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Technology Stocks : Wind River going up, up, up! -- Ignore unavailable to you. Want to Upgrade?

To: Pirah Naman who wrote (3426)	7/19/1998 12:11:00 AM
From: Allen Benn	Read Replies (3) \| Respond to of 10309

Certainly those who sell pay an opportunity cost. But there is no free lunch for current investors. I think we all agree that employee stock options cost current investors something. The issue is whether investors make more money by providing incentives to employees through options, or not. If options are appropriate, and I strongly believe they are, then how much is too much? My main point is that these are legitimate questions to debate, but not by holding WIND hostage to loaded verbal attacks. WIND has no practical choice about granting employee options. Not only would the company struggle to hold or attract key personnel if they abandoned options, the company would be chastised by every institutional and many individual investors, including me. It is wrong to be cavalier in suggesting management might be nefarious in their handling of options, particularly when the facts and underlying economics are poorly presented or understood. For example, no one mentioned the APB Opinion 16 when challenging WIND's stock buyback for stated purposes of offsetting dilution from options. No one questioned the validity of charging the Black-Scholes value for options at the date of granted. Ron referred to FAS 123 as "theoretical" and the thread took that as a sign he was being defensive. The fact is that FAS 123 represents a theoretical wasteland. For example, I have always, and will always, include share growth in my projections. With each quarterly report, my model gets reset with actuals, but the future always is assumed to involve share growth. The intrinsic value of the company is a function of current free cash and future EPS growth with expected dilution. I don't need or want FAS 123. It seems to me that the chief protagonist against employee stock options is Warren Buffett, America's most admired investor. This is the same guy who took over Salomon's and instigated a major reduction in their bonus program that succeeded on the cost side, but mainly by driving out most of the key staff, almost crashing the company. Warren is comfortable only with companies having strong franchises that do not depend on key personnel. People are cogs in Warren's companies, and no doubt he is proud of paying his cogs a fair wage for a hard day's work. Cogs are not given stock options. Frankly, I don't know if WIND bestows too little or too many options on employees, since I'm not intimately knowledgeable of executive pay scales in Silicon Valley. However, when Dick Kraber's options package is dissected and judged unilaterally to be excessive, I keep thinking: "WIND has over $200 million in cash and is executing to perfection. That's worth a great deal more than the numbers bandied about on the thread." I keep inferring from your writing that you believe that the share count is decreasing. Have I misinterpreted you? I can find no evidence of this, only evidence of a growing share count. Share count has stabilized, even reduced lately. In the first couple of years after the WIND's IPO, share count increased at about one-half to over two percent per quarter. In FY 1996 share count increased 2.6%, 2.6%, 1.4% and 0.5% each quarter. The first and last two quarters of FY 1997 saw share growth of 1.5% and 0.9%, respectively. The middle two quarters surrounded the secondary, confusing non-public-offering growth. FY 1998 showed negative share growth three out of four quarters. The following statement taken from the January 31, 1998 quarterly report epitomizes the latest situation about share growth: "Weighted average shares outstanding, used in the computation of pro-forma diluted earnings per share for the current and previous years, were 28,080,000 and 28,176,000, respectively." I admit that lately changes in share count are not the easiest thing in the world to spot. New and revised definitions of basic and diluted shares adds complexity that makes historical comparisons difficult. For example, the diluted shares reported in the latest annual report for each quarter over the last two years varies slightly from the share count reported earlier for each of the quarters. By the way, expect share count to rise by about 220K because of the Zinc aquistion, no doubt qualifying for the pooling-of-interests method. Allen

To: Pirah Naman who wrote (3426)	7/19/1998 2:05:00 AM
From: Michael Greene	Read Replies (1) \| Respond to of 10309

Pirah, I would like to thank you for trying to keep us focused in our discussion of employee stock options. While speculating about management motivations for stock buybacks, debating the proper amount of grants, etc. are stimulating discussions we risk not dealing effectively with the core issue for shareholders. Substantial employee stock option grants appear to be a given for Wind River. As you keep reminding us, we need to develop an understanding of how and to what extent these options are going to impact our investments. Even if all employees are deserving of every option granted and even if it is absolutely necessary to give options in order to hire and retain employees so that the company can grow and even if these incentives lead to an extended period of high growth if in the end the resulting dilution is too great shareholders may end up with little gain or even outright losses. Just so that there is no misunderstanding I have no interest in bashing WIND. I have been a shareholder since shortly after the 1993 IPO and have benefited greatly. During this time I have been very impressed with the company's management and their execution and I expect that the company will grow at a high rate for a number of years into the future. However, I am concerned whether this will translate into increased shareholder value. We shareholders have our capital at risk and should not settle for anything less than a hard nosed analysis of the potential dilution effects of these options. If this leads to an understanding that this is of little significance, great. I would love to hold on to my shares for many more years. But, if the conclusion is that this will have a big impact we certainly want to recognize this now not after the damage has been done. Today the issue of employee stock options and resulting dilution is barely in the consciousness of most investors. It is just beginning to show up in critical articles in the press. The visibility of this issue seems certain to escalate over the next year or so and will make the quality of reported earnings a hot topic. In many ways this reminds me of the scenario that occurred between the mid 60's and mid 70's. Then the driver was inflation. As inflation began to pick up in the late 60's it exerted a beneficial influence on reported earnings just as unrecognized compensation expense does today. Initially there was not a lot of attention paid to these inventory profits and thus the higher reported earnings were supportive of higher stock prices. This did not last. The recognition and criticism of the phoniness of reported earnings increased so that by the early 70's earnings reports were intensely scrutinized and discounted. Earnings were no longer taken at face value. The quality of the earnings is what counted. From the mid 60's to the mid 70's corporate earnings grew greatly but the P/E multiples assigned to those earnings went from the high teens down to single digits. Quality of earnings seems to once again be destined to become a high profile issue with employee stock options being one of the drivers. It would behoove us to understand this issue as it pertains to WIND, whether good or bad, before the market renders its judgment. Pirah, you have made the point that shareholder dilution is the major concern. I concur with this. Allen has stated "The problem is the investor has only passing interest in the value of stock options at the time they are granted. In the final analysis, the investor is very interested in how much his/her stock is being diluted." We seem to have a consensus here. I would think that we could pursue this by creating models based on a range of reasonable assumptions and calculate estimates for the future dilution impact from the on-going employee stock option grants. For example, Allen has made projections for the future growth of WIND's earnings. We might select a high and a low P/E to create two different future stock price scenarios from these earnings. We could assume that the historical pattern of option grants will continue. We could consider exercise when vested and again at end of life. I am not trying to be definitive here just trying to point out that we should be able to make some ball park estimates that answer the question of whether or not this is a serious problem for shareholders. Unfortunately, I have to leave on a trip today and will not be near a computer for the next week. When I return I would like to pursue this further. Meanwhile, the thoughts of you and others on this approach would be appreciated. Regards, Michael