The Wall Street Journal Sunday / Contra Costa Times - May 28, 2006
The Bay Area cuts back use of stock options
With companies now required to deduct cost of compensation from corporate earnings, many move away from practice
By George Avalos
Bay Area companies appear to have gotten the word that the free ride for stock options is over.
And technology firms in the region seem to be hearing that message especially loud and clear.
"There is a real trend away from using options to pay executives," said Ralph Ward, publisher of Boardroom Insider, an online corporate governance newsletter. "This has been a major issue in Silicon Valley, where options have been such a huge part of the currency of the realm."
A year ago, it didn't seem that way. Companies in the Bay Area in 2004 were relying on stock options to reward their top executives to a greater extent than in 2003. And that was on the heels of extensive publicity that swirled around the year-long deliberations by the Financial Accounting Standards Board, or FASB, regarding stock options.
Finally, FASB ruled in December 2004 that the cost of the stock options had to be deducted from a publicly held company's earnings.
The tech meltdown, a relentless market, and a string of corporate scandals goaded politicians and government regulators to demand that it was crystal clear how much a company had earned or lost. Prior to the rules, companies simply had to disclose the cost of stock options, but not reduce their earnings by that expense.
Plenty of companies squawked about the regulations. And Silicon Valley executives and their allies howled the loudest, not surprisingly. The tech industry said stock options were a great vehicle to motivate employees and give them a stake in a company's future.
After all, stock options during the late 1990s epitomized the go-go nature of the tech industry and its soaring stock prices. Rank-and-file employees became millionaires almost overnight as the value of the options they held rocketed to the stratosphere. Options came to represent an amazing era of wealth for the Bay Area and elsewhere.
"During the boom of the late 1990s, people really made nearly all of their money from stock options," said Simon Francis, a partner in the Menlo Park office of Christian & Timbers, an executive search firm.
In 2004, the value of stock options represented about 76 percent of the total pay for the top executives at Bay Area public companies. That was well above the 68 percent ratio of stock option values to total pay in 2003.
But in 2005, things began to turn around. About 70 percent of the total pay of top Bay Area executives was derived from stock options, according to a Times analysis of the official filings of the region's 100 largest public companies.
In a sense, the dam built up to preserve the practice of doling out stock options began to break in July 2003 when Microsoft Corp. announced it would eliminate its process of awarding options to buy shares in the software giant. Microsoft decided to instead hand out actual shares of stock to employees.
Now, technology companies in the Bay Area have ushered in changes at a pace that is even faster than corporations in the region generally.
In 2005, about 57 percent of the average total pay for the highest-paid technology executives in the Bay Area came from stock options. That's down sharply from 2004, when 77 percent of a Bay Area high-tech executive's total pay came from stock options.
"Companies are more sensitive to this issue," said David Broman, a partner with Lafayette-based Syzygy Consulting Group, which provides advice and research about compensation trends.
Instead, companies have begun to give executives restricted stock. Like options, shares of restricted stock must be expensed against a corporation's earnings. But restricted stock can be less of an accounting headache for company since the expense occurs within one year. Accounting for options can be spread out over several years because options often do not vest all at once.
And it's also possible that executives might prefer the immediate gratification of being handed restricted stock rather than options, said Alexandra Higgins, a compensation analyst with the Corporate Library.
"Restricted stock might be more valuable than stock options for an executive," Higgins said. "If the company's stock plummets, the value of the stock options can go under water. But the restricted stock is worth a certain amount."
Some analysts believe a growing number of corporations may decide to control their costs of deducting stock options by cutting out the rank and file from the potentially lucrative payment practice. A Syzygy study in 2005 found that corporations might continue to bestow a bounty of stock options on top executives, but curtail or even eliminate such a program for ordinary employees.
"This typifies the trend of an increasing divide between the top executives and the people who work for them," Broman said. "We never seem to see a lot of sacrifices from the people at the top."
