Eminent Persons Ask SEC to Reopen Options Expensing Debate

There is a growing buzz over a position paper in the Summer issue of the California Management Review asking the SEC to reopen for debate the FASB’s new standard requiring the expensing of employee stock options. Thirty of the nation's leading experts in accounting, economics, business, and finance signed the paper to express their concern that financial statements are being impaired by mandating the expensing of options. The thirty signatories include three Nobel Prize winners in economics, two former CEOs of Big Four accounting firms, and two former Treasury Secretaries.

Calling a stock option a gain-sharing instrument in which shareholders agree to share their gains, if any, with employees, the paper reasons that, by its nature, such an instrument has no accounting cost until there is a gain to be shared. When the stock price goes up and there is a gain to share, the paper continues, it must be located on the books of the party that reaps the gain, which is the shareholder not the company. By this reasoning, it follows that the cost of the stock option is borne by the shareholders.

Despite the heavyweights who ask the SEC to reopen the debate, I believe that this ship has already sailed. Neither the SEC nor Congress is likely to revisit this issue. And, there is no public sentiment to do so. If anything, the investing public favors the expensing of options. Bills in Congress to delay stock option expensing have uniformly failed to gain traction.

The debate over stock options has been with us for many years, at least since Professor Berle observed the growing divorcement of company management from company ownership and the dawning of the professional managerial class. I believe that the only legitimate reason for stock options is to align the interests of that managerial class with the owners of the company, the shareholders. That is why the repricing and backdating of options is wrong, not because of expensing or non-disclosure, but because it distorts the perfect alignment of corporate management with ownership. The shareholders do not get to reprice their shares.