Buck: Early Option Expensing Equals Higher EPS

Technology companies forced to adopt stock option expensing guidelines in 2004 will experience a median decrease in fiscal year 2003 EPS of approximately 20 times greater than companies that voluntarily adopt these guidelines before a December 2003 deadline, according to Buck Consultants study “Options Expensing: By Choice or Mandate? A Critical Question of Timing for High-Tech Companies.”

Many companies, though, are not eager to hop on the option expensing bandwagon, as many believe investors may have concluded such action now amounts to little more than public relations smoke-and-mirrors, designed to create the appearance of good corporate governance practices.   Further, companies are now taking a “wait and see” approach on what new regulations may lie ahead and simply, many companies are simply faced with a lack of reliable, uniform means to arrive at the value of their options (See  Fewer Companies Volunteer Stock Option Expenses ). 

“Taking a `wait-and-see’ approach seemed prudent a few months ago, but it is now regarded as a high-risk strategy,” said Ted Buyniski, a principal in Buck’s compensation practice and co-author of the study. “Not taking action on this matter before the end of this year is the least viable option. Whether a company agrees with stock option expensing or not, it is critically important for it to come to an immediate understanding of the impact it will have on their 2003 financials.”

FASB Actions

All of this has come to a head since late April, when the Financial Accounting Standards Board (FASB) unanimously agreed that companies should be required to treat stock option grants as expenses, and said a new rule could be in place by next year(See FASB Says Yes to Option Expensing). Support for option expensing has come from retail investors incited by a raft of recent accounting debacles (See Investors Voice Support For Option Expensing).

However, technology companies contend the expensing of stock options will cut into their bottom line.   NASDAQ, the primary stock exchange for technology companies, has said expensing stock options could hurt small companies that do not have earnings but need to attract qualified employees as the companies in particular rely on stock options as a form of compensation.  Currently, these companies utilize the intrinsic value method to account for the value of the options.  Under this method, options are accounted for by taking the difference between the market price of the stock and the exercise price at which the employee may buy that stock.

“It is important to note that this impact to EPS is not restricted to high-tech companies – any company extensively using stock options will be significantly affected,” said Anna-Lisa Espinoza, a principal in Buck’s compensation practice and the study’s co-author. “Companies should analyze the impact on their own financials of prospective versus retroactive accounting methods. With that information, they can consider the alternatives: voluntarily adopt Statement of Financial Accounting Standards 123 while the prospective accounting method is still on the table; explore alternative incentive strategies to stock options; or even continue the fight against any form of option expensing.”

Buck’s study was completed in May 2003 and focused on 28 companies in the high-tech sector.   Interested parties may contact Brett Harsen at (508) 460-8092 or email at harsen.bj@buckconsultants.com about obtaining a copy.