Dilution Threatens Tech's Revival

Lucent stock traded under $2 for the first eight months of fiscal 2003, but has since climbed as high as $5, roughly triple the average value of employee options granted in fiscal 2003.

As of Sept. 30, Lucent reported that 136 million, or 35% of the 388 million employee stock options outstanding, had an exercise price ranging from zero to $2.25, well below Wednesday's closing rice of $4.20. Only 19 million of those options were exercisable as of Sept. 30, but the potential dilution of those 136 million options is about 3.4% of total Lucent shares outstanding.

Options Overhang Outstanding options as percentage of share base (calendar year approximated)
Company	2000	2001	2002
SEBL	42%	53%	38%
IBM	9	10	13
HPQ	8	11	15
DELL	13	13	14
SUNW	15	17	18
EMC	5	7	8
NCR	15	16	16
LXK	10	10	10
MSFT	17	15	14
CSCO	14	17	19
INTC	9	11	13
ORCL	8	8	9
LU*	20	8	10
PSFT	23	20	24
*For Lucent, 2002 corresponds to FYE Sept. 2003, 2001 to FYE Sept. 2002 and 2000 to FYE Sept. 2001. Source: Merrill Lynch, SEC filings.

Meanwhile, employees at other highflying tech companies such as eBay have virtually all of their options in the money. As of Sept. 30, 99% of eBay's 21.2 million exercisable employee options were in the money, and the company's stock has climbed nearly $15 since then.

Those in-the-money figures are a byproduct of better stock performance during and after the downturn -- eBay stock soared 58% on a split-adjusted basis in the first nine months of 2003.

In the first nine months of 2003, eBay employees exercised 21.8 million options, according to the latest Securities and Exchange Commission filings. That represented 3.4% of total eBay common shares outstanding as of Sept. 30 and almost doubled the number of options exercised over the same period in 2002.

Unintended Consequences

The exercising of options by employees ncreases the total shares outstanding, reducing the ownership of nonemployee shareholders. Companies often buy back shares to offset such dilution, but that takes away money that otherwise could have been used to pay a dividend or reinvest in the company to drive more growth.

"The more the stock price goes up, the more a bigger piece of the pie goes to employees than existing shareholders," says Ken Broad, a portfolio manager with Transamerica Investment Management. "We kind of view [options] as an open-ended liability."