IBM Reboots Executive Option Program

February 25, 2004 ( - In an effort to make the company's executives more accountable to investors, IBM Corp. has added a clause to its executive stock option plan that does not permit the exercise of shares unless the stock has gained more than 10%.

Under terms of the rule, an executive’s stock option will have a strike price – the price at which stock can be bought at a certain point in the future – set 10% above the market price on the day the options are granted.   The change, which would impact the stock option plan of Big Blue’s top 300 executives, was approved by the company’s board on Tuesday and takes effect immediately, according to an Associated Press report.

For IBM executives to still get market-priced options, they must spend part of their cash bonus on buying IBM stock at the same price, and hold it for at least three years. That part of the plan will begin next year.

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“We believe this is clearly a statement about good governance,” Randy MacDonald, IBM’s senior vice president for human resources told the Associated Press. “We think it’s an obvious connection to let shareholders get some upside before we take the upside.”

The new rules do not apply to the rest of the 85,000 IBM employees who get options or restricted stock.

While the move will almost certainly tip the first domino changing the way options are granted to executives at other technology companies, it should be noted that stock option grants at IBM are issued for 10 years, ample time for the stock to rise 10%.   Over the previous 10 years, IBM’s stock price has gone up approximately 83%.

Perhaps most significant though is the decision for an industry stalwart such as IBM to alter its executive stock option program rather than moving away from options, like General Electric(See GE Brings Executive Comp Changes To Life ), or abandoning them, as Microsoft has done(See   Microsoft Wants to Give Workers a Real Stock “Option”).   In the case of those two companies, executive are now being awarded stock shares, in lieu of stock options, if the company meets certain performance goals, such as cash flow, customer satisfaction and stock performance compared with the market or companies in similar industries.

Acting as the impetus for in the way stock options are awarded and administered is the expected proposal by the Financial Accounting Standards Board (FASB), the nation’s accounting rule makers, to require companies to begin accounting for stock options as a business expense.   The probable proposition, according to FASB, would be followed by a standard on stock options by the end of the year that would take effect sometime in 2005 (See FASB: Option Expensing Begins in 2005 ).

Opponents of mandatory expensing have said it will mean the end of broad-based equity plans, that it is impossible to accurately value options since formulas being proposed are overly complex, and that current earnings per share disclosure rules are adequate (See  Black-Scholes Overvalues Stock Options ).