The Hindu Business Line : What's the SCORE?

The partying in Silicon Valley hasn't stopped ever since the US House of Representatives' vote against the proposal of the Financial Accounting Standards Board that stock options be expensed. But are the players involved reading a scoreboard that doesn't give the full picture?

I have no objection to the granting of options. Companies should use whatever form of compensation best motivates employees -- whether this be cash bonuses, trips to Hawaii, restricted stock grants or stock options. But aside from options, every other item of value given to employees is recorded as an expense. — Warren Buffett

BEAN-COUNTERS and coders work with numbers - but there are numbers and then there are numbers which is why the partying in Silicon Valley hasn't stopped ever since the US House of Representatives voted 312-111 against the proposal of the Financial Accounting Standards Board (FASB), the private body that is responsible for creating accounting guidelines, that stock options be expensed.

When the partying stops, that's when the coders are going to figure out that they've been had when they were led to believe that the FASB proposal involved an elimination of stock options and that the House's rejection of the FASB proposal is going primarily to prove a big help to the managements of publicly-held tech outfits which would otherwise have had to report reduced profits.

That figures. Washington knows where the money is coming from - and there's more of it coming from the heads of tech companies than coders...an important consideration in an election year.

The story is a study in spin. The FASB had, at no point, proposed that stock options be eliminated. It was the leaders of the tech industry who, in their criticism of the FASB proposal on expensing stock options, had argued that if they were required to expense stock options, earnings would suffer a large hit, causing them to stop issuing options to their rank-and-file employees. The managements had further resorted to a bit of enthusiastic flag waving when they thundered that their elimination of stock options would hit America's ability to innovate.

The spin goes back to March last calendar when the FASB announced the inclusion of stock options accounting to its agenda in the context of its assurance of cooperation held out to its European counterpart, the International Accounting Standards Board (IASB) in London, which had already proposed that companies be required to account for options as an expense. The FASB Chairman, Robert Herz, in a statement at that time, had observed: "In the wake of the market meltdown and corporate reporting scandals, the FASB has received numerous requests from individual and institutional investors, financial analysts and many others urging the Board to mandate the expensing of the compensation cost relating to employee stock options." The FASB had further indicated then that it expected to issue a final standard as part of the Generally Accepted Accounting Principles (GAAP) in 2004.

It is relevant to note here that the FASB had taken up for consideration the issue in the mid-1990s - and had then decided to back away from it in the face of massive pressure from Silicon Valley companies and Washington.

In March this year, the FASB had formally put forward its proposal that American businesses be required to expense stock options. In specific, the proposal was that employee stock options should be included in corporate income statements starting in 2005, a controversial departure from the current FASB guidelines which gives companies the option of either treating options as an expense or of disclosing them in footnotes to their annual report.

That's when the skunk got into the air-conditioner.

Tech giants including Intel, Cisco Systems and Sun became positively shrill in their opposition to mandatory expensing of stock options. One semiconductor outfit went to the extent of saying that the FASB proposal could make companies abandon the board's standards, including generally accepted accounting principles (GAAP), and adopt pro forma accounting.

The rank-and-file employees, whose interests were being so vigorously espoused by their employers, were quite befuddled by the arcane issues involved - and it didn't help any that there was no agreement on the formula that FASB could use to evaluate the financial impact of stock options. There were two formulae involved — Black-Scholes and the binomial model — and the critics of FASB were quick to point out that both are really meant to work out the value of options bought and sold in financial markets, and not employee stock options. These critics argued that employee stock options were different in that they cannot be sold and are vulnerable to black-out periods during which trading in stock is suspended. Furthermore, they said, stock options come into the hands of employees over a period of time.

The International Stock Options Coalition, a forum of large businesses and tech trade associations, weighed in with the assertion that the Black-Scholes and the binomial models wouldn't "work for what FASB wants to use them for" and that, as a consequence, would "substantially overvalue employee stock options."

Quite expectedly, the National Venture Capital Association also flayed the FASB proposal, saying it would "seriously harm private, emerging-growth companies that are highly dependent on employee stock options to recruit and retain employees."

And finally, tech lobbyists swung into action, actively supporting a Bill called the Stock Option Accounting Reform Act that basically sought to prevent federal securities regulators from recognising any FASB decision. The Bill, however, mandated the expensing of stock options granted to a company's CEO and four other top executives, if the company had annual revenue of at least $25 million. The Bill was backed by legislators representing Silicon Valley.

Somewhere down the line, the employees of tech companies began to believe that the campaign against the expensing of stock options was a campaign for the protection of their interests. The din raised by the sultans of Silicon Valley was such that they couldn't hear people like Warren Buffett, CEO of Berkshire Hathaway, who is firmly in favour of expensing stock options. The employees were also not very clear why the expensing of stock options would deal a mortal blow to American innovation as was being claimed by their employers - but it sounded good and they went along with the argument anyway.

Indian political leaders love telling other countries "We told you so." This time around, they'll be right when they say that they have always known that that bad economics is almost always good politics.

eworld@thehindu.co.in

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page

Stories in this Section
What's the SCORE?

Pouch play or plain poaching?

Community calls

On the trail... but not blazing

Harmony sparks dissent

Win some, lose some

Swamped by spam

Deleting infected file

`The best is yet to come'

Background checks

Quiz

Hard work, but rewarding too

Cartoon

That extra dimension