Editor’s note: Ed Paradise is Vice President/General Manager and RTP Site Executive, Cisco Systems.On March 31, 2004, the Financial Accounting Standards Board’s (FASB) issued proposed rules that would require the expensing of broad-based employee stock options programs.

Requiring the expensing of employee stock options would do great harm to innovation and the sprit of entrepreneurship that has driven industry, especially, the technology and biotechnology industries, for the last several decades.

Approximately 14 million American workers receive stock options. Over 90 percent of these workers are individual contributors or first and second line managers at their companies. The vast majority of options (upwards of 70 to 80 percent) at most technology and biotechnology companies are granted to this portion of the workforce. Companies in technology, pharma and bio related industries know that employees work harder when they own a piece of the company through option grants. Shareholders also benefit, because options are a long-term reward typically vesting over periods of four or five years and options have value for the employee only if the stock price appreciates.

The claims

FASB and those who support stock options expensing have ignored both the practical and the economic reality of these proposed rules. FASB is hoping to capitalize on recent high profile corporate misdeeds to force the expensing of stock options. A recent Chicago Tribune survey had 80 percent of companies greatly curtailing or eliminating broad based employee stock options programs if expensing is implemented.

FASB makes several claims about expensing options:

  • FASB claims that executives will be less likely to attempt to “cook the books” if options were expensed. There is little relation between the long term outlook options create and foster and short term thinking that corporate scandals of the past three or so years has displayed. There are laws already on the books to deal with executives who miscast their company’s performance. Enforce these laws. Don’t punish 14 million hard-working americans for the mis-deeds of a few corparate felons.

  • FASB claims there is currently no financial impact on companies who issue stock options grants to employees, on the contrary, stock options have a dilutive effect on earnings when exercised, increasing the number of shares outstanding for a publicly traded company.

  • FASB claims that expensing will add clarity to financial reporting. However, both methods that they put forward to expense stock options attempt to project the value of a company’s stock at the end of the option grants vesting period (four or five years into the future). Not surprisingly, these methodologies have been wildly inaccurate in valuing options in the recent past. Expensing using these methodologies won’t add clarity to reporting, it will make financial statements harder to interpret for the average investor.

  • Finally FASB is ignoring a very basic economic reality. Job growth in tech, bio-tech, pharma and related industries will go to countries with the best combination of an educated workforce and a favorable regulatory environment. Many high growth markets throughout the world, for example, China and India, are not contemplating expensing options. Forced expensing of options is another reason for incremental job growth in these growth industries to occur outside the United States.
  • Action in Congress

    On July 20, the U. S. House of Representatives overwhelmingly passed the Stock Options Acccounting Reform Act (H3574) by a vote of 312-111. This bill requires the expensing of option grants awarded to the top five executives of a company and proposes additional reporting requirements and levels of approval that companies would have to implement as part of broad based employee stock options programs. This is a great compromise bill that will maintain the benefits of employee ownership for the masses with added governance of stock options that is fair and prudent. The North Carolina Delegation to the House voted 10-1 in favor of the bill with 2 abstentions. North Carolina Congressmen Price, Miller, Burr, Jones, McIntyre, and Ballenger were co-sponsors of this bill.

    Now, the U. S. Senate is contemplating considering its version of the Stock Options Accounting Reform Act (S1890). The Senate version was drafted by Senator Mike Enzi of Wyoming, who is coincidentally the only Certified Public Accountant in the U. S. Senate. My hope is that our Senators in Southeastern states will follow their House of Representative members in supporting the Stock Options Accounting Reform Act. A good call to action for the tech and bio-tech communities is to write your Senators to ask them to both co-sponsor and support S1890. To find your Senator and how to contact them, please go to: www.senate.gov/general/contact_information/senators_cfm.cfm.

    There is no greater regulatory threat to our industries today. Let’s do our part to keep employee ownership through broad based employee stock options programs alive and well.