Can Options Reform Survive Congress?

The issue of expensing stock options rests with the Senate.

This week, the House of Representatives overwhelmingly passed a bill that would severely limit the number of companies that must expense options -- and the number of options they must expense. The House bill would block the Financial Accounting Standards Board's proposed rule requiring all companies to include on their income statements next year the cost of all the options they grant.

The action now moves to the Senate, which has shown much less interest in a parallel bill promoted by Republican Mike Enzi of Wyoming. The bill's opponents include Republican Richard Shelby of Alabama, who heads the Senate Banking Committee, the panel with jurisdiction over the measure.

Noting Shelby's repeated opposition, many observers give the Senate little chance of passing Enzi's bill. But that doesn't mean that the game is over. The tech industry, which vehemently opposes stock-options expensing, is lobbying fiercely to turn the House measure into law. Election-year politics may well boost the industry's lobbying power, some analysts say.

"I think that anyone that thinks the Senate rejecting the Enzi bill is a slam dunk is a fool," said Lynn Turner, the former chief accountant of the Securities and Exchange Commission and now head of research at proxy adviser Glass Lewis. "I think this is going turn into open warfare now."

The bill passed by the House and the one under consideration in the Senate would require companies to expense stock options granted to their four highest-paid executives, plus the CEO. But in calculating that expense, the bills would require companies to assume that the volatility of their stock is zero, essentially wiping out much -- if not all -- of the estimated fair value of the options as calculated by formulas such as Black Scholes.

The bills would further exempt companies with annual revenue below $25 million from having to expense any options. Also getting an exemption from expensing would be companies that have been public less than three years.

The bills would block any attempt by accounting regulators to come out with a new expensing standard until the Labor and Commerce Departments complete a joint study on the economic impact of expensing. Even then, the bills imply that such a standard could only apply to options granted to the five highest-paid executives. The bills also would allow companies to reassess the value of their outstanding options each quarter, allowing them to deduct from their quarter options charge the value of options that have been canceled or have expired unexercised.

Many of these provisions stand in stark contrast with the direction taken by the Financial Accounting Standards Board. FASB's proposed rule on options expensing, which would take effect at the end of this year under its current formulation, doesn't exclude smaller companies or ones that have recently gone public. The proposed rule also would not allow companies to adjust their options expenses based on cancellations.

Meanwhile, the bills run counter to the Sarbanes-Oxley law, which established FASB as the nation's independent accounting regulator. By challenging FASB, the bills essentially compromise the organization's independence, say critics. That is one reason many senators, including Shelby, are reluctant to set a precedent by intervening in FASB's rule-making process.

If the Senate intervened now to block stock-options expensing, "where does it end?" wondered Kim Wallace, a political analyst for Lehman Brothers. He noted that many industries and companies beyond options-obsessed Silicon Valley would like to have an exception to one accounting rule or another.

Greater than Zero

The Senate version of the bill has 23 co-sponsors, according to Coy Knobel, a spokesman for Enzi. Enzi has promised to try to use the passage of the House bill to persuade fellow senators to support his parallel measure.

Turner and other analysts think he's got a shot. Some senators sought to include a provision that would encourage companies to expense options into the landmark Sarbanes-Oxley act in 2002, he noted. But with control of the Senate at stake, then-majority leader Tom Daschle blocked the provision -- reportedly after getting a call from John Doerr, a partner with Silicon Valley venture capital firm Kleiner Perkins Caufield & Byers.

With control of the Senate again up in the air this fall, it won't be any surprise if the tech community tries to throw around its political and monetary weight, Turner said.

"If the tech leaders say they're going to cut off the spigot if Democrats don't help out -- what's Daschle going to do, especially when Daschle's in a tight race himself?" Turner said. "Whether you like it or not, those votes are bought and sold."

Part of the problem advocates of expensing face is that unlike the antiexpensing side, the pro-expensing movement has little money or organization behind it, Turner said. Former SEC Chairman Arthur Levitt has advocated the creation of a group that would represent the 90 million Americans that invest in the market, he noted.

"Until that happens, investors will lose almost every single time in D.C.," Tuner said.

Enzi's bill has just a 20% chance of passing right now, Turner estimated. But those odds will improve as the election gets closer, especially if one of the presidential candidates opens up a sizable lead and people start to focus more on the race to control the Senate, he said.

"If control of the Senate gets close, that percent could get up to 50-50," Turner said.

To be sure, Enzi's measure still faces an uphill battle.

Typically, bills in the Senate have to be passed by a committee to be considered by the full house. Shelby's stance against Enzi's bill makes it extremely unlikely that his committee will pass the bill, political analysts say. Knobel declined to say how many votes Enzi has lined up in the Senate behind the measure or what kind of strategy Enzi might take to circumvent Shelby's opposition.

But analysts speculate Enzi might attempt to attach the bill as a rider or amendment to another bill being considered on the Senate floor.

That route is politically dangerous, though. Even though they might support Enzi's bill, many senators might be unwilling to circumvent a committee chairman.

"I think that will be the first area of attack" for Enzi and his allies, said one Senate staff member, who requested anonymity. But "a lot of folks will be leery of that approach," he conceded.

Then there's the political factor. Voting for Enzi's bill could be a double-edged sword. While it might bring with it cash and the backing of the tech industry, political opponents also might be able use the senators' support for the Enzi bill as a weapon against them, warned the staffer, whose senator opposes Enzi's measure.

"If someone is running in a tight race, voting for the Enzi bill could be the worst thing they could do," the staffer said. "They would show themselves to be beholden to corporate interests."

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