A friend of my father's, a bio-medical researcher and industry executive, once told him that "Big corporations are run for the benefit of management, period." A brief glimpse at abuses in stock option compensation might bring most of us into agreement on that point.
Options-based compensation for executives is rife with opportunities to fatten management wallets at the expense of shareholders. Some techniques are blatant, like the retroactive options repricing committed by Juniper Networks (NASDAQ:JNPR). But we also see companies engaging in iffy efforts to buoy the stock price via outright cooking of the books a la Enron and WorldCom, smaller-scale fudging in order to "beat by a penny," or overpriced stock buybacks, as at Texas Instruments (NYSE:TXN), or the one I questioned yesterday at Papa John's (NASDAQ:PZZA).
So let's give IBM (NYSE:IBM) a hand for rehabbing its executive stock option plan. Rather than granting the options at an exercise price equal to the current market price, the company will now dole out options at a 10% premium. This means they will be worthless until IBM's stock has appreciated more than 10%.
The change may not seem like much on the surface, but take a closer look. Imagine you're an executive at another company, sitting in a fat leather chair glancing through your pile of vested options, and you notice that the exercise price is close to the current market price. Wouldn't you be tempted, just a little bit, to make that stock jump? Maybe lean on the folks down in accounting to make sure the firm beats estimates next quarter? Just move a few things from one column to another, and -- voila! -- the market reacts! With the stock a couple of points above your options, you can cash in, risk-free.
Now, if you're working at IBM, you know there's a 10% spread before those options are worth anything. You should probably take a longer view and work to enhance the company's value so that it will be recognized and reflected in the stock price. This is exactly what stock options should do: encourage a longer-term ownership culture among executives. As of today, there are only a handful of U.S. companies with similar policies. Let's hope more of them follow IBM's lead.
A management ownership culture is a key feature of stocks picked by Tom Gardner for Motley Fool Hidden Gems . Check it out, free, for 30 days.
Fool Contributor Seth Jayson thinks executives should receive restricted stock at a 15% premium. He owns no stake in any companies mentioned here.
