Considering the way some companies have handled their stock options' slide underwater, it's easy to agree with my colleague Anders Bylund that Intel (NASDAQ:INTC) chose the right plan to reprice its options. Intel will exclude top management from participating in the repricing, and also use a value-for-value exchange program that tends to be more shareholder-friendly. But for all its apparent benefits, Intel's plan isn't quite as great as it may first appear.
All the cool kids are repricing
Normally, repricing stock options is only slightly different from the backdating schemes that were prevalent a few years ago. In those cases, companies ranging from Apple (NASDAQ:AAPL) to UnitedHealth (NYSE:UNH) changed the dates on previously issued options to set their prices at earlier low points, ensuring that optionholders received greater potential profit. This practice was unfair to shareholders, who often didn't have the benefit of going back and changing the dates on which they bought their own shares. Some instances were so egregious that the associated executives went to jail, including ex-CEO Gregory Reyes of Brocade Communications (NASDAQ:BRCD).
But companies have learned from those days. Now it's all the rage to reprice options, since the process is far more aboveboard. Companies must announce their intention to do so with the SEC beforehand, and get permission from shareholders -- no more smoke-filled backroom deals with directors. The whole process looks all the more palatable because it's done in the light of day.
Yet looks can be deceiving. Repriced stock options receive special accounting treatment under SEC rules. Companies must use an options pricing model to determine a compensation expense that's equivalent to the value of repriced options, minus the value of options replaced. This expense is recorded over the remaining life of the repriced options. So while executives and participating employees are enjoying the benefits of higher future share prices, the company and outside shareholders suffer from the impact of reduced earnings.
However, by using a value-for-value exchange, as Intel is doing, the hit to earnings and shareholders is negligible.
What Intel's approach gets wrong
So what makes Intel's repricing scheme only half right? For one thing, Chairman Craig Barrett defends the plan by suggesting he's trying to keep interests aligned between employees and shareholders. "I assume that shareholders are interested in all employees not only sharing in the success of the company, but also working for the long-term success of the shareholders," Barrett said.
True -- except that was the purpose of the options that Intel originally issued, too. Barrett is essentially granting employees a mulligan. Though options are repriced equal to the fair value of previously issued ones, the likelihood that employees will exercise those options in the future has now increased, thanks to their new and more appealing prices. In the end, Intel's shareholders are left holding a lighter bag of depressed share values.
Google (NASDAQ:GOOG) became officially evil when it went this route of guaranteeing option success. A number of other companies, such as Aladdin Knowledge Systems (NASDAQ:ALDN), have also rubbed this genie's lamp to get their option wishes granted.
Intel's choice of a less offensive method doesn't change the essential wrongness of repricing options in the first place. The lesser of two evils is still evil.
