BUSINESSWEEK/JULY 15, 2002
An Overdose of Options
Depressed stock prices are prompting companies to issue more options than ever
Stock options were supposed to be the great motivator, letting top management reap a share of the gains they produced for shareholders. They certainly enriched smart execs who cashed them in before the stock market tanked. But investors are getting poorer, not richer, as company after company shatters on the rocks of executive fraud, greed, and incompetence.
Worse may be yet to come. Companies are still issuing options at a furious clip. In fact, 200 of the largest companies are handing them out in amounts approaching 3% of their outstanding shares every year, more than double the pace of a decade ago. The grant rate is headed yet higher as companies try to compensate executives for the lost value of options they received before stock prices fell. Moreover, with shares down sharply, the standard models used to price options show that companies will have to issue more of them to give executives the same dollar value each year.
Though the 3% annual average of option grants may look like peanuts, it could become a large and permanent drag on future share prices. In fact, if the market returns to its historical rate of return of about 10% a year, options will siphon off nearly one-third of company profits by the time they expire in 10 years. Investors will have their pockets picked either by having earnings per share watered down by the additional stock or by corporate spending on share buybacks to control dilution.
With a big transfer of wealth to management on the horizon, a shareholder backlash is gathering force. Institutional investors have declared war on runaway option grants and the outsize goodies they bestow on corporate insiders. "The trend is really bad," says Patrick McGurn, director of corporate programs at Institutional Shareholder Services, a proxy-vote advisory firm. It comes when many money managers are bracing for a long period of investment returns well below the 18%-plus levels of the 1990s. Says Lisa Rapuano, a mutual-fund manager at Legg Mason Inc., "There is a smaller pie, and executives continue to ask for more of it. We have to work on making their share smaller."
(There's more for members at http://www.businessweek.com/@@P3tFTWYQR5WywAsA/premium/content/02_28/b3791100.htm?se=1)
Jim Devine [EMAIL PROTECTED] & http://bellarmine.lmu.edu/~jdevine
