Cisco Wants Market to Value Its Options

Cisco Systems Inc., after failing to stop a rule forcing companies to expense employee stock options, is seeking regulatory approval to sell a derivative that may soften the blow to earnings.

The San Jose-based company said it was requesting Securities and Exchange Commission clearance for the security, developed to put a market price on employee options. Cisco is betting that the price investors would pay for the derivatives will show that its options are worth less than valuation standards such as the Black-Scholes model suggest.

“As long as it’s not done in a way that turns out to be a sham, then everybody that’s looking for good accounting should support this,” said Edward Nusbaum, chief executive of accounting firm Grant Thornton.

Cisco, the biggest maker of computer networking equipment, stands to report 20% less profit when the rule forcing companies to record the cost of employee options kicks in later this year. Its proposal may help Chief Executive John Chambers open a new front in the campaign by Silicon Valley companies to protect an incentive they rely on to motivate workers.

“It’s no secret that we’re trying to get a more accurate valuation,” Cisco spokesman John Earnhardt said. “We have spent a lot of time on this issue and all we’re trying to do is keep the option of using employee stock options.”

The expensing rule adopted by the Financial Accounting Standards Board in December encourages companies to value the options using an “observable market price.” But unlike most stock options, employee stock options can’t be bought or sold, so there is no market.

Derivatives are financial obligations whose value is derived from underlying assets such as debt and equity securities, commodities and currencies.

Cisco has battled with the FASB for years, saying mathematical models overstated the value of options.

As those efforts failed, Cisco, Qualcomm Inc. and Genentech Inc. proposed an alternative model that would have cut the value of options by as much as 80%. The FASB rejected it last year.

This time, Cisco took a softer approach.

Chambers, 55, hired New York-based Morgan Stanley to develop the derivatives and dispatched Cisco executives to pitch the proposal to SEC officials including Chief Accountant Donald Nicolaisen, people familiar with the meetings said.

Cisco Chief Financial Officer Dennis Powell presented the company’s plan in March to SEC officials in Washington, said the people, who declined to be identified.

Nicolaisen declined to comment on the proposal.