stock options plan is already one of corporate America's most outlandish. But that didn't stop the online auctioneer from
upping the options ante again in its latest proxy filing. Crucially, eBay recently received backing for its latest options grant from influential proxy adviser Institutional Shareholder Services.
While somewhat controversial, ISS' backing suggests eBay's day of reckoning on the options issue is still a ways away.
ISS controls or influences some 20% of the shareholder votes at a typical company, making its imprimatur on a proposal extremely important, said Beth Young, a senior research associate at The Corporate Library, a shareholder advocacy and research group.
"If you're trying to defeat a management proposal, it's crucial to have ISS
on your side," Young said. "If ISS is saying 'this is OK, it passed muster with us', that adds to that natural tendency to give the benefit of the doubt to the company."
At its annual meeting on June 24, eBay is asking shareholders to increase the number of shares available under its two most recent options plans by 24 million shares. If approved, the increase would boost eBay's options pool as a portion of outstanding shares by about 3.7%.
Respective representatives of eBay and ISS did not return calls seeking comment for this article.
The Dream Lives
eBay's options practices have come under increasing
scrutiny in recent years. The company is one of the most successful businesses to emerge from the dot-com era, posting consistent sales growth and profits.
But the company has also been one of the most
prolific dispensers of stock options. Over the past three years, the company has awarded a net grant of 76 million shares, or 14.1% of the company's outstanding shares at the beginning of that period.
Assuming shareholders approve its latest options pool increase, eBay will have at least 125 million options that it has either granted or are available to grant; that's equivalent to about 19% of the company's outstanding shares.
"We feel like shareholders are getting pick-pocketed severely with options programs," said Ken Broad, a portfolio manager at Transamerica Investment Management, which does not own any eBay largely because of its options practices.
"Common sense would tell you it's egregious," Broad said of eBay's options plan. "And yet
ISS is voting in favor of it."
At many other Internet companies, employees'
dreams of stock options riches disappeared with the market crash. But at eBay, options have been a windfall for workers. In 2003, company employees gained on average $65,483 per person by exercising their options.
And some saw a lot more than that. Maynard Webb, the company's chief operating officer, gained $21.4 million by exercising 800,000 options last year. Senior vice presidents Jeff Jordan and Matt Bannick each gained more than $10.5 million through options exercises last year.
Overall, the $373.25 million total that eBay employees saw from stock options gains last year was equivalent to about 84% of the company's reported net earnings.
"eBay takes the 'worst in show' award for its stock options plans," said Greg Taxin, CEO of ISS rival Glass Lewis. "Its excessive use of options has had the singular effect of enriching employees at the substantial expense of shareowners."
Glass Lewis estimates that eBay will award $1.65 billion worth of stock options to employees this year. That works out to be nearly $300,000 per employee.
"We don't think that's justified," Taxin said, explaining Glass Lewis' opposition to the proposed increase in eBay's options pool.
Likewise, some institutional investors are opposing this year's call for an options fillip.
Fulton Breakefield Broenniman, for instance, owns some 33,000 shares of eBay and plans to vote all those shares against the company's two options proposals.
"We believe that the number of shares they are requesting is excessively dilutive to current shareholders," said Susan Fulton, president of the investment advisory firm.
But ISS reached a very different conclusion. Using a proprietary model, the proxy adviser estimated that if investors approve eBay's proposal, the company will have the ability to award about 11.9% of its market value in options to employees. Meanwhile, ISS estimated that on a fully diluted basis, the company's options plans, with the increased shares, would cause dilution equal to about 17.4% of the company's shares.
Combining those two numbers, ISS came up with a combined shareholder cost of 12.19%, which fell below its company-specific cap of 12.74%. Because the cost of eBay's plans fell below ISS' cap, the proxy adviser recommended that shareholders vote in favor of the options increase.
Last year, under
similar cover from ISS, shareholders approved a greater-than-50% increase in the shares available under one of eBay's two options plans. The approval came despite the opposition of some 21.5% of shareholder votes. In addition to Glass Lewis, the California Public Employees' (or Calpers) and State Teachers' (or CalSTRS) pension funds each voted against the plan, as
Options ala Carte Blanche
But critics take issue with how ISS calculates options costs. Unlike Glass Lewis, for instance, ISS doesn't focus on the real gains employees and managers have seen from exercising options, relying instead on estimates of how much each option is worth at grant. Nor does the proxy giant put that value transfer in the context of a company's overall earnings.
Because nearly all of ISS' model is based on a company's currently outstanding options and potential grants, the proxy adviser gives little weight to past options exercises. So even if a company's share count has swelled by 50% over the last several years due to options exercises, that dilution figures little into ISS' evaluation of a company's plan. And if the exercises outpace grants, they actually help a company pass muster with ISS by decreasing
dilution, a much bigger no-no in ISS' book than actual, historical dilution.
Indeed, ISS' evaluation of eBay's plan was affected by that factor. With the auction giant's stock surging last year, employees exercised 26.1 million shares, according to the company's annual report. That amounted to 4.3% of outstanding shares or about 6 million more shares than the company's net option grant. Thus, those exercises helped decrease eBay's potential overhang while boosting its actual dilution.
To be sure, ISS did not give eBay carte blanche with options. The proxy adviser is supporting a shareholder proposal urging the company to
expense stock options. eBay management is opposing the motion.
Using eBay's own figures, stock options costs would have depressed its reported earnings by $201.78 million, or 45.7%, last year.