Volume 12, Nos. 6 & 7


The Pendulum Swings Again:  2002 Option Compensation  The most hackneyed accounting subject in the financial press is stock option compensation and the limitless debate over the proper treatment for it. It's no wonder the topic became so over-exposed, though: the option compensation pendulum arced almost forever in one direction while the tech/telecom-industry miracles of the 1990's unfolded. In the 2000's many of those miracle firms simply folded, and no great intellectual leap is required to make the connection between option compensation and reckless managerial behavior. Alignment with shareholders provided the alibi. For the first time since the option footnote information has been made available in 1996, the pendulum has started to swing in the opposite direction. Perhaps due to the bad publicity generated by Enron and its fellow scoundrels in the Class of ˜02, compensation denominated in options wasn't awarded nearly as frequently in 2002. Another push on the pendulum: in 2001, only two companies treated stock option compensation as a legitimate expense in earnings; now, ninety-three companies plan to do the same. Until everyone accounts for similar transactions in similar fashion, however, 95 out of 500 just won't do. This report unifies the stock option accounting for the S&P 500, and presents trends in the way stock options are being handled by companies in the post-Enron era. One prediction: 2003 will see the first decline in stock option compensation expense. I. A Turning Tide - For Now Year after year, for as long as the footnote information provided by FASB Statement No. 123 has been around, companies have been routinely chosen to report earnings without recording the effects of option compensation. Only two companies in the S&P 500 - Boeing and Winn-Dixie - voluntarily chose to record the expense of compensation paid in stock options. The routine has been broken in 2002: since Coca-Cola's blockbuster July announcement that it would elect expense recognition, throngs of companies joined the bandwagon. Including Coke, ninety-three of the companies are in the S&P 500. Copyright 2003, R.G. Associates, Inc. The Analyst's Accounting Observer is a trademark of R.G. Associates, Inc. For purposes of clients of R.G. Associates, Inc. only. Reproduction prohib ited without permission. See note on back page.

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