FASB Delays Options Expensing Rule

Accounting regulators say more time was needed for companies to absorb requirements.
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Apparently bowing to political pressure, accounting regulators have decided to delay by six months the implementation of a new rule that would require companies to recognize the cost of stock options in their financial statements.

At a meeting Wednesday morning, the Financial Accounting Standards Board ruled that public companies would have to begin recognizing the cost of options for financial periods after June 15, 2005. Previously, FASB had proposed that companies would begin expensing options for financial periods after Dec. 15, 2004.

"The overriding concern

of FASB was being sure to give companies sufficent time to absorb and implement the new

expensing standard," said board spokesman Steven Getz.

FASB expects to issue its final rule requiring options expensing by the end of the year. The board is still ironing out the details of that rule.

Under current accounting rules, companies can choose whether or not to include options expenses in their income statements. FASB requires those that don't expense to include an estimate of options costs in a footnote to their financial statements.

Expensing proponents have charged that by not reporting options costs, companies are over-reporting their earnings and deceiving investors. In addition, corporate governance critics have linked the liberal use of options with the corporate scandals at companies such as

Enron

and

Worldcom

. Because options reward short-term movements of stocks, critics have charged that they encourage corporate managers to make shortsighted or potentially illegal moves to boost share prices.

Opponents of expensing have argued that the methods of valuing options vastly overstate their costs. Requiring companies to recognize such inflated expenses would effectively kill broad-based options programs, hindering competitiveness, expensing opponents argue.

The decision to delay the effective date for expensing follows intense political pressure on FASB. For months, the

Securities and Exchange Commission's

chief accountant, Donald Nicolaisen, has been urging FASB to postpone the implementation of the new standard to give public companies enough time to

comply with the internal controls provisions of the Sarbanes-Oxley Act. That call was echoed over the last week as some 51 senators sent letters to Securities and Exchange Commission Chairman William Donaldson, urging him to delay the expensing rule.

Technology companies and other heavy users of stock options have fought vigorously against having to expense them. A bill backed by these companies that would create limits to options expensing was

passed overwhelmingly by the House of Representatives in June.

FASB considered the politics of the situation when deciding to delay the expensing standard, Getz said.

"Certainly the board considers all view points," he said. "All views that were expressed were weighed and considered."

Some expensing proponents have worried that a delay might embolden those who oppose options expensing and give them more of an opportunity to derail the expensing requirement. The bill passed by the House has been bogged down in the Senate, but the letters from the senators seemed to indicate that the expensing opponents may be gaining momentum in the upper chamber of Congress.

The senators largely called on the SEC and FASB to use the extra time a delay would afford to do extra testing on the various methods involved in valuing options. Although a growing number of investors, analysts and accounting experts favor expensing, there has been widespread disagreement over the appropriate methodology to use.

Expensing opponents have argued that the valuation methods in use today, including the Black-Scholes model, overestimate the cost of options and would overly dampen their earnings. While FASB initially favored an alternate method, called the lattice or binomial model, it has since backed off from that preference.

Despite the ambiguity about valuation, FASB on Wednesday essentially rejected the call for further study. The board argued that extensive testing had already been done of the valuation methods.

"Extensive testing has been done. The input has been received from many quarters over several years," Getz said. FASB "felt that nothing new really would be learned from further testing."

In that vein, the board rejected a method of valuing stock options proposed by

Cisco

(CSCO) - Get Report

,

Genentech

(DNA)

and

Qualcomm

(QCOM) - Get Report

. The proposed method would have yielded options values that were 70% to 80% lower than those determined by more traditional measures such as Black Scholes.

The new deadline for expensing options will come in the middle of the financial year for most public companies. That could give rise to companies having to mix earnings numbers that include options expenses with those that don't.

FASB decided to address that issue by allowing -- but not requiring -- companies to restate their results from the first half of next year to include options costs.