Lieberman: Stop Abuse of Stock Options

WASHINGTON – Governmental Affairs Committee Ranking Member Joe Lieberman, D-Conn., Tuesday delivered the following statement at a hearing on the expensing of stock options before the Subcommittee on Financial Management, the Budget, and International Security:

Thank you, Mr. Chairman, for holding this discussion of a serious and, I believe, seriously misunderstood problem, the abuse of stock options. For much of the past decade, stock options have been the subject of an intense debate, which heated up again after the collapse of Enron and the succeeding wave of corporate crime. Many people believe that the silver bullet to stop this corporate crime is to change the accounting rules for stock options. Force companies to count stock options as expenses when they are granted, they say, and the scams will stop. I wish it were that easy. The reality is that changing the accounting rules won’t change the scandalous behavior of some corporate executives who have ripped off investors and employees. But it deny access to options to average workers who have done nothing wrong – and in the process put the brakes on the revolutionary democratization of capital in this country that has occurred over the past decade. Our goal should be to stop the abuse of stock options, not the granting of stock options. They are an innovative tool that has helped expand the winner’s circle for millions of Americans and improve the productivity of our economy. Which is to say, we must not throw the options baby out with the corporate corruption bathwater. I believe the way to do that is to reform the way stock options are distributed, and to ultimately widen access to them instead of restricting it. My views on this go back more than a decade, to 1993, when the Financial Accounting Standards Board first floated a plan to require stock options to be treated as an expense against earnings on profit-and-loss statements at the time they are granted. I and many others opposed this rule change for two reasons. First, we believed it was bad accounting, and second, we were concerned that it would significantly deter the kind of entrepreneurialship that grows our economy and expands the middle class. In fact, 88 other members of the Senate went on record to urge the rejection of this proposal. Why? Because we were never convinced that there is an accurate way to value an option on the day it is granted. There’s no question that stock options are a form of compensation, but the compensation occurs when the options are exercised, not when they are granted. Options that go “underwater” — when the stock price drops — never become compensation because the options are worthless. We only know if options are compensation when they are exercised and only then do we know how much compensation has been received. Any time before that, we would just be guessing how much the market would value the options on the day before they are counted. I wonder if the champions of expensing can point to a single case where a company’s disclosure of stock option values and costs at the time of granting — included since 1995 in footnotes to the company’s P&L statement — proved to be accurate. The Enron footnotes estimated stock option costs that proved to be wildly inflated and inaccurate because they did not anticipate the collapse in Enron’s stock price What’s more, we were convinced that mandatory expensing of stock options would inhibit their use, and that would hurt our economy and a lot of workers who would otherwise receive options. Experience has proven that options are an effective mechanism for attracting talent, spurring productivity, and spreading wealth because they give employees a direct stake in their companies. And business leaders, particularly from the high-tech community, made clear that they would issue fewer options if they had to subtract their estimated value from their profits. Much has changed since the original FASB stock option accounting plan in the early ‘90s. But the problems with FASB’s approach have not. Requiring firms to predict the value of options at the time of granting is still bad accounting. And it would still have damaging repercussions on our economy, thousands of businesses, and millions of workers. To be specific, it would significantly reduce earnings for many companies with option plans, which in turn would reduce the value of their stock in particular and, perhaps, the market in general, meaning businesses would almost certainly decide to grant fewer options. In all likelihood, the first to be cut out would not be the top executives but middle-class workers — millions of whom, thanks to options, have seen their wealth grow over the last decade. And companies thinking about starting broad-based option plans would quickly drop the idea. That is the last thing we need now, with the average income of working Americans dropping. Just 12 years ago only one million Americans owned stock options. Today more than 14 million people now hold options. And a growing number of diverse companies – like Staples, Intel, Wells Fargo, and the Vermont Teddy Bear Company — offer broad-based plans that distribute most options to rank-and-file workers, not senior executives. But too high a percentage of options are still awarded to high-level executives. The National Center for Employee Ownership estimates that “while the growth of broad-based options has been an important economic trend, our data nonetheless indicate that even in plans that do share options widely, executives still get an average of 65% to 70% of the total options granted.” That’s unfair. This skewed distribution, not the accounting, is the root of the problem. Some executives, loaded up with tens of thousands of options, have engaged in deceitful accounting tricks to jack up earnings and their share price, cash in at the right time, and then leave the company. To counter these abuses, I have introduced a tough stock option reform proposal that is targeted directly at this problem. The purpose of my legislation is to mend, not end, stock option distribution. First, my proposal will prohibit a company from deducting the cost of options when exercised if it does not offer the majority of them to rank-and-file workers, those who make less than $90,000 a year and are not among the firm’s top 20 percent of highest-paid employees. Second, it would set up a mandatory holding period for stock option grants and block top executives from selling their shares while they are still employed by the company. And third, it would require all stock option plans to be approved by a majority of shareholders – guaranteeing much greater accountability and transparency. I offer this as a far tougher, more sweeping, and ultimately more effective response to stock option abuse and its consequences. Rather than retard the revolutionary democratization of capitalism, it will help accelerate it – by putting more options and more wealth in the hands of more working Americans. That is a solution we can all count on and account for.