WASHINGTON (Aug. 19, 10:30 a.m. EDT) — If Newell Rubbermaid had been required to treat employee stock options as an expense against earnings — as a few companies are doing and Alan Greenspan would like more to do — its profit last year would have fallen from $264.6 million to $249.1 million, a drop of almost 6 percent.
Other publicly traded plastics processors would have fared worse — Tredegar Corp., for example, would have seen net profit drop 28 percent, to $5.9 million, and AEP Industries would have seen its losses rise 23 percent. But others, such as Sealed Air Corp., Bemis Co. Inc., and Decoma International Inc., barely would have noticed a difference.
Expensing options is gaining favor with investors who have been jolted by examples of shady bookkeeping, and who want a clearer picture of corporate finances.
In response to that drumbeat, Tupperware Corp. said Aug. 6 that it plans to start expensing options beginning in 2003. But the company said it wants more help from regulators in valuing the options. If Tupperware had expensed options last year, it would have cut profit almost 11 percent.
The housewares molder joins General Electric Co. and Coca-Cola Co., among a minority of other companies. There is some pressure from accounting groups, too. The International Accounting Standards Board may require companies to expense options, and its North American counterpart, the Financial Accounting Standards Board, said it may take another look at the concept.
But the idea has generated opposition in the business community, particularly among tech companies, and in Congress. Some argue options are not traditional costs, and they worry that expensing them will hurt cash-poor firms and have the unintended effect of limiting option compensation among rank-and-file employees.
Generally speaking, it seems the largest plastics processing companies would not be affected as dramatically as most of the rest of corporate America. Smaller plastics firms, however, probably would be hurt quite a bit.
A Plastics News review of the 10 largest companies on its stock chart, for example, found that profits would have dropped an average of 5.5 percent last year if companies expensed stock options.
By comparison, profits last year for information technology firms would have dropped 39 percent and telecom firms 23 percent. The S&P 500, as a whole, would have seen profit drop 21 percent last year, according to an analysis from Merrill Lynch.
A minority of plastics processors, including Sealed Air Corp., agree with those who advocate counting the cost of options against corporate profit.
“We firmly believe that options should be expensed,” said spokesman Philip Cook. “Ultimately they are an expense to the shareholders when they are exercised. It makes sense when you have an obligation in the future, you should reflect that in your income statements.”
For years Sealed Air has not given out stock options and instead relied on stock grants that it must expense, he said. For the company, expensing options would have cut profits minutely, from $206.3 million to $206.2 million.
But other plastics companies, particularly smaller, entrepreneurial firms that are cash-poor, suggest that expensing stock options would cut profit sharply.
“We've always been short on cash,” said Kent Stanger, chief financial officer with Merit Medical Systems Inc. in South Jordan, Utah. “We've grown it by our blood, sweat and tears, just reinvesting our cash and borrowing from banks.
“During those periods of growth and risk and trying to build a business from zero to over $100 million, some of our critical strategy to build it was stock options,” he said.
The company sometimes gave out stock options when it could not afford raises, and considers them a key part of how it motivates employees, he said. About 280 of its 1,070 employees have stock options.
If Merit had to expense those options, profit last year would have dropped from $6.7 million to $5.4 million. In 2000, profit would have gone from $826,000 to $140,000, and in 1999, from $3.2 million to $2.5 million.
Stanger accepts the argument that options dilute stock of existing shareholders, but he argues that if they are applied effectively, any value lost in dilution is more than paid back in increased value of the stock.
But advocates for expensing options say it would give a truer picture of a company's profitability, even if it does make the bottom line look less attractive.
“Doesn't the investor want greater transparency and fuller disclosure?” said Sheryl Thompson, spokeswoman for FASB, the corporate bookkeeping-standards-setting group in Norwalk, Conn.
A more accurate picture of the bottom line would help investors make better decisions about where to put their money, Federal Reserve Chairman Alan Greenspan told a financial conference in May.
“If investors were dissuaded by lower reported earnings as a result of expensing, it means only that they were less informed than they should have been,” he said. “At least some of the unsustainable euphoria that surrounded dot-com investing at its peak may have been exacerbated by questionable reported earnings.”
Jim Pierson, director of compensation and benefits at Hexcel Corp., said the issue is not simple.
Stamford, Conn.-based Hexcel has not decided how it will deal with expensing options. Pierson said there are serious questions about how to value options, for starters. He also said it is not clear how companies would treat options that are “underwater,” where the option price is more than the market price. FASB's Thompson said companies probably would not be able to adjust profits for options in that situation.
Judith Fischer, managing director of Executive Compensation Advisory Services in Springfield, Va., said expensing options also is a bad idea because it probably will result in fewer options being given to rank-and-file workers, but it probably will not reduce the number of options given to top executives. Most companies interviewed said the issue has not been a big one for shareholders, and several said they are waiting to see what happens before they take action.
Still, the issue is politically charged. When FASB proposed mandating the expensing of options in the mid-1990s, the backlash was so strong from businesses that “FASB's existence was threatened,” said Thompson.
So the group compromised and pushed for the current standard, which just calls for reporting the impact in the annual report. Usually the figures are buried deep in the document.
Thompson said FASB has not decided if it will push again on expensing options, but the group has not changed its viewpoint on the importance of the issue.
“We felt that we had the right answer back in 1995, and we still feel like we have the right answer,” she said.