NEW YORK (CNN/Money) -
Favored by some of the biggest names in finance, expensing stock options may get another nod of support Wednesday by the board that sets U.S. accounting standards.
The Financial Accounting Standards Board is scheduled to vote on whether to put the issue on its agenda. The vote by the seven-member board could lead to a recommendation that the cost of stock options be subtracted from corporate results under Generally Accepted Accounting Principals, or GAAP.
Warren Buffett, the CEO of Berkshire Hathaway, Alan Greenspan, the Federal Reserve Chairman, and Arthur Levitt, who ran the Securities and Exchange Commission under President Bill Clinton, have all said that agreements allowing employees to buy stock at below-market prices should be treated as a corporate operating expense.
Coca-Cola Co., the Washington Post Co., and Ford Motor Co. agree. They are among about 170 companies that have volunteered to expense options in a practice supporters say will lift the confidence of investors smarting from accounting fraud.
"We believe it's a more transparent way of doing business," said a spokeswoman for Coca-Cola, Racquel White.
But opponents say the practice won't give a more accurate look at what companies really earn. They dismiss the issue as financial fad masquerading as reform.
"It has become a morality play," said Alan Reynolds, a senior fellow at the Cato Institute, a Washington think tank.
Reynolds argues that determining the value of stock options involves assumptions that often turn out wrong. "What we are really talking about is pre-estimating," Reynolds said.
Stock options allow shares to be bought at a preset price during a prescribed time period. A big chunk of options issued since 1999 are "underwater" because three years of market declines have pushed stock options below their exercise price. Another chunk of options have become worthless because thousands of grantees no longer work for the companies that awarded them.
Putting a price on options
While granting stock options has a theoretical cost, exercising them has actual costs. Exercised options increase the number of company shares outstanding, potentially lowering earnings per share. Alternatively, a company buying back shares to reduce dilution uses its cash to do so.
The most common system for evaluating options, the Black/Scholes model, weighs a series of variables to determine the value of a stock option. But critics worry because companies using this model make assumptions about the cost of options before they are exercised.
These questions led Intel, (INTC: Research, Estimates) the No. 1 chipmaker, to say it will not voluntarily expense options.
"There is no good valuation model to determine the fair value of unexercised employee stock options," Andy Bryant, Intel's chief financial said following the company's decision in August. "Including an unreliable estimate of the fair value of options in the income statement would distort earnings."
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Companies currently list the value of options as financial footnotes.
For some companies, expensing options will erode profits. A study by the Philadelphia Business Review found that 2001 profits at cable company Comcast, for example, would be cut by $126.6 million, or 21 percent. But when Coca-Cola in July became the first major company to say it will expense options, it estimated the move will cut a penny per share from annual earnings.
Motive for good or evil?
Options are often granted at below-market prices as performance incentives for executives and the rank-and-file.
A regulatory filing from Bear Stearns, which saw record profits last year, showed that the brokerage gave CEO James Cayne options to buy 68,000 shares of Bear Stearns stock at $64. The stock was trading at about $62 when Bear Stearns made the filing.
"That stuff isn't free," said Lynn Turner, the former chief accountant of the Securities and Exchange Commission, who supports expensing. "It has a cost."
Some critics contend that stock options provide a motive to inflate profits, pointing out that executives at Enron exercised their options while the energy trader slid toward bankruptcy.
The issue before Wednesday's meeting of the Financial Accounting Standards Board, which begins at 9 a.m. ET, is simply about placing the item on its agenda.
Sheryl L. Thompson, manager of FASB's public relations, said none of the board members would comment on the issue ahead of the meeting. She declined to predict the outcome.
FASB Chairman Robert Herz has said he favors expensing. But a vote to put the item on its agenda could mean months or years of study and debate. FASB is a private group that makes often-followed recommendations but has no enforcement power.
A letter to FASB released Monday from 15 U.S. senators opposing expensing was signed by eight Republicans and seven Democrats. In addition to worrying about how to value options, they fear that expensing them will lead companies to stop granting them.
"We certainly support taking all necessary steps to punish senior executives who have abused stock options and betrayed investors' trust," the senators wrote. "We should not, however, make the millions of hardworking and honest employees who have received, and continue to receive, stock options pay for the behavior of a few senior executives."
But plenty of employees holding stock options have no real options. Three years after the Nasdaq composite index peaked, only a ferocious rally will confer real value on many of these compensation perks.
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