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The Almighty Buck Businesses IT

Employee Stock Options Must be Treated as Expenses 325

currivan writes "In a move that's been in consideration for a long time, the Financial Accounting Standards Board (FASB) approved new rules requiring employee stock options to be treated as expenses for reporting purposes. One of the reasons so many tech companies have given options to IT/engineering workers is that until now, they haven't counted against profits in quarterly reports. If markets were truly efficient, this wouldn't make a difference, but in reality, the tech industry is strongly opposed to the rule, though it should please Warren Buffett."
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Employee Stock Options Must be Treated as Expenses

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  • Hmmmm (Score:4, Insightful)

    by dfn5 ( 524972 ) on Friday December 17, 2004 @11:19AM (#11115727) Journal
    If the stock options you get are worth nothing, is that really an expense?

    • Re:Hmmmm (Score:2, Interesting)

      by Rude Turnip ( 49495 )
      The problem is that some of them are worth something, and they're not getting expensed.
      • Something only has value when it is bought or sold.

        "Options" are just that - the promise of a future chance to make a sale or purchase.

        Oher "options" that are provided for in business are not counted in the books: for example, if you sign a contract that allows you to buy a leased product at the end of the lease you do not have to count the eventual purchase price as an expense until (and only if) you exercise that option.

        This is the kind of rule that people say is "common sense", but in fact, it's no
        • First of all options are transferable, in that you can sell them or buy them, so they have value in the first sense.

          But besides that, in the case of your contract example, if the price at which you are allowed to buy the product is lower than the value of that product, then the contract itself has value.

          If Apple "rewarded" its employees by issuing coupons allowing them to buy iPods for $50, those coupons would be valuable.
          • Normal NQOptions are not transferable (at least none of mine are).

            Furthermore, now that this rule is taking effect I will no longer receive stock options. That really sucks.
            • Sorry about that, I don't get options so I assumed they were similar to the ones that are traded on the open market.

              However that does not change the fact that options have value at the time they are issued (unless it is a certainty that the stock price will go down).

              I hope your company will compensate you in some other way. I hear Microsoft has switched to using stock grants instead.
        • Re:Hmmmm (Score:2, Interesting)

          by johnnyb ( 4816 )
          " Something only has value when it is bought or sold."

          But your labor _was_ bought w/ options.

          With the zero-value option theory, if a company wanted to show zero expenses, all they would have to do is pay for everything with options. Options are easy enough to value, especially compared to many other goods. There's not a perfect way to value them, but there's not a perfect way to value anything.

          The fact is that the options were used as payment for services, and if they didn't receive options they would
        • Re:Hmmmm (Score:5, Informative)

          by Nopal ( 219112 ) on Friday December 17, 2004 @12:40PM (#11116687)
          You obviously haven't heard about accrual-based accounting. In accrual based accounting, an expense is incurred when the effort or service for which it belongs is expended, not when cash changes hands.

          Under accrual-based accounting, options are always recorded at cost, so they always have value (par value or stated value plus or minus paid-in capital). Under accrual based-accounting, no buying or selling has to occur for it to be recorgnized and recorded. A mere "promise" satisfies the principle of materiality required to record the event.

          In other words, it sounds as if stock options, which weren't liabilities in the past, should now be recorded as liabilities on the accounting period in which they are given. This is important because liabilities that represent expenses are significant to judging the state of the corporation even when they yet haven't actually been expensed yet.

          Per FASB guidelines, all corporate accounting in the United States has to be accrual-based. The only entities that still use cash-based accounting are government entitites. With the new ruling, pretty much everyone but the government has to change the way in which stock options are recorded. So your point, though intuitive when thinking in cash terms, is largely inapplicable to everyone but the government.

      • Re:Hmmmm (Score:2, Insightful)

        by eXtro ( 258933 )
        They should be expensed when they're exercised not when they're awarded because there's no guarantee that they ever will be exercised. So by taxing them before they are exercised you're creating work for accountants who'll have to keep track of them until their expiry date.

        I've got a lot of options which I doubt will ever be exercised. The bulk of them were awarded when my company was trading at 14 dollars and change but now it's trading at near 2 bucks. They're expiring in 2 years and unless something mir
    • Re:Hmmmm (Score:5, Informative)

      by HMA2000 ( 728266 ) on Friday December 17, 2004 @11:30AM (#11115843)
      Yes. The opportunity is worth something all by itself. A stock option grant represents a potential dilution of ownership for current share holders. Think of it this way. Company A has 1 million shares of which you own 100K. You are entitled to a 10% share of the company's profits. The management of the company, in an effort to attract talent, grants 500K more shares. You're ownership now could fall as low as 6.67%. That potential dilution is a real expense to you. Even if it never comes to pass.
      • Re:Hmmmm (Score:3, Insightful)

        by danheskett ( 178529 )
        That potential dilution is a real expense to you.
        It is not a real expense. A real expense is something that actually costs you cash. Buying a new piece of equipment is a real expense.

        This is a potential loss of value, that's what it is. In your example, that dilution of value for the owner still doesn't cost the company anything. The assets held by the company remain static. The value of the company remains static. The number of owners increases. That's all. There is no outlay of cash.

        Stock o
        • Re:Hmmmm (Score:3, Interesting)

          by HMA2000 ( 728266 )
          So you are saying if you were in the situation I described you wouldn't take actions to protect your investment? You wouldn't seek alternative arragnements to maintain your equity?

          Of course you would. Hence it is a real expense. If it wasn't a big deal it wouldn't be a big deal.
          • Use the magical power of reading to see what he wrote: 'Regardless, there is no expense to the company itself, only the individual stock holders.'

            Stock options are an expense to the stock holders, not the company. They affect the company's bottom line not a whit.

        • I think the real issue is this: Investors, potential and real, in Company A want to know what outstanding liens A has. Options are in effect a lien against the value of individual shares. The share price needs to reflect whether A pays all its employees $1 with 1,000,000 in options each per annum, whether A pays them all flat rates with no options, or A does something in between. The quick-n-dirty way to reflect this is to show the options as an expense which doesn't require changing how people evaluate the
          • So make the companies report oustanding options in enough detail that potential investores know what effects they may have, and can figure them into whatever models of expense they prefer. Reporting them as an expense from the top, where you basically have to pull an arbitrary number out of your butt to figure out what the expense amounts to, is not the right solution.
          • Companies already disclose the amount of options they're granting/have outstanding and the market is already taking that into account in the stock price.

            These rules are ridiculous because they're ostensibly about making financial statements more clear when in reality they're doing exactly the opposite. No one knows what the value of an option will be until the time that it's excerised. Until then any valuation of the option is just a guess.
        • "It is not a real expense. A real expense is something that actually costs you cash."

          Absolutely false. A real expense is something that when given prevents you from giving something else.

          For example, you can't issue more options than you have stock to sell. Therefore, any option you give someone is an opportunity costs which prevents you from giving that stock to some other person.

          In addition, granting a stock option prevents you from selling that stock as well. So, let's say that I give you an option
        • Yes. This is exactly like when bill gates gives money to charities. He is not giving real money, he is transfering stock he got for nothing to his foundation which then sells the stock and gives the money to a charity.

          It doesn't really cost him anything, just future (potential) profit.
      • Disclaimer: I am not an accountant or an options trader. I do know plenty of both though. ;-)

        Parent is right, here's another way to think about it:

        Suppose 1 share of stock X is trading today at $10. I offer you an option to sell a share of stock at $20 anytime within the next 3 months, but I charge you $10 for that right. If you went out and bought 1 share of stock for $10 and sold it to me for $20, you get the $10 profit from the stock sale, but you had to pay me $10 for the option to sell ('put') t
    • If the stock options you get are worth nothing, is that really an expense?

      Certainly. If a company give its employees worthless (underwater) stock options, they will likely find themselves in a bad position later on, when their employees realize they've been had. The company could be forced to buy back the stock options, reissue them at a lower strike price, exchange them for stock grants, or the lack of employees' confidence in the stock could simply force them to give out cheaper options or actual cas

    • If the stock options you get are worth nothing, is that really an expense?

      Choosing numbers out of nowhere...

      If a VC buys 5% of the company for $2M, then yes, the other stock would defnitely have some value as that puts an initial valuation on the company.

      Of course that valuation can be wildly off...
    • There's no such thing as an option that's worth nothing. If you don't agree, then please write me some options for free.
      • If I could transfer a stack of NQO's that I got at the top of the bubble I would. Then I wouldn't have as much red in my account. As it is in 10 years or so they'll age out anyway.
    • If the stock options you get are worth nothing, is that really an expense?

      A stock option is worth as much as a lottery ticket. Nothing, until you win ;)
      But (some) people pay real money for both, and if you can exchange something for real money it is worth something...
  • How will it work? (Score:4, Interesting)

    by gtrubetskoy ( 734033 ) * on Friday December 17, 2004 @11:20AM (#11115731)

    Can someone confirm how this really works? When options are granted, it is usually an option to buy a certain number of shares at today's market value. So on the day of the grant, the value is usually always 0.

    Let's say an option is granted to buy N shares and a year from the date of the grant, the stock is up by 10 points - then the value is then 10 x N. So the company now needs to subtract 10 x N from its earnings for the fiscal year during which the stock was up by 10 points? Then next year it goes up again and the company adjusts earnings again? Ad infinitum?

    OR does the company just make a speculation, something like "we think the stock will go up by 10 points this year, so lets just subtract 10 x N from earnings". But what about the value 10 years from now?

    What happens with taxes? It is advantageous for a company not to ever show any profits, this seems like a simple way to reduce your taxable income as far as the IRS is concerned. Most corporations don't pay any taxes anyway, but now this just got easier: "Let's grant everyone a bunch of options that we deem are worth 10 bazillion"?

    Lastly, I don't see how this rule will affect anything at all since more likely than not companies will just be publishing two numbers - earnings with stock option adjustment and without. Kinda like EBDTA.

    • No, it is NOT a zero value. Take a look at your Wall Street Journal. People buy and sell options all the time. It is an educated guess about the direction of the company.

      Often used to offset the risk of other investments (i.e. I buy Company A stock, but I want to protect against a big drop, so I buy the right to sell the stock at a certain, lower price). This helps you to get to a target risk level and still have a wide variety of stock to pick from.

      Often, this is used by pure speculators too :)

      For a la
      • No, it is NOT a zero value. Take a look at your Wall Street Journal. People buy and sell options all the time. It is an educated guess about the direction of the company.

        If I recall correctly, the old voluntary guideline from FASB was that the value of the options was calculated according to Black-Scholes and a resulting expense is declared. As you say, it's unclear how well that will work for small companies with no history of stock volatility.

        • FASB hasn't determined the guidelines for pricing the options, so who knows if they will stick to Black-Shcoles or go with some other valuation of thier own. Around 40% of the companies that issue options to employees already expense them. Also, the companies I worked for that granted options disallowed you to sell the options on the Options Market (after you vest). So, there really isn't access to a Market so Market price is kind of an academic exercise. You must buy and resell the stock to make your money
    • "When options are granted, it is usually an option to buy a certain number of shares at today's market value."

      Yay...I get to show off my knowledge of finance on /.! When options are granted, you are getting an option to buy a certain number of shares before a certain expiration date. The option to buy shares is a "call" option.

      The "exercise" or "strike" price is the price at which you may buy the stock. It could be below current prices, in which case you'd make an immediate profit. When the strike pri
      • there is also the Put, which is the opposite of the call more or less. When the strike is greater than the stock price, you can 'put it to them' meaning, if you are long (purchased, given) a put you have the right to sell shares to the writer (seller) of the put at the strike price.

        of course you can also short calls and puts as well.

        options have an intrinsic value, which is related to the price of the stock and a time value which is related to the length of time to expiration. Time decay sensitivity i

      • When options are granted, you are getting an option to buy a certain number of shares before a certain expiration date. The option to buy shares is a "call" option.

        You're talking options as the ones traded on the Chicago Borad Options Exchange. Employee stock options are a different beast - unlike market options, they are not transferable and (for the most part) never expire. They are also not clearly defined, because they sometimes void if your employment is terminated, but sometimes they have "trigger

    • by rmcd ( 53236 ) *
      Companies will use standard option pricing techniques, such as the Black-Scholes formula or binomial option pricing. You can read about them here [barnesandnoble.com].

      You are incorrect in saying that the value of the option at grant is zero. If I flip a coin and you get $1 if heads and 0 if tails, that is worth something to you. An option is the same: you get a payoff if the stock goes up and nothing if the stock goes down. The valuation problem for standard options (like those traded on the CBOE [cboe.com]) is well understood. There

    • Options DO have value to the FIRM, they will be expensed at the Market closing price of the stock on the day issued. If the company had sold that stock to Joe Public, they would have recorded the revenue, giving it to Joe Employee means they gave away something with value thus an Expense in Accounting terms. Joe Employees doesn't record any loss/gain until the options vest and are exercised. I'll have to read the rules but i hope FASB will let the companies expense the options as they vest not at the time
    • There are few details and alot of it makes little sense. They are being forced to expense something that does not effect revenues or profits. The company is diluting ownership in the company by issuing additional stock. But the total value of the company remains the same. Granted it has been a few years since I studied this in college, but I am a bit confused. My company does not even allow any of the option to be excercised for a certain number of years and then it is on a sliding scale percentage wise. Ho
    • Black-Scholes (Score:3, Informative)

      by krysith ( 648105 )
      My guess is that they will most likely use The Black-Scholes Option pricing model [bradley.edu] with a few refinements.

    • link HERE [harvard.edu]

      HERE []

    • Re:How will it work? (Score:3, Informative)

      by krbvroc1 ( 725200 )
      Lastly, I don't see how this rule will affect anything at all since more likely than not companies will just be publishing two numbers - earnings with stock option adjustment and without. Kinda like EBDTA.

      That may be true, but that is a good thing.

      1) Investors should be able to look at the financial details and see how much liability there is. As an investor, you may want use stock options as a metric about how a company is run.
      2) Stocks options are not 'free money'. When a company gives them away, they
      • 6) Most experts agree that this makes sense, they've agreed for a long long time (pre dot com days). The lobby against it has been from people who are more interested in their personal pocket books than the overall health of the financial system.

        One more party is worth mentioning: free market fundamentalists. There are those who put this in the "regulation bad" bucket and discard it immediately as "increased bureaucracy". They wouldn't be worth worrying about except for the minor fact that they control th

  • Tax Implications? (Score:4, Insightful)

    by TrollBridge ( 550878 ) on Friday December 17, 2004 @11:20AM (#11115733) Homepage Journal
    IANAA (accountant) but I would think this move might have some massive tax implications. Would this force companies to pay more in payroll taxes? Could it allow them to pay less?

    Someone with more knowledge on this please reply. thanks!
    • by grub ( 11606 )

      Along the same lines I was wondering if the employee would have to file them as a taxable benefit/income.
      • I'm pretty sure that income from stocks, be they employee options or simply purchased, are taxed as income AFTER they are sold. But again, IANAA.

        They can't be taxed until the sale because their value is in constant flux.
        • > I'm pretty sure that income from stocks, be they employee
          > options or simply purchased, are taxed as income AFTER they
          > are sold.

          I'm not an accountant either.

          My understanding is that options are not taxed when they are granted. However, once they're exercised, they can be taxed in two ways:

          1. If the option is exercised and the resulting shares are sold, either immediately or a year later, then the resulting income is subject to capital gains tax (either at the short term or long-term rate, dep
      • There are three kinds of stock related benefit:

        The first is where the company outright gives you some stock. In the UK this counts as a benefit in kind and is taxed as income.

        The second is a share purchase scheme. How this is treated depends on whether or not it's approved. Let's assume not (as all the ones I've been haven't been): then it the value of the purchase when you first "buy" the shares is taxed as a benefit in kind, again income, for example a typical scheme gives you a 15% discount you pay t

    • by Kohath ( 38547 )
      There are no tax implications. The FASB is not the IRS. The IRS would have to make a seperate rule.
    • Re:Tax Implications? (Score:5, Informative)

      by Rombuu ( 22914 ) on Friday December 17, 2004 @12:06PM (#11116239)
      IAAA (I am an accountant), and essentially you keep two sets of books, one for accounting purposes and one for tax purposes. Tax accounting is based on cash flows in and out of the company. Since this rule change doesn't effect these cash flows, there shouldn't be any tax implications to this change.
    • Here are the tax implications on non-qualified plans. When you exercise them, you pay the taxes on the difference between the exercise price and market price. So any money you get even if the exercise but hold the stock results in a big tax bill - on the order of 50%, state, federal, FICA, etc. Most companies are pretty good about requiring you to pay the taxes right then and there. This is good so that when you exercise the options and the stock tanks, you have already paid the tax bill. A lot of geni
  • dismal option (Score:3, Insightful)

    by Doc Ruby ( 173196 ) on Friday December 17, 2004 @11:21AM (#11115741) Homepage Journal
    Stock options don't require the company to spend any of its revenue. So giving them reduces profit on the books, while it doesn't affect the profit of which the stock represents a share. How does this make sense at all?
    • But this does dilute share holder value. It is the equivalent of printing more money. It dilutes your share in the company. IMO companies shouldn't be able to just create more shares at a whim.
      • Maybe.

        Some companies actually have stock "on hand" to sell as options. That is, if they "print" 50,000,000 shares, they keep back enough shares to "sell" in options, with expired options going back to the corporate-owned pool.

        Then, if you were a regular investor owning, say, 50,000 shares, you would own 0.01% of the company. The fact that the company owns maybe 1% of itself means that you own 0.01% of that as well. So, until your duly elected officers (board of directors) sell these shares to its emplo

      • But if the company can print more money, it isn't money. Doesn't this mean that companies now can purely artificially create fake "value" in the economy by issuing stock options, thereby changing the value of the issued currency? Doesn't this give the DJIA Top 100 the same kind of power over the money supply as the Federal Reserve? Isn't that a total catastrophe?
      • Not true, because when I buy stock, it is an infusion of capital into that company. If I pay to much for the stock, it could actually inflate the value of the stock owned by the current share holders
    • Either they have to create new shares out of nowhere (diluting existing ones) or they have to go out and buy shares at market prices and sell them at the option price, which _is_ an expense.

      Either way round this should be reflected in the accounts of the company, and a notional value which reflects the effect on the companies stock seems to be the easiest way to get this across to your average investor.
    • However, stock options are in effect a promisory note so they should at the very least be treated like a debt. Options should not be completely free for the corporation offering them.
  • It should make a difference since failing to expense them hides an actual corporate expense. By expensing them, you can read a company's financials and have a better picture of the state of the business.
  • by b0lt ( 729408 )
    If only this happened before Enron...
  • Stock options are already accounted for [mises.org] in the dilution of shareholder ownership:

    However, in one case the shareholders suffer dilution in their proportional ownership of Intel, and in the other case they suffer a reduction in the value of the company itself as it has given up an economic asset. OTOH, a company cannot count its own shares among its economic assets. ...

    Shareholders can be diluted in their ownership, OR they can experience a loss in the value of what it is that they own, but trying to pile on

    • No they aren't. You can easily prove this with a bit of arithmetic. Take this example:

      Shares outstanding: 100
      Revenue: 1,000
      Expenses: 900
      Earnings: 1,000-900 = 100
      Share price: 20

      Say that salaries account for $600 of th $900 expenses, and that a 3-year call struck at $25 is worth $5. Now suppose that half of the salaries are paid in options. That works out to options on 60 shares.

      Original earings per share: 100/100 = 1

      Now, if we don't count the options as an ex
  • As all the geeks on /. try to figure out what this means.
  • by xxxJonBoyxxx ( 565205 ) on Friday December 17, 2004 @11:25AM (#11115785)
    For all of the privately held companies who compete against publicly traded companies who pay out stock options like Monopoly money...this rocks.

    The surest way you know a company knows what its doing is if it's turning a profit. This should take one more accounting trick away from the pretenders out there.
  • by Emperor Shaddam IV ( 199709 ) on Friday December 17, 2004 @11:25AM (#11115786) Journal

    I haven't received any stock options that ended up being worth a crap since the 1990's. Who cares anymore. Be a contractor and make more money then the employees. Then you can buy your own stock!
  • Option value (Score:5, Informative)

    by Anonymous Coward on Friday December 17, 2004 @11:28AM (#11115809)
    When it's granted the option has an intrinsic value of zero, but it's *extrinsic* value is more. Let's say the stock price S is 100, and the option exercise price K is 100 too. You could exercise the option today and make a profit of S-K = 0. That's the intrinsic.

    In a year's time, the stock could be worth more than K, in which case the option's intrinsic value will be S-K, or it could be worth less, in which case the intrinsic value will be 0.

    The extrinsic value of the option is what it's worth in the market, and presumably what it will be charged at in the accounts. It's calculated by taking the expected intrinsic value at expiry.

    For our example, let's imaging there's a 25% change of the stock being worth each of 70, 90, 110 or 130 in on year's time (we'll assume it can't take any other value). The expected value of the stock in a year's time is 100 just as it is now:

    E[S] = 0.25 x (70 + 90 + 110 + 130)
    = 100

    However, the expected intrinsic is...

    E[max(S-K,0)] = 0.25 x (0 + 0 + 10 + 30)
    = 10

    So the value of the option is 10.

    Of course, there's more to it than that. The distribution of possible stock prices is continuous. We've also ignored the fact that I'd a dollar today is worth more than a dollar in a year's time. There are theories on how to value these things...
    • Re:Option value (Score:4, Insightful)

      by Ignignot ( 782335 ) on Friday December 17, 2004 @11:43AM (#11115993) Journal
      The distribution of stock prices is not continuous. They are generally quoted in cents, so you can't trade for less than a cent. This is important when you have an option that is far out of the money (nowhere near the underlying price, and intrinsic value zero).

      Not to mention that you neglected the expected return of the stock, but that's ok for this crowd.
  • by rmcd ( 53236 ) * on Friday December 17, 2004 @11:29AM (#11115825)
    The FAQ from the Financial Accouting Standards Board is here [fasb.org]. You can download the actual statement from this page. [fasb.org]

    This change would have occurred 10 years ago if Congress hadn't interfered on behalf of companies trying to hide their largesse from shareholders. The rest of the world is in the process of implementing a similar accounting treatment of options. The US would have looked idiotic to have delayed this further.

  • As with all things accounting, the company will probably be given a bunch of choices as to how they do their accounting. All choices are "acceptable," as long as they're consistent. That'll guarantee another set of confusing and essentially meaningless statistics for the bean-counters to mull over.

    When an option is granted, the strike price is supposed to be the FMV of the share, possibly minus some discount absorbed by the company. If the company isn't trading yet, they pretty much have the ability to
  • Good news (Score:3, Insightful)

    by Degrees ( 220395 ) <degrees&sbcglobal,net> on Friday December 17, 2004 @11:37AM (#11115940) Homepage Journal
    The place I used to work for gave its employees a 15% discount on buying stock (once per fiscal quarter). Every year during open enrollment for benefits, management pointed out that this program lets one buy $100 dollars of stock for the price of $85, and then turn around and dump it the next day for market price (or hold onto it, as might be your want) I'm told quite a few people did the immediate dump plan.

    The people who lose in this scheme are the purchasers of stock at full price. The cash flow out of the company dilutes the value of the company, making each share of stock worth (a tiny bit) less. Some people pay full price, others (insiders) reap a benefit at a discount.

    The requirement that these discounts are accounted as expenses, puts a dollar amount on them. Thus, someone (and outsider) looking at the company financial statements gets a clearer picture of where the money is going. They get to make a more informed choice.

    Its a good thing.

    • You are confused. Grants (or discounts) of stock are already treated as expenses (for the employer) and income (for the employee.) The news is that stock option grants (or discounts) must now be treated in the same sensible manner.
  • What this means is that unless you are an executive of the company, you can kiss stock options goodbye as part of yearly salary increases and/or signing bonuses. I have just found out recently that my company has stopped giving options to new hires, it will be interesting to see if we get blocks of options when annual reviews come around. If they don't, I'll bet we don't get better raises either :-/
    • Can't pay the mortgage with stock options. I'd rather not get them. I'll take care of saving for my retirment instead of relying on the company's "good will".
  • Expensing stock options is simply honest book keeping. Companies who ignore option payouts simply dilute the value of shares purchased honestly in the market. It is a slimy practice that used to go unnoticed. Real shareholders have been ripped of by option holders long enough. This is a good thing for anyone who is not an insider and purchases stocks will real money.

  • by freality ( 324306 ) on Friday December 17, 2004 @11:49AM (#11116039) Homepage Journal

    In case you haven't heard [billparish.com], Microsoft (MSFT [yahoo.com]) has been deeply unprofitable [economist.com] since 1996, when it began to rely on holes in the GAAP accounting standards that allowed it to report historic profits in its NASDAQ filings. Large fund managers bought into it to the tune of hundreds of billions of dollars, making MS at its peak ($700B [billparish.com]) which for comparison made it the largest component of the S&P 500, the equivalent of the 16th largest country [cia.gov] or ~1.5% of the GDP of Earth. Though billed (no pun intended) as a success story, when the bubble burst investors lost billions.

    Who cares? The biggest funds involved were pension funds of large social programs across the US, e.g. the California Teachers Union, who automatically invest in S&P components at rates proportional to the components' value. MS paid for its bottom line with those peoples' money, so much so that pensioners are majority owners of MS today. Too bad for them that the bottom fell out of MS stock and their savings are worthless. But it did help create two of the richest personal accounts on Earth [nwsource.com].

    You could argue that this was all legal and that they won the king of the hill prize. Perhaps. But is it ethical to block GAAP reforms via corporate shills in Congress (e.g. Joe Lieberman) [portlandtribune.com] so your huge losses won't be exposed? Enron execs are being hung out to dry [alwayson-network.com] for being only slightly on the other side of that thin line in the sand. No, it's likely MS knew what it was up to. As Bill Parish, who broke the story, tells:

    "Microsoft's perspective is best reflected by Bob Herbold, Chief Operating Officer, to whom the CFO reports. Bob very sincerely [explained the situation to Gates], "Bill, everyone is doing it.""

    This is a great vindication for Bill Parish, and another step towards reigning in widespread corrupt accounting practices. http://freality.org/~pablo/essays/microsoft.html
  • Dodgy Accounting (Score:2, Interesting)

    by Anonymous Coward
    The problem with this proposal is that it attempts to fix dodgy accounting by introducing more dodgy accounting.

    Stock options are not granted by the company. They are granted by the shareholders. Every stock option grant I recieved, even from a small, no longer here startup, was granted by the board of directors, not the executives of the company.

    The shareholders of the company basically offered me a deal that if the stock price of the company is greater than the strike price, then they would allow me t
  • by human bean ( 222811 ) on Friday December 17, 2004 @11:58AM (#11116135)
    have much in common, particularly the part about options expiring at zero value. It's interesting that the FASB considers this in the same light.

    Of course, we all know who gets rich from the lottery, don't we? I never understood people who accepted company stock as bonuses, payment, etc. From where I stand, when the company starts handing out shares instead of cash, it's time to start looking around.

  • by whitroth ( 9367 ) <whitroth@[ ]ent.us ['5-c' in gap]> on Friday December 17, 2004 @12:04PM (#11116207) Homepage
    If so, then I'm not interested in us peasants, 90% of whom get little-to-no stocks, but I want to know that Bill the Gates, and Kenny-boy Lay, and Eisner, and all the rest of the CEOs with tens of *millions* in stock options have to be expensed.

    Gee, what might happen to all that money if it didn't go to CEOs? Maybe it would get wasted on utterly frivilous things, like better employee salries and benfits, and maybe even capital plant development!

    Nahhh, never happen, ship it all off to India.

  • by Spy der Mann ( 805235 ) <<spydermann.slashdot> <at> <gmail.com>> on Friday December 17, 2004 @12:28PM (#11116542) Homepage Journal
    Maybe we can relate this to something that is happening in Mexico recently. Instead of being given a share, employees are given other "comodities" (i.e. food/expense tickets, etc) that are NOT reported as the worker's salary. This means the reported salary is much lower than it actually is.

    When the employee retires, they only give him a compensation regarding his REPORTED income, not the real one. This way the company saves millions by giving its employees money in a different denomination.

    I *THINK* that somehow, this is what happens with stock shares... that the company is saving taxes / other payments because they give their employees other kind of money, and not cash. That's why the shares must be reported now. Obviously, companies don't like it because they see lost profit in it.

    Someone correct me if I'm wrong, please.
  • by GlobalEcho ( 26240 ) on Friday December 17, 2004 @12:53PM (#11116853)
    [I was a quant working at a major bank until leaving this year]

    Putting a value on those options is itself a matter of some contention. Basically, employee stock options (ESO) nearly always have a strike K bigger than the current stock price S when they are granted. The value of the option lies in the fact that it is reasonably likely that at some later date, K>S.

    So, a foolish measure of value would be intrinsic value: i.e. MAX(0, S-K). There is a formula called the Black-Scholes formula used for pricing options with only one allowable exercise date, and no other special features. That formula is quite inappropriate for pricing ESO, since ESO come with lots of other quirks, including vesting periods, stock holding periods, employee attrition, and (not least) lengthy time intervals in which they are exercisable.

    Of course, to accountants even the BS formula is exotic. Rather than using a proper model (hinted at in FASB 123 with the moniker "binomial model") to price the options, accountants prefer to use BS, and then "adjust" the results as they see fit to account for the various features. The results of this are better than just using intrinsic value of course, but not by much.

    I developed a model for the bank to use in pricing its ESO. It was reasonably correct, in the sense that it used the traditional approach of a trinomial tree to model the stochastic process followed by the stock price, along with code to account for the various quirks of our options. It still had manipulable inputs, such as volatility, but at least accountants would have to have justified their values.

    Of course, internal politics killed the model in favor of the BS formula, and arbitrary accountant's adjustments. If that's what happened in a major bank, with the generally stated goal to transparently publish numbers, and with guys like me around to develop models like that...well, how much are you going to be able to trust the option expenses published by other companies?

    I hope that FASB fixes this, and deprecates the use of the BS formula in inappropriate contexts.

I've finally learned what "upward compatible" means. It means we get to keep all our old mistakes. -- Dennie van Tassel