Turmoil Proves Stock Options No Sure Thing

Stock options--the de facto currency of Silicon Valley and the fastest-growing corporate reward for work well done--may look more like Monopoly money to some in the wake of this week’s market turmoil.

For five years now, U.S. companies have showered on employees and executives the option to buy shares in the future at a preset price--and profit on any interim run-ups. Nowhere is this more prevalent than in technology, where law firms and consultants often accept them as payment from promising start-ups.

But in plunging so sharply Monday in a direct hit to technology stocks, Wall Street jarred a critical assumption: That the market’s upward trajectory of the last 10 years will continue to richly line the coffers of stock-option holders.

“I think this is sort of a wake-up call for some people,” said David Leach, an executive vice president of Compensation Resource Group Inc., a Los Angeles consulting firm.

“With this correction in the market, this makes people think twice. It’s no guarantee the price will go up,” Leach said.

The lure has been strong: Stock options have created a new generation of millionaires--at least on paper. By holding stakes in publicly held companies, everyday workers can transform their hard work into the future promise of riches, helped by Wall Street’s enthusiasm for companies with bold ideas.

Beyond Silicon Valley, industries from telecommunications to health care have relied heavily on stock options to enable employees and executives to share in a company’s fortunes.

How those fortunes can sour was amply demonstrated this week, when Oxford Health Plans Inc., which grants options to all 7,000 of its employees, saw its stock plunge more than 62% on Monday. On Wednesday, Oxford shares recovered only slightly, rising $1.81 to close at $27.19 in Nasdaq trading.

But nowhere are stock payments as economically important and as accepted as in California’s Silicon Valley, home to the highest concentration of U.S. software and hardware companies. Companies that can’t afford to pay big salaries use the carrot of stock to attract and retain executives, software designers and other high-demand staff.

Typically, a privately held start-up offers a top executive up to a 6% stake in the company, with up to 20% for the entire management team, said Donald Jones, who heads the Menlo Park, Calif., office of Russell Reynolds Associates Inc., an executive recruiting firm. Once a company goes public, top executives are typically offered up to 500,000 shares or share options, he said.

But the market drop has heightened the risk that has always existed with options, particularly with unwary employees, said Art Bonnel, a portfolio manager with U.S. Global Investors, a San Antonio-based mutual fund company.

Bonnel said many takers of options aren’t aware of the risks because they hear of stories of millionaire employees created by companies such as Microsoft Corp. With people in their 20s and early 30s dominating Silicon Valley’s echelons, most aren’t aware that bear markets can destroy an option’s value.

“People have not seen them go down, so they don’t understand they don’t always go up,” said Tony Sagami, president of InvestorSquare.Com, a mutual fund research company in Austin, Texas. “For every one person that becomes a stock-option millionaire, there are probably 20 whose options don’t pan out.”