Tech Firms Dealt Blow on Options Expensing
Silicon Valley lost its best hope to avoid treating stock options as a formal expense, when the man poised to become the nation’s new securities chief said Tuesday that he would support the accounting shift.
While Rep. Christopher Cox tried to beat back the options change in Congress, he told a Senate committee weighing his nomination as Securities and Exchange Commission chairman that the agency should make sure “that the rule is implemented as the markets expect.”
Forced to regroup, opponents of the measure said they would abandon their direct assault and instead try to soften its effect.
The regulation is expected to cut deeply into reported earnings at technology firms that grant large amounts of stock options to lure and keep employees. Those firms and others have fought the plan in Congress, at the SEC and at the accounting standards board that devised it.
After a delay approved by the SEC in April, the rule takes effect for corporate fiscal years that began after June 15. So companies operating on the calendar year will have to start counting options against profits in the first three months of 2006.
Currently, companies are required only to footnote the expense in financial statements.
After Cox spoke, some technology lobbyists said they no longer saw much chance of undoing the rule and instead would try to get the SEC to consider different methods for valuing options, which are rights to buy shares at a set price in the future.
“We’re hopeful that there may be some kind of small changes and tweaks that help everyone,” said Rob Haralson, a spokesman for the AEA industry group, formerly known as the American Electronics Assn.
In Congress, Cox, a Republican from Newport Beach, had co-sponsored bills to override the rule, and tech companies had been effusive in praising him.
Opponents say that expensing will unfairly harm many tech companies.
The companies, they say, will either have to slash reported profits or cut back on options awards, thereby reducing employee income and hurting the companies’ ability to retain staff and grow.
Supporters of options expensing include the Council of Institutional Investors, Federal Reserve Chairman Alan Greenspan and billionaire investor Warren Buffett. They say the rule change will make financial statements more honest and lead to less dilution of stock value because of overly generous option awards.
Some on each side said Cox’s switch in position was inevitable, since the rule has been under discussion for so long. The Bush administration, which nominated Cox, hasn’t fought to preserve expense-free options.
“That ship’s sailed,” said Carol Bowie, director of governance research at the Investor Responsibility Research Center, which analyzes shareholder issues. “The general thinking is that the market is going to absorb expensing just like it’s absorbed other regulatory measures.”
But some critics of the rule change didn’t hide their disappointment at Cox’s reversal. “This is a real turnaround,” complained Rep. Anna G. Eshoo (D-Atherton), whose district includes the headquarters of such Silicon Valley firms as Sun Microsystems Inc. and Hewlett-Packard Co. “Somebody must have sat him down and given him the company line.”
Eshoo was an early backer of anti-expensing legislation that last year passed the House and died in the Senate. She said odds of a similar bill passing this year had dwindled to near hopeless.
The fight now may center on how companies will estimate the cost of option grants, and thus the effect on earnings. Current guidelines call for firms to use one of two methods to calculate the expense of options.
Computer networking giant Cisco Systems Inc. has proposed a third way: selling a small amount of restricted options to hedge funds or other buyers, then using that price to put a value on what the company gives employees.
Cisco, which would be among the hardest hit by expensing, must register any such options with the SEC for approval, said agency spokesman John Heine, and it hasn’t done so yet.
The AEA and a coalition of industry groups that fought expensing said they hoped that if Cisco succeeded, other novel ways for valuing stock options also could be approved, potentially reducing the effect on companies’ bottom lines.
“It’s entirely possible that other approaches to coming up with more accurate numbers will come up in the mix, and I think sooner rather than later,” said Jeff Peck, a consultant for the International Employee Stock Options Coalition.
