The Financial Accounting Standards Board (FASB) has added a project aimed at overhauling stock option rules to its formal agenda, the first step toward possibly mandating the expensing of stock options. With this move, FASB requested feedback on stock option rules and has been barraged with letters and e-mails on the contentious issue, according to a Reuters report.
Retail investor feedback thus far has been overwhelming for option expensing, with 76% of respondents writing in favor of expensing options. FASB Chairman Robert Herz, who refers to the e-mails still streaming into his mailbox as his “daily love notes” told Reuters that investors have been fervently behind the proposal for option expensing, recalling one investor who called stock options “steroids of corporate greed.”
Further, many institutional investors and other financial organizations are throwing their weight behind FASB’s latest proposal partly because it is now seen as a corporate governance issue rather just a technical accounting issue. Organizations such as the International Accounting Standards Board (IASB) and Moody’s have come out in favor of option expensing.
This past November, the IASB outlined a proposal that would require non-US companies to treat stock options as an expense by the year 2004 (See IASB Releases Option Expensing Proposal ), sending the first shockwaves out that expensing was in the air. Moody’s came out in December saying the current accounting treatment of employee stock options has clouded the transparency of US corporate reported earnings over the past several years. Particularly, the agency says although stock options are widely used for employee compensation, they are generally not treated as a corporate expense for financial statement purposes by most corporations; making them a cheap form of compensation from the perspective of a corporation’s management (See Moody’s Calls Out Stock Options ).
However, FASB has stated it will make a final decision only based on what it considers the right accounting approach.
The Other Side
Conversely, 88% of the responses from corporate America have voiced opposition to the move. NASDAQ, the primary stock exchange for technology companies, has said expensing stock options could hurt small companies that do not have earnings but need to attract qualified employees. Tech companies in particular rely on stock options as a form of compensation and have long fought against option expensing . Currently these companies utilize the intrinsic value method to account for the value of the options. Under this method, options are accounted for by taking the difference between the market price of the stock and the exercise price at which the employee may buy that stock.
Current US guidelines allow companies to choose between subtracting the expense of stock options from their income statements and disclosing their theoretical value in the footnotes of their financial statements. With the exception of a handful of early volunteers and the approximately 130 recent coverts, most companies have opted to record the expenses in their footnotes (See Fewer Companies Volunteer Stock Option Expenses ).
In response to the recent push to add an option expensing requirement companies such as Adobe (See Adobe Takes Snapshot of Life With Option Expensing ) and Analog Devices (See Analog Shareholders Defeat Option Expensing Proposal ) have revealed the major hit their bottom lines would take should option expensing be implemented any time in the near future.
However, a recent Towers Perrin study that found stock option expensing has little effect on corporate bottom lines (See Expensing Options Has Little Effect On Stock Price ). Towers concluded from that study that the economic costs of using options had been known to investors before companies began showing profit & loss (P&L) expenses.