansion Act of 1993. In response to this the FASB did not require that employee stock options be expensed, but instead encourage companies to expense the options and required them to disclose this in financial statement footnotes. Lieberman's reason for rejecting SFAS 123 was "from a public-policy, job-creation and competitiveness perspective, it simply is unnecessary and unusually disruptive."
Companies took advantage of this relaxed accounting method and began giving away more and more stock options. Since their income statements didn't show any expense their share prices increased. This hurt investors because the company's income statement looked higher than it was and the options diluted their ownership. Some new options rules were implemented spearheaded by both democrats and republicans; however companies continued to avoid fully expensing stock options. One common recent tactic has been to back date the options to a time when the stock price was lower so the options will look like they were worth less.
Stock Option Expensing Today
In the summer of 2005 the FASB implemented SFAS 123R. Surprisingly, this statement requires companies to record stock options as an expense based on the fair market value on the grant date, just like FASB 123R. What many politicians don't realize is that accounting rules are less like laws and more like math. There usually is a correct answer and it us based on fact and not the public's opinion.
During the period where stock option valuation was flexible many companies actually supported the idea of expensing options and some did not. Here is an incomplete list of some of these companies.
In Favor of conservatively expensing stock options:
Berkshire Hathaway (NYSE:BRK-A)
Boeing (NYSE:BA)
A&P (NYSE:GAP)
Winn-Dixie
Coca-Cola (NYSE:KO)
GE (NYSE:GE)
Microsoft (Nasdaq:MSFT)
ExxonMobile (NYSE:XOM)
Citigroup (NYSE:C)
Wal-Mart (NYSE:WMT)
AIG (NYSE:AIG)
Bank of America (NYSE:BAC)
Not in favor of conservatively expensing stock options:
Yahoo (Nasdaq:YHOO)
Juniper (Nasdaq:JNPR)
Ebay (Nasdaq:EBAY)
Sun Microsystems (Nasdaq:SUNW)
Adobe (Nasdaq:ADBE)
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