Having railed for years against the shortcomings -- nay, the absurdities -- of employee stock options programs, I've got to tip the ole jester's cap to Microsoft (NASDAQ:MSFT) for its decision to replace employee stock options with awards of restricted stock.
This should prove a winner all around. From an accounting perspective, it's a good thing. From a motivational perspective, it's a good thing. From a corporate governance perspective, it's a good thing. Rewarding employees with restricted stock will do for Microsoft what stock options couldn't: It will seat shareholders and employees on the same side of the table.
Money, money, money
Not long ago, Microsoft stock ranked among the top five millionaire-makers in this country. It was also among the first to use stock options to compensate rank-and-file employees. Until then, if used at all, options were the domain of top executives, the theory being that these were the folks who truly influenced the company's success.
Microsoft changed all that, and its stock options program minted millionaires on all rungs of the corporate ladder. Must've made for some curious office politics. Don't mess with the chief custodian -- he might just buy you out.
As Microsoft matured, however, this reliance on stock options made less sense. For one thing, the stock simply could not stay on that dizzying trajectory -- even now, the company is valued at $48 per man, woman, and child on the planet. I mean, maybe $96 per person is reasonable, but $192? Wherever you draw the line, Microsoft simply cannot make folks 1990s hyper-rich from here.
More importantly, it is a mature company and in a relatively mature space. Stock options make sense for startups and others short on revenues and cash in the bank. But a company that booked $28 billion last year and has $38 billion stashed away?
I'm no Pollyanna. I know Microsoft's primary motivation was not its shareholders. CEO Steve Ballmer has been seeking a means to boost employee morale. In the past, with a buoyant stock, this was easy -- just grant more options. That was then. Before employees at Microsoft, like those at most technology companies, watched their options sink deep underwater, and stay there.
Employee ownership is good
The tireless mantra of stock option proponents is that options extend the joys of stock ownership to the rank and file. Well, duh. I doubt anyone would argue that's a bad thing. Workers with a stake in a company care about how it performs. Deeply. But the problem with stock options is twofold:
First, there's the absurd notion that option grants, regardless of size, don't cost anything. Second, there's the drawback that stock options provide skewed incentives. If things go great, option holders strike it rich. If things go not-so-great, the options were free anyway. And now they're worthless, so what's the use in trying?
In fact, options offer no reward for playing it smart, being conservative, and making a good long-term decision. Just goose that stock, damn the long-term ramifications! That's not owning; that's renting. If you've ever owned them, you have a sense of the difference between options and actual shares of stock -- the mere fact that they sport exercise dates and, worse, expirations gives them the feel of trading cards.
Moreover, when you and your co-workers are tied up in options, does it even pay to offer a dividend? Paying out only decreases the company's equity accounts and stock price, and thus the likelihood that employee options will stay in the money (not to mention option holders aren't even paid dividends). Better just to hoard, even if there's no good use for the money -- think Cisco (NASDAQ:CSCO).
A corporate slam dunk?
Can Microsoft screw this up? Sure. For one, the company could be too generous. But unlike with options, current accounting does a pretty good job of valuing restricted stock. A share of stock is a share of stock, period, and the charge to earnings is predicated on the price of the stock at the time of the grant. In fact, when Amazon.com (NASDAQ:AMZN) switched to a similar plan last year, it granted fewer shares than it previously did options, to limit dilution.
As for the fear that restricted stock grants are "freebies" and don't motivate workers: Ha! Is anything more "free" than options? The payoff from a stock option is rarely linked to an employee's behavior or productivity, but rather the sometimes arbitrary gyrations of the stock market. At least with restricted stock, shares that fall below the grant price retain some value. And unlike with options, restricted stockholders are entitled to -- and want -- dividends.
Last but not least, Microsoft's new program has the added advantage of serving new employees -- those who have not had the same chance to benefit from serving the company as those who came before them. Microsoft needn't be a moon shot for employees (and shareholders) to grow prosperous through long-term ownership.
More than anything (after all, we Fools are investors writing for investors), it's refreshing to see Microsoft, a technology leader, take a step that will benefit its shareholders. Now, if we could only get it to disgorge some of that enormous cash pile. One step at a time, I guess.
Fool on!
Bill Mann, TMFOtter on the Fool Discussion boards
Bill Mann never shot a man in Memphis. He holds none of the companies mentioned in this article. Have you seen what Tom Gardner is up to now? Come take a free trial of his Motley Fool Hidden Gems newsletter and find out!
