Expensing Options Has Little Effect On Stock Price

November 21, 2002 (PLANSPONSOR.com) - A study of 103 companies, 60 days before and 60 days after the announcement of stock option expensing, revealed share performance to be the same on average as the S&P 500, according to Towers Perrin.

Following the July and August announcements of the companies to adopt FAS 123 option expensing standards, Towers conducted analysis of the stocks involved by adjusting the company stock prices to a uniform $10 per share, making the adjustment effective the day before the announcement and adjusting for general market movement.

The average stock price did not show any significant change during the 120 trading days surrounding the declaration, even though Towers found that option expensing had reduced earning per share (EPS) by 10%.

Therefore, Towers concluded that the economic costs of using options had been know to investors before companies began showing profit & loss (P&L) expenses.  

Richard Ericson, a Towers principal who co-authored the study, said companies can improve what affects stock prices, financial performance, by managing their business plans well and pursuing “business efficacy – the power to produce results – rather than bookkeeping expediency when setting up incentive plans for management.”

He believes issues with incentive structure can be addressed through a threefold approach:

  • Making better use of incentive plans based upon actual operating results, so outcomes are more closely linked with management’s actions; as part of this, companies should improve upon the target-setting and measurement methods normally used
  • Making more prominent use of value-based methods – that is, incentive plans that emphasize long-term operating results, capital usage and business risk, each in proportion to its impact on value creation
  • Placing greater emphasis on business units within the company, an approach particularly applicable to companies with fairly separate groups, divisions or profit centers.