Less options, and options that only go to a few guys at the top...
A lot of tech companies are still partying with options like it is 1999, replacing underwater options with more options.
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Tech Companies Find
Options Hard to Kick
By GREGORY ZUCKERMAN
Staff Reporter of THE WALL STREET JOURNAL
Investors are pushing companies to stop doling out so many stock options, a hallmark of the 1990s stock bubble. But a number of high-profile tech companies aren't ready to give it up.
Indeed, they are doing more than simply retaining their stock-option programs -- they have made them more generous.
In recent months, Apple Computer Corp., Adobe Systems Inc., Electronic Data Systems Corp., ADC Telecommunications Inc., Ciena Corp. and Sanmina-SCI Corp. all have enabled employees to trade in old "underwater" options, exercisable at levels much higher than current share prices. In exchange, the companies are giving employees new options that can be turned into shares at prices likely to be closer to today's lower levels.
That is a boon to employees, of course. But the moves figure to hurt shares of the companies, at least down the line. That is because the new low-price options are much more likely to be exercised, threatening to add a surfeit of new shares to the market when they are exercised, usually over a matter of several years.
ADC, a Minneapolis-based telecommunications provider, for example, on Dec. 29 plans to replace about 28 million existing options exercisable at prices ranging from $4 to $15. ADC shares closed at $2.15 on Friday in 4 p.m. Nasdaq Stock Market trading. In exchange, employees will receive about 11.6 million new options, exercisable at ADC's stock price this December. The new options figure to add about 6% to ADC's shares outstanding when they are exercised over several years, according to analysts, worrying some major investors.
"I'm not in favor of option-exchange programs, this will clearly put more options" at prices that make them more likely to be exercised, says Peter Conrad, senior research analyst at Kopp Investment Advisors, in Minneapolis, which owned 20 million ADC shares as of the end of June. Mr. Conrad adds that, because ADC's plan prevents senior management and the board from participating, it is "more tolerable."
Some investors are hoping that Microsoft Corp.'s announcement in July that it would issue restricted stock units to its employees, rather than options, signals that the golden age of stock options is over. But many tech companies argue that they need to enable employees to exchange worthless options because they will lose valued employees to competitors when the economy turns around and hiring begins again -- even though few tech executives see signs of any hiring spree.
A number of companies note they are reducing their options outstanding in such exchanges by forcing employees to give up more options than they are getting in return, potential good news for investors. EDS, for instance, is allowing employees to trade in options representing nearly 52 million shares for those exercisable into almost 24 million shares.
But the new options are much more likely to be exercised than the old options, making them more costly to shareholders, some analysts say.
In EDS's case, employees with options exercisable at share prices of between $33 and more than $60 will be able to turn them into new options that can be exercised at EDS's stock price in the first quarter of 2004. On Friday, EDS shares traded at $22.17 in 4 p.m. New York Stock Exchange composite trading. The move likely will add about 5% to the total of EDS's shares outstanding, if the options are exercised.
"The number of options is irrelevant -- it's the value of the options that matters," says Michael Trigg, equity analyst at Morningstar Inc., a research firm in Chicago. "These options are more likely to be exercised and that dilutes shareholders." He predicts Adobe, among others, will use cash to buy back shares to offset the dilutive effects of the new options, also costing shareholders.
At the same time, some companies, such as Sanmina-SCI, an electronics maker based in San Jose, Calif., are allowing employees to trade old, out-of-the-money options in for new options on a 1-to-1 basis, keeping the number of options steady. Sanmina will give employees, other than its top three executives, new options in September that will increase the company's share count by 4% if the options are exercised over four years.
Some complain that option exchanges send an unhealthy message to employees, telling them they won't suffer from poor performance. "EDS shareholders have taken it on the chin, the stock is down almost 40% in the past year, but employees haven't lost anything," says Mr. Trigg. An EDS spokesman notes that EDS shares are up 20% this year.
Most of the stock-exchange programs target employees below the top-executive level, but some companies have found ways to accommodate senior executives. When Apple's option exchange was unveiled in March, Chief Executive Steve Jobs said he was volunteering to exchange 27.5 million of his options for a new grant of five million restricted shares that the company values at a head-turning $75 million. In a March regulatory filing, the company said: "Mr. Jobs felt strongly that this would more effectively build shareholder value by reducing the Company's [option] overhang and by providing additional shares that could later be granted to employees," while noting that Mr. Jobs's shares will take three years to be eligible to be sold.
In November 2002, Ciena allowed employees to trade 15 million underwater options for 6.4 million new options. But the company also issued its top five executives two million new stock options, on top of two million issued to the executives earlier in the year. A Ciena spokesman wouldn't comment.
The moves seem to fly in the face of an effort by some investor groups to force companies to rein in option awards. Some say employees who purchase company shares, even at a discounted price, rather than receive stock options are more attuned to maximizing shareholder value because they have risked their own money on the shares. Last year, 295 of 350 companies surveyed granted options to executives, down form 314 in 2001, according to a study by Mercer Human Resource Consulting.
Some of these companies also continue to ignore calls by investors that they expense the cost of these options; only by expensing options can investors see the true cost of this form of compensation, those advocating change say. U.S. and European accounting regulators say they are committed to making companies expense the stock options they grant employees, though the effort remains mired in controversy. More than 280 companies, including Microsoft, SBC Communications Inc. and Wal-Mart Stores Inc., have voluntarily begun to treat stock-options compensation as an expense on their income statements.
But even though Apple shareholders recently voted on a nonbinding motion that the company should begin expensing its employee stock options , Apple isn't making the switch just yet. The company says it will pay "close attention" to Financial Accounting Standards Board efforts to develop new rules on valuing options and "will continue to abide by FASB requirements."
Other companies, including ADC, Sanmina and EDS, also don't expense stock options.
For investors, it can be hard to figure out if a company is creating a more generous program. In announcing its plan in March, Apple, for example, included the news in a release entitled "Apple Enhances Corporate Governance," highlighting steps to add two new independent directors to the board. Apple said it was reducing its stock options outstanding as part of the exchange but didn't note that the new shares, if they are exercised, will add about 2% to the company's shares outstanding. The company spelled out the estimated value of Mr. Jobs's new restricted stock in a filing with the Securities and Exchange Commission nearly two months later, when the stock was granted.
Write to Gregory Zuckerman at gregory.zuckerman@wsj.com
Updated August 11, 2003 |
