Corporate suites across America are feeling the pressure to expense stock options. One reader said the Fool's name came up while he was speaking with a CFO about option expensing. Believe me, companies are painfully aware when investors sell their stocks based on principle. The screams of the righteous can go ignored forever, but rest assured that execs hear the sound of jingling change leaving their pockets.
Last Thursday, former American Express (NYSE: AXP) CEO Harvey Golub may have hit a new low with his incredibly obnoxious, self-serving op-ed in The Wall Street Journal about why stock options shouldn't be expensed. I say "may have" because, as we reported in yesterday's Motley Fool Take, PeopleSoft's (Nasdaq: PSFT) CEO wrapped himself in the flag as he discussed his firm's decision not to expense.
Still, Golub's line of reasoning was pretty special. He included this particular charmer:
However, while stock options have value to the executive -- here is the crucial point -- they cost the corporation nothing. They are never a cost to the company and, therefore, should never be recorded as a cost on the income statement. The value inherent in a stock option, when exercised, is value taken from other shareholders -- without that value flowing through the company's books. In other words, their cost is entirely borne by the company's shareholders. This is an important distinction. That corporations would have to use cash, were it not for options, is beside the point.
That last sentence, in particular, blows my mind. It's not "beside the point." It is the point. Let's think about this. If the stock market continues to languish over the next few years, how likely are employees to continue to accept stock options in lieu of higher cash compensation? Not likely. Option-dependent companies such as Cisco (Nasdaq: CSCO), Siebel (Nasdaq: SEBL), and Microsoft (Nasdaq: MSFT) could easily face a rising demand for cash compensation. That could weigh on the companies' sale, general, and administrative expenses (SG&A), where it previously didn't. When options are used as compensation, there's a cash opportunity cost. The company could've easily sold those options on the public market and paid employees with more cash. It's frightening that Harvey Golub doesn't seem to understand the concept of opportunity cost.
As Morgan Stanley's Chief Investment Strategist Byron Wien recently (and famously) said: "[A]nyone who says that stock options aren't an expense destroys his credibility on all other issues." I agree, and for this reason, I set out to expunge from the Rule Maker Portfolio all members of the lobbying group American Electronics Association, the rabid attack dog for stock options accounting in the high-tech industry.
Obviously, American Express isn't a member of that particular cohort. But Golub's opinion casts a deep shadow across AmEx, a company that typically exhibits shareholder-friendly disclosure practices. I relaxed a little when I recalled Golub is the retired CEO of American Express. As his op-ed came out last week, it must've been quite a kick in the teeth when American Express announced Monday that it would begin expensing stock options in 2003.
AmEx is a Rule Maker company, and I was perfectly willing to apply Golub's opinion and attitude on stock options to his former employer. This would've been strike three for the company. The first blow was its repeated "one-time" charges in assets, due to grievous losses in derivative products the company issued but didn't understand. The second blow was, in spite of this destruction of shareholder value, the massive raise given to current CEO Ken Chenault.
The Rule Maker Portfolio (and I, personally) invested in American Express just after Sept. 11, when the company's shares sank precipitously. We did so assuming the issues the company faced, particularly those surrounding its travel services and financial advisors, had been fully discounted in the stock price, and all remaining pessimism was just that -- pessimism. We're glad to try to profit on sentiments that strike us as overreactions.
Interestingly, as the stock price climbed, it was I (having taken over the Port) who grew more pessimistic about AmEx, primarily from a management perspective. No single decision tips the balance for me. I was already adjusting for the stock options it granted (their effect in 2001 would've been approximately $0.07 per share). But at a minimum, I'm gratified it has elected to follow the "preferable approach" for employee options treatment, as designated by the Financial Accounting Standards Board.
I love that a few days after Harvey Golub so confidently asserted that stock options aren't an expense, his former company walked up to the same microphone and said, "Actually, Harvey, we disagree."
Guess who else disagrees with Mr. Golub? The FASB, for one, and the International Accounting Standards Board, for another. Gosh! If the two most influential accounting bodies in the world think stock options are treated best by companies when expensed, who am I to disagree? And, dare I say, Mr. Golub, who are you?
A mea culpa
The meticulous among you noticed that the stated returns for Rule Maker have dropped steeply in the last few weeks. This has nothing to do with a rapid deterioration of the portfolio, and everything to do with the fact that I goofed in my accounting of past returns. While we're awaiting the automatic portfolio to come back online (and I have it on high authority that the data is being rebuilt as we speak, which is, incidentally, the reason that our most recent transactions have not yet been updated on the site), I tried to do an ad hoc portfolio return. Let's just say that Enron's comptroller had nothing on me in regard to misplacing assets and liabilities. I misstated the amount of cash placed in the portfolio.
This year, I mandated to clean up the Rule Maker, which we're still doing. You'd think it would be in my best interest to sandbag past returns to make myself look as good as possible, not to understate them. At any rate, I offer my apologies, sincerely, and my thanks to those who caught the errors. In the spirit of today's deadline for CEOs and CFOs to sign off on their companies' financial results, I will do the same. Incidentally, you should, too. What follows, to the best of my knowledge, is an accurate portrayal of the past results of the Rule Maker Portfolio.
Bill Mann, TMFOtter on the Fool discussion boards
P.S. I noticed today that Arne Alsin of Alsin Capital Management penned an article for TheStreet.com calling for the end of double taxation of dividends, a topic we wrote about last week. The more I think about it, the more I'm convinced that a regime that encourages dividends would help cure a great deal of the bad behavior surrounding the American capital markets. Write your congressional representative!
People constantly confuse Bill Mann with a member of 'N Sync. He reminds readers that, although he's overweight, significantly older, and tone deaf, the resemblance is, in fact, uncanny. Bill owns shares in Berkshire Hathaway and American Express and has beneficial interest in Cisco. The Motley Fool is investors writing for investors.
The Rule Maker Portfolio has had a cumulative investment of $42,000. As of Aug. 13, 2002, its current value of all cash and equities is $26,270.41. This equals an Internal Rate of Return of -15.5% since the launch of the portfolio in February 1998.