Industry Cool to Abandoning Stock Options

During the late 1990s, Microsoft’s stock (and nearly all other technology firms) cruised on a nearly vertical trajectory.

Along with investors, employees of the Redmond, Wash., software giant reaped the benefits, amassing options to buy shares, watching the price double or triple until they were vested, then cashing out.

The dependable cycle of wealth, which by some estimates made millionaires of 1,000 Microsoft employees since its 1986 IPO, hit its zenith during the
tech bubble years, helped by a technology market filled with hubris,
unrealistic earnings expectations and blithe disregard for investing

The ride ended abruptly with the tech downturn of early 2001 that followed the tech sell-off of 2000. The dive punished even solid companies.

In the aftermath, workers at Microsoft (and nearly all other technology firms) were left with reams of options exercisable at prices higher than the stock was currently trading, or, in investing jargon, underwater. Dreams of paying off school loans, putting down payments on houses and sending kids to top-notch colleges evaporated.

The workers’ resultant “angst” over this hole in their compensation package was an unnecessary distraction, Microsoft CEO Steve Ballmer said. The desire to keep employees focused on developing code rather than fretting about underwater options, prompted Microsoft to act. Beginning later this year, the company will begin awarding shares outright to employees rather than the option to by shares at a set price in the future.

As surely as the move triggered discussions in the dining rooms of more than 50,000 Microsoft employees, corporate boardrooms from Cupertino to Cambridge are also abuzz.

In the wake of Microsoft’s decision, technology leaders are asking
themselves: What would this do for employee motivation? Could it help us attract new talent and prevent defections to competitors? What are the accounting and tax implications? Would it dilute the stock’s value by flooding the market?

Analysts applauded Microsoft’s move, saying it’s a sign of the company’s maturity that could portend a period of sustained growth.

“(This is) a very big longterm positive,” said Brian Skiba of Deutsche Bank Securities in New York. “(A) restricted share program provides a better balance of risk and reward for shareholders and employees, better clarity on expenses.”

At the same time, the accounting ramifications are not insignificant. Microsoft will record stock awards (as well as previous stock option grants) as a cost, potentially lopping billions off its books reaching back several years.

Regulators, as well as some large investors, are pushing for the change in option accounting and seem to be gaining momentum as the public calls for easier-to-reach financial statements. So looming accounting changes may have also prodded Microsoft to act now.

These efforts have met resistance from IT heavyweights, including chip maker Intel, which is on record as saying it won’t follow Microsoft.

Meanwhile, other prominent companies, not wanting to anger employees, investors or accounting reformers, are being cautious. IBM declined comment. Cisco and Hewlett-Packard did not immediately return requests for interviews.

“Most of the others are in denial,” DB’s Skiba said.

In a statement, Sun Microsystems said it’s “unclear whether Microsoft’s decision will work for the technology sector as a whole.”

For its part, Sun “remains committed to broad-based stock option plans; to ensuring that rank-and-file workers benefit from those plans; and to accurate and transparent accounting.”

It added that companies should be allowed to decide what stock systems work best for their employees and shareholders.

Ballmer acknowledged that other companies would watch Microsoft’s move closely, but, perhaps in an effort to assuage business partners, added that there is no “one-size-fits-all” approach to the issue.

Given the fact that most large companies are just starting to see an uptick in their business after two tough years, it’s unlikely any will rush to embrace a system that will hold back improving balance sheets any longer.

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