http://www.austin360.com/statesman/editions/sunday/business_1.html Once, the tech industry was a lobbying lightweight in Washington. Then Congress tried to attack stock options -- and high-tech learned how to be a force to be reckoned with on Capitol Hill. By Marilyn Geewax
WASHINGTON BUREAU Sunday, December 15, 2002 WASHINGTON -- Of all the bills inspired by the collapse of Enron Corp., none alarmed the tech industry more than one aimed at changing the way companies account for stock options. Options -- the right to buy or sell stock at a set price at a future date -- were the lifeblood of the tech industry, its representatives claimed. They were the only way that young companies short on cash could attract the talent they needed. At established companies, they were a ticket to wealth for many employees, and thus a powerful incentive in retaining talent. For the tech industry, options were sacred, all the more so because companies don't have to count them as a cost of doing business and can take big tax deductions when employees exercise them. Having to report them the same way as other expenses would substantially erode profits. The prospect that options could be a victim of the post-Enron corporate reform fervor was a wake-up call for an industry that has only recently learned how to advance its agenda in Washington. This time, the tech industry organized itself as never before and made sure that the options legislation never got out of a Senate subcommittee. The industry may have won the battle but ultimately will lose the war. Dozens of major corporations have chosen to follow reformers' advice and treat options like any other business expense. The Securities and Exchange Commission voted last week to require companies to let shareholders vote on whether companies must treat options as a business expense. And overseas, accounting regulators are developing rules to force global companies to list options as an expense. Together with the trends at home, that could make the expensing of options nearly universal in the future. In the end, the real significance of the Great Options Battle of 2002 may be that the tech industry established its clout on Capitol Hill, building a coalition and honing methods it can use again when a new Congress takes on other issues important to the industry. How the tech industry, despite its financial meltdown, had the political muscle to make Congress back down on options reform is a story of persistence, skill and, of course, money. Options in spotlight Corporate reformers have targeted options before, without success. They said Enron was a new and compelling Exhibit A for their case, noting that the company had managed to avoid paying any taxes for four years, thanks to options deductions. Meanwhile, chairman and chief executive Kenneth Lay realized $123.4 million from exercising options in 2000, the year before Enron imploded. When Congress convened in January, the spotlight was on how accountants, stock analysts, directors and regulators had failed on Enron. But corporate reformers said that the core problem was Enron's lavish stock-options program. Throughout the 1990s, options had been "turning companies into Ponzi schemes," encouraging executives at Enron and other companies to inflate earnings just long enough to allow them to cash out, said Sarah Teslik, executive director of the Council of Institutional Investors, which represents large pension funds. Other powerful voices took up the cause, including Federal Reserve Chairman Alan Greenspan and legendary investor Warren Buffett, who asked: "If options aren't a form of compensation, what are they? If compensation isn't an expense, what is it? And if expenses shouldn't go into calculations of earnings, where in the world should they go?" On Feb. 13, the reformers were delighted when two powerful senators, Carl Levin, D-Mich, and John McCain, R-Ariz., introduced the "Ending the Double Standard for Stock Options Act." The bill said companies had to pay a price for granting options by declaring them as a business expense on their balance sheets if they also claimed them as a business tax deduction. That same day, the tech industry geared up for a fight. The "Levin-McCain bill is an attempt to fix something that ain't broke," said William Archey, president and CEO of AeA, the former American Electronics Association, which would organize the lobby war. "The current rules governing accounting and tax treatment of stock options are transparent and consistent, and require no additional complications." Fighting the bill John Palafoutas, an AeA lobbyist, became the commander in the battle against the bill, coordinating the efforts of dozens of other business groups and companies. For starters, Palafoutas arranged meetings with every member of the Senate Finance Committee, where the bill had been sent, or their top staffers. But it wasn't just AeA lobbyists who showed up at the congressional offices; it was also lobbyists from Intel Corp., Microsoft Corp. and Hewlett-Packard Co. and other tech giants that had Washington offices. "It's basically a show of force," he said at the time. "We're trying to keep senators from getting on the bill as a co-sponsor. We want to tell them that a vote for this is going to be reacted to negatively by us." On March 6, TechNet, a network of 300 top tech executives, sent reinforcements when a delegation of about 40 members came to Washington. The group included men who had made fortunes from stock options, such as Jim Barksdale, former chief executive of Netscape Communications Corp., and John Doerr, a legendary venture capitalist from Silicon Valley. >From Austin, the list included Tom Hogan, CEO of Vignette Corp., and entrepreneur Steve Papermaster. Dell Computer Corp. is a staunch opponent of expensing options but wasn't part of the AeA effort. The company made its views known through another group, Financial Executives International, spokesperson Cathie Hargett said. TechNet was granted face-to-face meetings with Commerce Secretary Don Evans and other Cabinet members and congressional leaders such as Sens. Joseph Liebermann, D-Conn., and Max Baucus, D-Mont., who chaired the Senate Finance Committee. Evans himself had netted $8.2 million by exercising options when he left Denver-based Tom Brown Inc. in 2001 to join the administration. In a March interview, Evans said, "I know how important stock options are as a tool to building companies that are a big part of this American dream." Meanwhile, Doerr wrote an oped piece in The Washington Post, saying that options were "an innocent bystander" in the Enron mess. The Bush administration hadn't yet taken a position on the legislation. But in early April, the president told the The Wall Street Journal that he opposed forcing companies to count stock options as expenses. Jennifer Bonar, a lawyer and staffer for Sen. Peter Fitzgerald, R-Ill., was on the other side of the lobbying blitz. Her boss had co-sponsored the Levin-McCain bill because he thought Enron executives "were willing to do all of this crazy stuff" with the books because they were obsessed with "pumping up the stock really quickly," she said. But Bonar knew that reform advocates were not organized and focused like the tech lobbyists were. "There isn't a strong community" of individual investors demanding change, she said. "It's right versus might." Still, Levin thought his bill had a chance. "Sooner or later, I assume the Finance Committee will hold a hearing," he said in an interview. If not, "then obviously, we would have to, at some point, offer it on the floor without the benefit of a hearing." Stalling in committee On April 18, Levin got a chance to testify at a Finance Committee hearing on executive compensation. Enron was all about "gaming the system," he said, and options were at the heart of the scandal. But neither he nor McCain could get the committee to mark up the bill for a vote. In fact, neither Republican nor Democratic leaders were eager to push the issue. With the election season looming, lawmakers knew that corporate donors would not appreciate their meddling in compensation practices. And the tech industry, once weak in terms of political donations, had become a force. The computer and Internet industries increased their campaign contributions to federal candidates and political parties tenfold to more than $40 million between the 1994 and 2000 election cycles, according to the Center for Responsive Politics, which monitors campaign donations. Votes as well as money were a factor. Republicans generally are seen as having a close relationship with business, but many tech executives and workers in areas such as Northern California and the Boston area often support Democrats. Leaders of the Democratic Party were well aware that those supporters might abandon them if they led the crackdown on options. In addition, the reform fervor seemed to be subsiding. In May, Senate Banking Committee Chairman Paul Sarbanes, D-Md., decided not to take a vote in his own committee on his accounting reform bill for fear it would fail. As Congress left for the Memorial Day break, opponents of the Levin-McCain bill seemed to have little reason to worry. In June, tech lobbyists were still sending reporters backgrounders on options to help keep up the pressure, but privately they were confident that the legislation was all but dead. Failing again Then suddenly, the corporate corruption story burst into the headlines again. New scandals such as WorldCom Inc. and Global Crossing Ltd. added new fuel to the reform fire. Sarbanes' accounting reform bill suddenly jumped onto a very fast track, and tech lobbyists were scrambling again -- this time to keep options legislation from hitching a ride. Venture capitalist Doerr telephoned Senate Majority Leader Tom Daschle of South Dakota to make sure the Democratic leadership was not becoming sympathetic to Levin's bill. In July, Levin tried to attach an options amendment to Sarbanes' bill. But aware of the opposition's strength, he toned down his approach. The amendment called only for the new accounting oversight board to review how options were treated. Levin thought that was enough: If an impartial board were to review options, it would conclude that they should be counted as expenses. Using procedural tactics, though, Republicans blocked a vote on the Levin amendment three times. Congress passed the Sarbanes bill on July 25, and Bush signed it five days later -- unblemished by any options amendment. Any last hopes that Congress would act were lost as debates over homeland security and a looming war with Iraq overwhelmed any enthusiasm for corporate reform. Congress adjourned without having taken a single vote on stock options reform. And the tech industry could celebrate its new status as a power player in Washington. The tech lobby now has "the maturity and sophistication" to get heard, said Jeffrey Peck, head of the International Employee Stock Options Coalition, a group of trade associations and companies. "We really devoted a lot of time and attention to this issue," he said, and now, "we feel good about it." Change after all? But the status quo on options may not last much longer. New pressure is coming from pension funds, unions and other large shareholders. Last week, the SEC said shareholders are entitled to vote on expensing options, a ruling that gave heart to reformers. Already, dozens of companies have said they will start expensing options, including giants such as Coca-Cola Co. Tech companies mostly are holdouts, although Siebel Systems Inc., the software company, and Yahoo Inc. have severely cut options grants this year. Last week, 33 tech companies, including Cisco Systems Inc. and Intel Corp., said they would start providing more information on options costs in their quarterly reports, instead of just once a year. Notably absent from the list was Dell Computer. Last month, 400 human resources managers in Silicon Valley met to confront overhauling options, which would be a sea-change in how tech companies attract and reward employees. There is action on other fronts. The International Accounting Standards Board declared last month that options should be counted as expenses. In the United States, the Financial Accounting Standards Board has indicated that it would adopt a similar rule in 2004. Conrad Ciccotello, a Georgia State University professor who studies options, predicts that even if the accounting rules don't change, options will never again be used so liberally. "During the bull market, companies lost the sense that options were real costs," he said. With stock prices down, investors and directors are taking a much more sober view of options, he said. "Going forward, there will continue to be options compensation, but it will be much smaller in scope," he said. "We're not going to see these giant packages of options -- giving millions of shares to certain executives." [EMAIL PROTECTED] How the high-tech industry became a player in Washington Max Baucus: Senate Finance Committee chairman was among the legislators who, on March 6, met with top tech executives opposed to counting stock options as expenses. Carl Levin: The Democratic senator from Michigan introduced the `Ending the Double Standard for Stock Options Act' with Sen. John McCain, R-Ariz., on Feb. 13. Jim Barksdale: Former Netscape chief was among those who met with lawmakers March 6. John Doerr: Venture capitalist met with Cabinet officials to defend options status quo. Don Evans:Commerce secretary made $8.2 million on options when he left Tom Brown Inc. Tom Daschle: Senate majority whip promised vote on options reform, but it didn't happen. Feb. 13 -- Sens. Carl Levin, D-Mich., and John McCain, R-Ariz., introduce a bill to change rules for tax deductions for options. Tech-industry lobbyists immediately begin a campaign to stop the bill. March 6 -- TechNet, a lobbying network of top tech executives, sends about 40 members to Washington to meet with lawmakers. April 18 -- Senate Finance Committee holds a hearing on executive compensation and allows Levin to testify on options. May 8 -- Senate Banking Chairman Paul Sarbanes, D-Md., unveils his proposal to reform accounting practices. May 23 -- Congress adjourns for Memorial Day break without having taken any committee votes on accounting or options reform. June 25 -- WorldCom Inc., a telecommunications giant, admits it had falsely inflated profits by billions, reigniting corporate corruption rhetoric in Congress. July 25 -- Congress passes Sarbanes' bill to reform accounting, but bats away attempts to attach options-reform amendment. Aug. 1 -- Senate begins August break, but Majority Leader Tom Daschle, D-S.D., promises a vote on options reform in the fall. Oct. 17 -- With elections looming, Senate leaves town without voting on any corporate reform bills involving options, pensions or tax havens. Nov. 12 -- Senate returns to Washington just long enough to wrap up the homeland security bill. Nov. 20 -- The Senate adjourns, having taken no votes on any options reform bills or amendments.
