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Will Bush fight the good fight against Corporate America?

By Wah in Op-Ed
Wed Jul 17, 2002 at 12:06:26 PM EST
Tags: Round Table (all tags)
Round Table

CorporateMofo is carrying this juvenile dissection of George W. Bush's speech on Wall Street from last week.  The speech highlights the planned hand-waving that is meant to take attention away from the irony of the situation, a corporate backed politician asking, nay, begging his buddies to play nice.   Do as I say not as I did, indeed.

While this article is focused on the current crisis in the U.S. economy, I'd like to remind our international readers that it's the biggest one in the world and will likely effect you in one way or another.


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Our good friend and monetary confidant Alan Greenspan says things look good, well, better, for the U.S. economy.  

"The effects of the recent difficulties will linger for a bit longer but as they wear off, and absent significant further adverse shocks, the U.S. economy is poised to resume a pattern of sustainable growth," Greenspan told the Senate Banking Committee.

One big shock that's still waiting in the wings is the "stock options are not not expenses" silliness.  This has received some attention as of late when Warren Buffet, money-maker extraordinaire, convinced Coca-Cola to act like giving money to executives was really giving money to executives. (NYT coverage, reg. req.)  What this means to bottom lines is in the second paragraph of that NYT article.

That move, which will lower Coke's reported profits, is permitted but not required by accounting rules, largely because of intense lobbying by corporations when the rules were adopted in 1994.

This lobbying was very successful.

In 1994, the Financial Accounting Standards Board, which sets accounting standards in America, retreated from its proposed rule to require options to be expenses. It reacted to heavy political pressure directed by Senator Joseph I. Lieberman, Democrat of Connecticut, who had pushed through the Senate a resolution opposing the plan on a vote of 88-9. He then proposed legislation to all but put the board out of business, but dropped that proposal after the board backed down.

While some folks are now making noises about revisiting the issue in Congress, Greenspan doesn't agree and thinks it should be a voluntary statement.  While I have a great deal of respect for the man, personally I lean toward the idea that all corporations should follow the same rules and report earnings on the same scale.  And that's not just because this would expose many tech companies for the pyramids they've become.  It's about being honest, and even our corporate citizens who live above the law should be held to the same standard.

So what are the chances that George "Tough on Corporations" Bush would push to make such a change?  Hahahahaha, some questions just answer themselves.

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Related Links
o carrying this juvenile dissection
o as I did
o biggest one in the world
o Alan Greenspan says things look good
o convinced Coca-Cola to act like giving money to executives was really giving money to executives.
o NYT coverage
o pyramids they've become.
o Hahahahaha , some questions just answer themselves.
o Also by Wah


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Will Bush fight the good fight against Corporate America? | 53 comments (42 topical, 11 editorial, 0 hidden)
The good fight? (3.55 / 9) (#1)
by TunkeyMicket on Tue Jul 16, 2002 at 05:34:31 PM EST

All we need to do is enforce the current laws in a strict manner.  Adding more laws we won't enforce doesn't solve the problem, it only adds to the problem.
--
Chris "TunkeyMicket" Watford
Then... (2.50 / 2) (#8)
by Wah on Tue Jul 16, 2002 at 06:04:04 PM EST

All we need to do is enforce the current laws in a strict manner.  

That would be the good fight, eh?  Do you think Bush will do it?  As should be fairly evident by my blathering, I don't think he will.
--
Where'd you get your information from, huh?
[ Parent ]

Hehe (3.00 / 4) (#17)
by TunkeyMicket on Tue Jul 16, 2002 at 07:24:22 PM EST

Maybe you forgot its not just the President's job but also Congress's job to put the bills in to play and its also the job of the Judicial System to rule on the laws. Conveniently blaming things on the President is only a way to make your favored political party look better.
--
Chris "TunkeyMicket" Watford
[ Parent ]
True dat. (3.80 / 5) (#20)
by Wah on Tue Jul 16, 2002 at 08:43:42 PM EST

I am vaguely familar with the workings of our Republic.   I realize there is more than one person responsible for dang near everything that happens in the gubmint.  

Conveniently blaming things on the President is only a way to make your favored political party look better.

I'm really only trying to make the current President look bad, to be honest.  I'd rather he wasn't (s)elected again.  I don't have that much love for the Democrats around here either (if you'll notice the political affiliation of the other politician mentioned in the article).  

Regardless, I was hoping to stir some discussion about this latest general issue of corporate accounting, and the topic of stock options as expenses specifically.  That seems to be working, so I'm smiling.  See...:)
--
Where'd you get your information from, huh?
[ Parent ]

Hmm... Why I vote -1: To much propaganda. (none / 0) (#27)
by snowlion on Wed Jul 17, 2002 at 04:47:36 AM EST

My politics are pretty much anarcho-socialist. I like the IWW. I hate "W".

That said, I'm voting -1 on this story. To be honest, it is too much propaganda for my taste.

It's not propaganda because it's false (it's largely true), but because of how it's arguing. It's an appeal to emotion, it's name-calling, it's all these things that we (well, at least "I") don't like.

You don't have to make W look bad, because he already looks bad enough as it is. To do this right, I think you should explain to us what the president is supposed to do according to the myth of the ideal USA, and then show how he falls short. I think that will have far greater persuasive power, because it will be persuasive from the point of truth, not from the point of trying to move people towards some destination.

To each his own, but these are just my thoughts, and an explanation of why I am voting -1.

--
Map Your Thoughts
[ Parent ]

No problem. (5.00 / 2) (#31)
by Wah on Wed Jul 17, 2002 at 10:17:49 AM EST

That's fine (not that you need my approval).  My only caveat there would be that it is an Op-Ed.  Some folks seems to think this should be MLP, but it's far too opinionated to go there, IMHO.

I think you should explain to us what the president is supposed to do according to the myth of the ideal USA.

That was covered earlier in this particular thread..enforce the laws of the Union.  The unfortunate irony here is that if the laws were enforced strictly back when he was investigated for insider trading, we probably wouldn't be in this situation.  

I did hold back on the Bush-whacking a little bit though.  No mention of Bushisms, abortion, or pretzels.  Frankly, if it wasn't for 9/11, he would be a laughing stock.
--
Where'd you get your information from, huh?
[ Parent ]

The majority of enforcement (4.00 / 3) (#23)
by losthalo on Tue Jul 16, 2002 at 09:41:54 PM EST

falls under the Executive Branch, and thus is the President's responsibility.  Congress doesn't investigate very much, and the Judiciary is rightfully not involved in investigation.

Thus, if Bush doesn't get his ducks in a row on this (or allows others to avoid getting the ducks in a row) it won't be dealt with.  Congress doesn't enforce laws, it creates and amends them.  Congress did its part, and the Judiciary is waiting to do theirs.

Losthalo
"Equal and exact justice to all men of whatever state or persuasion religious or
 political"

[ Parent ]

The judiciary enforces the law? (4.50 / 2) (#25)
by wji on Wed Jul 17, 2002 at 02:39:21 AM EST

I have images of Scalia whacking a black kid against a cop car in Inglewood.

Listen, you doofus. Federal law enforcement -- the only kind that can even try to go after major corporations -- is the responsibilty of the Executive Branch through the DoJ and other cabinet ministries (for the Secret Service, INS, etc etc) soon to include "Homeland Security". One of the most useful ways to exculpate corporate criminals is to quietly notify them that Bill 123 will be interpreted as meaning the opposite of what it means. The worst offender I know of here is the Reagan administration, which decided not to enforce important labour laws, surely resulting in thousands of deaths and apalling strife. Maybe they were too busy safeguarding the population from (unprofitable) drugs.

This is K5, not CNN. Expect to be called on bullshit like this.

In conclusion, the Powerpuff Girls are a reactionary, pseudo-feminist enterprise.
[ Parent ]

Well (none / 0) (#42)
by TunkeyMicket on Wed Jul 17, 2002 at 12:54:52 PM EST

Having never once said the Judicial System enforced the laws I wonder where you got that idea from. I stated that they needed to rule on the laws. You can arrest people until you're blue in the face but if they aren't convicted and sentenced in a court of law then they don't do time. And Congress is just as much funded by big business as the President is, hell half of them worked for big businesses before taking office. Taking the blame away from Congress and the Judicial System and placing it all on the President is about the dumbest thing I've heard.

Convenient scapegoat he's become for Congress eh?
--
Chris "TunkeyMicket" Watford
[ Parent ]
It makes perfect sense. (4.00 / 1) (#49)
by wji on Wed Jul 17, 2002 at 03:17:28 PM EST

You can arrest people until you're blue in the face but if they aren't convicted and sentenced in a court of law then they don't do time.

Tell that to Kevin Mitnick. Not to mention Jose Padilla.

But seriously. The problem isn't that law enforcement has all this great evidence on corporate "wrongdoers" (not to be confused with "evildoers") but can't act on it because of silly laws. They aren't investigating the vast majority of corporate crime in the first place. CEOs aren't exactly flooding pretrial holding cells, you know.

In conclusion, the Powerpuff Girls are a reactionary, pseudo-feminist enterprise.
[ Parent ]

Make up your mind. (4.00 / 1) (#43)
by Weezul on Wed Jul 17, 2002 at 01:14:36 PM EST

Do you want more laws or not?  If you want congress involved, that means you want more laws.  Tchnically, you could ask congress to get out of the way as companies in their home states get taken to task and tehy need to approve the money for the SEC and co., but I don't think that is what you mean since you said bills in your second post.

Anyway, enforcment is the job of the executive branch.  The courts are mearly supposed to interpret the laws, descided guilt, etc.  Still, when companies don't get caught and end up disclosing the problem themselves years later (WorldCom, etc.), it is firmly the responcibility of the executive branch.

You are partially right though, the courts are part of the problem.  Companies can usually cheat people and only have to worry about giving the money back, not about recieving significant punative damages too.

Still, using a civil lawsuit declare that the Enron insiders who acted on their information (Ken Lay) collectivly owe those who got screwed their the lost investments would go a long long way towards fixing the problems.  Its not truely punative, but its enough money that others involved in insider trading would take notice.

"Fascism should more appropriately be called Corporatism because it is a merger of state and corporate power." - Benito Mussolini
[ Parent ]

Not that simple (4.50 / 12) (#6)
by Anatta on Tue Jul 16, 2002 at 05:54:56 PM EST

The stock options issue is an extremely complicated one, and there is no simple "correct" answer. It's easy for Coca Cola to get market-based estimates for the prices of its options; Coke just calls a few investment bankers and asks them to bid on the proposed option. From there, it can get a good estimate by averaging what the bankers are willing to pay. However, Jones Soda, or any other small company, can't just go get a head ibanker from Morgan Stanley on the phone to find out what he would be willing to pay for a Jones Soda option. This may limit the utility of options for small companies, and restrict their power to attract quality management/engineering talent. Forcing all companies to expense options the way Coke has done only serves to strengthen "big" companies while weakening "little" companies, something most K5ers seem to be against.

And the question of whether options should be expensed in principal isn't that easy, either. Many options expire worthless, and therefore the company that issues them pays no money for them. Why on earth should a company expense something it paid no money for? A much more sensible strategy would be a forced disclosure of option activity in the 10-Q when the options are issued, with expenses accrued on the financial statements if the options are actually exercised, on that quarter's 10-Q.

Perhaps you should go study some accounting and finance and consider the issues before you continue your Bush bashing. It's not as simple as you propose, and the remedies aren't all cut and dry.


My Music

+1 (3.00 / 3) (#10)
by tranx on Tue Jul 16, 2002 at 06:22:43 PM EST

You gave me a very good reason to make up my mind about how to vote this...

Perhaps you should go study some accounting and finance and consider the issues before you continue your Bush bashing. It's not as simple as you propose, and the remedies aren't all cut and dry.

Let's keep it at least in the queue a bit longer, maybe if sb else writes more explanatory comments like yours (not kidding) I can stop browsing the web about this and get the info faster... feel free to elaborate on the subject, e.g. I doubt everybody knows what expensed in principal means/implies...


"World War III is a guerrilla information war, with no division between military and civilian participation." -- Marshall McLuhan
[ Parent ]

A question on forced disclosure (3.33 / 3) (#11)
by visigoth on Tue Jul 16, 2002 at 06:26:28 PM EST

As the recipient of a large (for peon employees) block of now worthless options from my former employer on layoff, I agree about the expensing issue: only if exercised, therefore an actual expense for the company. Wouldn't want them leaping on a means of artificially inflating expenses should that need arise (e.g. hiding an obscene profit margin.)

With the forced disclosure of option activity, as you proposed, would this amount to a more accurate reporting of executive compensation? Can options themselves be sold instead of exercised directly? If so, doesn't this further complicate things? (I honestly don't know, that's why I'm asking.)

[ Parent ]

Forced disclosure and sale of options (3.66 / 3) (#19)
by Anatta on Tue Jul 16, 2002 at 08:26:01 PM EST

I don't know if forced disclosure would amount to more accurate reporting of executive compensation, but I think it would be a much better balance of fairness, practicality, and clarity than a complicated expense-the-issuance structure. I don't think disclosure is required now, but I know that a lot of CEOs do announce their options deals. I seem to recall Steve Jobs announcing that he would go back to be the CEO of Apple for compensation of $1/year, XXX amount of options (he announced the amount), and use of a $90m private jet. I also recall Carly Fiornia from HP/Compaq announcing the amount of options she gets. I do not, however, know what the SEC regulations are regarding pre-exercise option disclosure. Some people announce them, and I guess others don't.

As to the sale of options that aren't announced, I don't think execs can sell options to other buyers. Briefly looking at Microsoft, Intel, and Oracle's insider trading SEC statements for the last two years, every option event listed has been "exercised", so I don't think the insiders can sell options the same way a trader can.


My Music
[ Parent ]

I can't agree (4.00 / 1) (#51)
by SomeGuy on Thu Jul 18, 2002 at 12:04:21 AM EST

The purpose of all these accounting statements is to give some idea of the financial situation of the company.

Suppose a business has promised to pay $1 million for something in the future.  That's a future expense -- a liability (right?), and accounting rules handle it easily.

Suppose instead, the company has a contest going.  That contest may pay out $1 million in future, or it may pay out $0.  Evaluating this is trickier.  But you would do something like estimating the chances of a payout, and multiplying by the amount.  Future reports will be adjusted based on whether or not that payoff ever happens.  And if you have multiple, unrelated variable liabilities, on average you'll come close to the estimated total.  Not accounting for it until you actually have to pay or not is pretending this liability doesn't exist, not a good thing.

Options are similar, except that the value can be anywhere from 0 to very large.  So how do you handle this?  Estimate your liability (via some method such as those discussed here).  The healthier the company, the higher the liability; the weaker, the lower.

[ Parent ]

my opinion (4.66 / 3) (#12)
by khallow on Tue Jul 16, 2002 at 06:29:30 PM EST

Stock options may be complicated, but there is a simple answer to how they should be accounted for. Namely, they should be treated as ordinary expenses even if the expenses are hard to calculate. Use the Black-Scholes formula (there are tables for this). You can calculate all the parameters and get a number. Even companies that haven't traded publically yet (ie, about to IPO) can use standard volatility numbers (official guesses) until they actually get a track record on their stock. If for some reason a company cannot account properly for an investment instrument it has, then that company shouldn't own, trade, or sell that kind of investment.


Stating the obvious since 1969.
[ Parent ]

Fair enough, but (4.33 / 3) (#14)
by Anatta on Tue Jul 16, 2002 at 06:52:05 PM EST

Black Scholes is obviously a good way to price options, and getting a present value of an option is fine way of valuing it. But if a company expenses the present value of the option on the 10-Q in the quarter they issue it, and that option ends up expiring worthless, the company will be forced to restate earnings for the 10-Q years ago when they incorrectly expensed the option. I don't see how this strategy is going to make financial statements more transparent. Perhaps if they updated the present value of each outstanding option every 10-K, it might be a little clearer, but it would still be confusing.

As for companies that simply cannot properly account for investment instruments and therefore should not use them, to me this is still an attack on small businesses. Of course small businesses can use Black Scholes to calculate option values, but the same constant restatements of earnings will still be present. And if every company was forced to do what Coca Cola has done, using estimates from ibankers, it seems to me that small businesses would unfairly be screwed out of using options.

I truthfully don't know the answer to the question of how to account for options; I can see reasoned arguments from a bunch of different opinions. I just think that jumping the gun and criticizing Bush over his stance without trying to understand the issues is foolish, and I felt the article went too far too quickly.


My Music
[ Parent ]

Why not do both? (3.66 / 3) (#21)
by goatse on Tue Jul 16, 2002 at 09:06:15 PM EST

Companies can simply give (a) actual earnings, (b) earnings after expencing options and (c) a "projected adjustment to future earnings" based on new issed options.  We would make (b) the official earnings, but investors would know to look at predictions for (a) minus (c) when judging the companies future.  The whole problem with the current system is that it misrepresents the companies future stock price, so I think you need both numbers before people will start to thing more rationally.


[ Parent ]
don't think it is so bad (none / 0) (#45)
by khallow on Wed Jul 17, 2002 at 03:10:07 PM EST

But if a company expenses the present value of the option on the 10-Q in the quarter they issue it, and that option ends up expiring worthless, the company will be forced to restate earnings for the 10-Q years ago when they incorrectly expensed the option.

This isn't a problem. You had a liability that changed in value. Now that I think of it, that's really the proper way to insert options or other such things. It's a liability whose amount can go up or down in the future. You are just seeing a snapshot estimate of the current amount.

As for companies that simply cannot properly account for investment instruments and therefore should not use them, to me this is still an attack on small businesses.

Again, no business should be playing with something that they can't make a proper estimate of on their balance sheet. This is fair even though small businesses may find it much harder to comply. Do you suggest that it is fair for small businesses to purchase risky investments and not account for those on their balance sheet and SEC reports, if large businesses can't do the same? Is it fair to the shareholders of that small business?

Having said this, I don't see a particularly cumbersome problem with valuing stock options. The Black-Scholes formula isn't perfect, but you can plug and chug with the right numbers (or official guesses) to get something reasonable for the books. I consider the OSHA/EPA rules or the hiring/firing rules of the EU (for example) to be far more of a burden for small businesses than accounting for options. Alternately, if one looks at the most aggregious legal accounting abuses of recent years, stock option accounting and goodwill from mergers are the top two. Thus, the proposed stock option accounting is a relatively mild regulation that covers a serious problem.

Stating the obvious since 1969.
[ Parent ]

Bullshit (4.80 / 5) (#26)
by streetlawyer on Wed Jul 17, 2002 at 03:30:08 AM EST

With respect, you should go away and *think* about the accounting you did learn, rather than parroting the tech industry lobbyists' line:

The stock options issue is an extremely complicated one, and there is no simple "correct" answer

Perhaps true, but some answers are worse than others, and "options are a zero cost" is one of the worst.

However, Jones Soda, or any other small company, can't just go get a head ibanker from Morgan Stanley on the phone to find out what he would be willing to pay for a Jones Soda option

Minus points for the pathetic attempt to appear all "inside baseball" by using the term "ibanker", which was considered fucking corny in 1999 and is actively laughable now. It doesn't take a "head ibanker from Morgan Stanley" to give a reasonable valuation for an option on a traded equity; option valuation is taught to all accountants and MBAs as part of the syllabus.

This may limit the utility of options for small companies, and restrict their power to attract quality management/engineering talent.

The standard tech industry line; "stock options are so good and useful that on no account must we be made to tell the truth about them". Having to report what you're doing doesn't impede your ability to do it.

Many options expire worthless

Balls. Traded options often expire worthless, but I've yet to see a case when executive stock options have done so. Executive options are long term in nature, and are typically "rebased" downward if they get too far out of the money.

and therefore the company that issues them pays no money for them. Why on earth should a company expense something it paid no money for?

Many product liability suits end up being won by the defendant; so should we get rid of the idea of providing for litigation costs? It's called the "accruals principle" for God's sake; you recognise the cost when you make the transaction, not when the cash is paid.

A much more sensible strategy would be a forced disclosure of option activity in the 10-Q when the options are issued, with expenses accrued on the financial statements if the options are actually exercised, on that quarter's 10-Q.

That is the most stone cold insane suggestion for a treatment of stock options I have ever seen. Expensing options on exercise virtually guarantees in the majority of cases that the employee will not even be working for your company by the time the accounts are filed. What is wrong with making a provision for the option liability when it is incurred, and then, in the unlikely event that the options expire worthless, reversing that provision with a credit to the P&L when it can be prudently established that the liability will not have to be paid? In other words, why should employee stock options be treated any differently from any other contingent liability, or from the treatment of written options in financial institutions.

I think you should really brush up on your own knowledge before you dare to patronise anyone else.

--
Just because things have been nonergodic so far, doesn't mean that they'll be nonergodic forever
[ Parent ]

footnote (4.50 / 2) (#28)
by streetlawyer on Wed Jul 17, 2002 at 05:01:15 AM EST

My personal preference for the treatment of employee stock options is that they should appear between the preference share dividend and minorities, "below the line", with the tax benefit declared separately. This would reflect the fact that options are not a cash cost at the consolidated group level, but are a genuine diminution in the profit attributable to ordinary shareholders; they look much more like a minority to me than any other kind of expense.

--
Just because things have been nonergodic so far, doesn't mean that they'll be nonergodic forever
[ Parent ]
Errrr hang on there (5.00 / 2) (#30)
by Anatta on Wed Jul 17, 2002 at 09:55:00 AM EST

It doesn't take a "head ibanker from Morgan Stanley" to give a reasonable valuation for an option on a traded equity; option valuation is taught to all accountants and MBAs as part of the syllabus.

Meanwhile, in the real world, this is exactly what Coca Cola is doing, proposed the other day. Oh and I have many friends who work in investment banking, and they call each other ibankers (oddly enough)... it's not that different than calling a programmer a coder.

Black Scholes (assumed to be your panacea for option pricing) isn't exactly bulletproof, either. There are many instances such as long term deep out of the money options [PDF] (which executive options often are) where Black Scholes produces incorrect results.

Balls. Traded options often expire worthless, but I've yet to see a case when executive stock options have done so. Executive options are long term in nature, and are typically "rebased" downward if they get too far out of the money.

Executive options are often rebased, however they do have to get shareholders to pass any rebasing. If the shareholders do see a reason why they shouldn't, the shareholders can fight the execs. However, just because "you have yet to see a case" where executive options have expired worthless doesn't mean it hasn't happened. Look at CMGI or any of the companies that went from $150-$.50. They didn't rebase their options all the way down, and I seem to recall the shareholders going apoplectic when David Weatherall suggested a rebasing of options when CMGI's stock was so low. I do have problems with rebasing, in any case. It goes against the purpose of options as payment for good performance.

That is the most stone cold insane suggestion for a treatment of stock options I have ever seen.

Glad I could brighten your day. Now that you've said it's so foolish, care to elaborate on what's actually wrong with it?

Expensing options on exercise virtually guarantees in the majority of cases that the employee will not even be working for your company by the time the accounts are filed.

Doesn't matter; in the 10-Q just write "John Doe, Director of Operations 2000-2002." Not that hard, and a lot easier than restating every 10-Q for every person with outstanding options.

What is wrong with making a provision for the option liability when it is incurred, and then, in the unlikely event that the options expire worthless, reversing that provision with a credit to the P&L when it can be prudently established that the liability will not have to be paid?

I simply think that such a strategy would make options accounting far more confusing and would result frequent restatements of earnings. Options are not inventory that can be sold this month or next, and it's not simply an accrual vs. cash Accounting 101 issue.

I never claimed to have all the answers, and have said in multiple places throughout this thread that I see reasoned points from a variety of angles. I don't think the solution is as cut and dry as you're suggesting, and I haven't yet heard a cure-all that is fair and works for large and small companies equally. Disclosure would be an excellent start.

I think you need to chill out a bit, you seem awfully excitable.


My Music
[ Parent ]

hahahaha (4.00 / 6) (#35)
by streetlawyer on Wed Jul 17, 2002 at 11:05:37 AM EST

f'king wannabe.

Meanwhile, in the real world, this is exactly what Coca Cola is doing, proposed the other day

Here's some news from the real world; the guy on the option desk passing on a quote is not a "head ibanker".

In related news, nor are your friends. They are most likely the exact junior wannabe equivalents of the kiddies who call themselves "coders". Do they spend their weekends rereading the paperback edition of "Liar's Poker", perchance?

Black Scholes (assumed

Wrongly

to be your panacea for option pricing) isn't exactly bulletproof, either

Never gonna be an "ibanker" if you go about making such wild unjustified assumptions, or if you think that linking to a .pdf file is going to impress me. I note with slight amusement that I attended seminars discussing the prepublication versions of three of the papers cited in the work you linked to.

The paper you link to is actually just about the silliest paper you could have linked to in context. I thought that my ex-colleague Jens Carsten Jackwerth had killed off the absurd "sledgehammer to crack a nut" methodology of trying to suggest that a feedforward neural network might be the best way to price vanilla equity options. In actual fact, there is nothing in the volatility smile which can't be captured by a simple lattice model, and pretty much everyone on earth has given up on the approach you suggest.

And your suggestion that executive stock options are typically awarded at deep out-of-the-money prices is simply outright false. In general, executive options are deep *in* the money, subject to performance targets, and would actually be reasonably valued as forward sales of equity in many cases. Once more; anyone who can pass auditors' exams can put a value on a stock option which is a better guess than assuming it to be worthless.

Doesn't matter; in the 10-Q just write "John Doe, Director of Operations 2000-2002." Not that hard, and a lot easier than restating every 10-Q for every person with outstanding options.

So it "doesn't matter" to you that this treatment would mean that the cost base in 2000 would reflect option grants made in 1998 and subsequent stock market fluctuations? Did you ever stop to think about what the profit & loss account is for? It's meant to be a summary record of transactions carried out during the period between balance sheet dates.

I have no idea why you think that a sensible treatment of stock options would involve restating prior years. This is not the case with the treatment of any other contingent liability. One sets up a provision when one recognises the contingency, then either reverses the provision or uses it depending on whether the contingency crystallises. If options expire worthless in 2002, then that is a credit to the 2002 P&L, because it reflects a contingent liability incurred in a previous year (and charged in that year) which has not resulted in an expense. This is Accounting 101. Employee stock options are a loophole in GAAP treatment of contingent liabilities, not a special kind of liability not covered elsewhere!

I simply think that such a strategy would make options accounting far more confusing and would result frequent restatements of earnings.

Then you are flat out wrong and don't understand what is meant by "setting up a provision".

--
Just because things have been nonergodic so far, doesn't mean that they'll be nonergodic forever
[ Parent ]

Response (none / 0) (#53)
by Anatta on Fri Jul 19, 2002 at 04:29:48 PM EST

Here's some news from the real world; the guy on the option desk passing on a quote is not a "head ibanker".

Here's some more news: the guy on the option desk likely does not know how to value a 10 year option for specific individual executive that cannot be sold and of which no others like it in the world exist, and hence the pricing goes right by him and goes up to the higher ups. This screws smaller companies that can't attract the attention of an investment banker to price their option for them. Strangely, this is exactly what the head of NYU's accounting program says. Bottom line: Coke's way of doing things won't work for everybody.

Never gonna be an "ibanker" if you go about making such wild unjustified assumptions, or if you think that linking to a .pdf file is going to impress me. I note with slight amusement that I attended seminars discussing the prepublication versions of three of the papers cited in the work you linked to.

Fortunately, I have no desire to be an ibanker, or any other type of banker. As to your comment about going to the seminars, I'm very proud of you. I can't verify your story in any way, so I'll be generous and just trust you on it.

The paper you link to is actually just about the silliest paper you could have linked to in context. I thought that my ex-colleague Jens Carsten Jackwerth had killed off the absurd "sledgehammer to crack a nut" methodology of trying to suggest that a feedforward neural network might be the best way to price vanilla equity options. In actual fact, there is nothing in the volatility smile which can't be captured by a simple lattice model, and pretty much everyone on earth has given up on the approach you suggest.

This may be true; I don't know who Jackworth is, nor do I know of his work. I also don't know who you are and if he actually has any knowledge of you, but I'll trust you on it. Even still, has he figured out a way to model option values over 10 year periods extremely accurately? If so, why on earth isn't he on a beach in Tahiti?

And your suggestion that executive stock options are typically awarded at deep out-of-the-money prices is simply outright false. In general, executive options are deep *in* the money, subject to performance targets, and would actually be reasonably valued as forward sales of equity in many cases.

Actually, we're both wrong. According to Kevin Murphy from USC, Executive Options are usually granted at the money and have a 10 year time horizon. Interestingly enough, Murphy also notes [summary] [full paper] most underwater executive options are not repriced (probably due to the necessity of getting the repricing past shareholders).

Once more; anyone who can pass auditors' exams can put a value on a stock option which is a better guess than assuming it to be worthless.

This is true, we could certainly get an estimate that is better than throwing darts, but that's not quite enough for a lot of people, especially for the IRS. The IRS doesn't allow for taxes to be based of estimates, and expensing the options when they are issued creates difficulties, not in the least that an option issued at the strike price is actually worth $0.00 on the date that it is issued.

So it "doesn't matter" to you that this treatment would mean that the cost base in 2000 would reflect option grants made in 1998 and subsequent stock market fluctuations?

They're worth $0.00 when they're issued. They may be worth something by the time the option is to be exercised. If they are, the company gets an expense and a tax deduction, and the exec gets his cash and his tax bill, just like wages.

Employee stock options are a loophole in GAAP treatment of contingent liabilities, not a special kind of liability not covered elsewhere!

How are stock options not reflected in the financial statements? Should an exec exercise an option, the company must use earnings to buy stock to give to the guy (or give him treasury stock), which obviously hurts earnings, or they must do a share dilution, which obviously hurts EPS. These activities are plain for anyone who wants to look at the financial statements to see. This, combined with disclosure, is all that is needed to solve the problem.

FASB comments about Contingent Liabilities seem to focus on "estimable" and "probable" changes in finaicial positioning. Are options 10 years out all that estimable? I don't know. Perhaps updating the option values every year thoguh contingent liabilities would work, but I'm still not convinced that such a strategy would make financial statements clearer. I know that disclosure will help a great deal in clarifying a company's financial position without screwing up the IRS and causing double taxation.


My Music
[ Parent ]

commit on "pyramid" link (4.75 / 4) (#9)
by khallow on Tue Jul 16, 2002 at 06:15:21 PM EST

Near the end, you refer to a "pyramids" involving Microsoft and Cisco and how they account for stock options. However, the accounting used in that link is pretty shaky as well. The two adjustments from that link are that the author excludes tax rebates (from the stock option tax write-off) and adds in a depreciation amount for the stock options. Both are incorrect.

First, since the company saves money, it should be able to record tax savings as revenues - as long as these savings don't carry over to next year (or for the next ten years as the case may be). I'm not clear on what future tax savings should be counted as, but it is an asset of value that the company has. Also, the stock options are a fixed obligation with a fixed cost at a given time. This cost can either be calcuted via the Black-Scholes formula, or by looking up recent market prices of the options in question.

Having noted these problems with the figures mentioned above, it is worth noting that many companies have vast, relatively hidden obligations in their stock options. Microsoft is the most extreme example with many tens of billions USD (I can't tell but it might be 40 billion USD or more) in stock option obligations. But from looking at their latest balance sheet, they still have 30 billion USD in cash and short term assets (and another 15 billion USD in "investments and equity"). This implies to me that Microsoft may be in a delicate situation, but that it's probably going to weather the storm unless its share price declines significantly more than it has.

Cisco is a more difficult case. It looks like they've increased their cash and short term assets significantly within the last year from 6.9 to 9.0 billion USD. Regular investments also increased from 10.3 to 12.1 billion USD.

Microsoft and Cisco may be cooking the books in a more illegal way, but FWIW there's no evidence of it. The stock option scam isn't going to sink them by itself (though it may get other companies) since these companies can mint a bunch of stock shares to get themselves out of trouble (their shareholders will vote for a stock dilution plan if it is a choice between that or bankrupcy). The merger accounting like what Worldcom was using, was more dangerous (IMHO). Cisco and Oracle are particularly exposed to that, but one or both may survive it as well. Would you like 200 shares of Worldcom with those comforting assurances? :-)

Stating the obvious since 1969.

is anyone else (3.20 / 5) (#16)
by VoxLobster on Tue Jul 16, 2002 at 07:04:16 PM EST

reminded of that Dilbert cartoon, where Dogbert is running for President, and a lobbyist from a cigarette company offers him money for his campaign. And then Dogbert tells him how he'll use the money to get elected, and then put his whole industry out of business and in jail?

VoxLobster
I was raised by a cup of coffee! -- Homsar

This is like a junkie... (3.20 / 5) (#22)
by GuruWannabe on Tue Jul 16, 2002 at 09:13:03 PM EST

trying to sober up a wino. The government is the master of Ponzi schemes and cooking the books. I also agree that this should go under MLP.

Ummmm (none / 0) (#32)
by wiredog on Wed Jul 17, 2002 at 10:56:30 AM EST

AA/NA work on exactly that principle. They've been more successful than most other methods.

Can't sleep. The clowns will get me.
[ Parent ]
Another Ummmm... (none / 0) (#34)
by virg on Wed Jul 17, 2002 at 11:05:35 AM EST

Not exactly. AA works on the idea of two alcoholics sobering each other up. I don't see much interplay in passing legislation forbidding corporate hijinks, since I doubt corporations will be able to draft laws forbidding governmental book-rigging..

Virg
"Imagine (it won't be hard) that most people would prefer seeing Carrot Top beaten to death with a bag of walnuts." - Jmzero
[ Parent ]
I wasn't addressing the corporate issue (none / 0) (#36)
by wiredog on Wed Jul 17, 2002 at 11:10:32 AM EST

Just the "This is like a junkie trying to sober up a wino." bit.

I've been in AA for 13 years now (sober for 8) and there are many people who are junkies/stoners/etc in addition to being alcoholics. In fact, the 'pure alcoholic' is fairly rare these days.

Can't sleep. The clowns will get me.
[ Parent ]

Fair Enough... (none / 0) (#38)
by virg on Wed Jul 17, 2002 at 11:31:52 AM EST

...but the original post was about comparing the two things (corporate accountability and "...junkie trying to sober up a wino"). I think I would have gone more toward hypocrisy than he did, but the idea (or at least the germ of it) is there.

BTW, congratulations for 8 years (I'm assuming the most recent eight, yes?). That's a tough fight.

Virg
"Imagine (it won't be hard) that most people would prefer seeing Carrot Top beaten to death with a bag of walnuts." - Jmzero
[ Parent ]
Literally laughing (4.60 / 5) (#29)
by Shren on Wed Jul 17, 2002 at 07:09:27 AM EST

I heard that at the press conference where Bush introduced this whole "Coorporate Honesty" thing, the Press was laughing at him, literally. They knew the President's history (shady oil and sporting investment history) and just couldn't keep a straight face. It's like he's using the things he's done as a checklist of things that shouldn't be allowed.

You heard wrong. (none / 0) (#39)
by Demiurge on Wed Jul 17, 2002 at 11:36:01 AM EST

The press corps. has been, as a whole, casting Bush in a favorable light

[ Parent ]
what they do vs what they print (4.00 / 3) (#40)
by Shren on Wed Jul 17, 2002 at 12:01:42 PM EST

The press corps. has been, as a whole, casting Bush in a favorable light

I'm not talking about what they put in thier papers. I'm talking about what they, personally, did when the anti-corruption speech got read. I heard they were having trouble supressing thier hilarity.

[ Parent ]

Yes... (2.00 / 2) (#48)
by cb on Wed Jul 17, 2002 at 03:13:15 PM EST

But there's a difference between the personal opinion of the reporters, and what they actually put in the newspapers. You do realize that the gubernment calls the shots, right? Ever seen Three days of the Condor?

[ Parent ]
Bush, Clinton and corrupt corporations (1.00 / 3) (#44)
by OldTomB on Wed Jul 17, 2002 at 02:51:37 PM EST

Bush is vastly cleaner than, say, Bill Clinton and the DNC, who sold nuclear secrets to the Communist Chinese so that the latter now have ICBMs pointed at all major American cities.

Or say, Whitewater, Tyson, Enron, etc, all who contributed vastly more to the DNC than to the GOP.

Daschle is far dirtier than Bush.

So we shall see. Even if Bush does propose legislation, will the DNC-controlled Senate pass it?

[ Parent ]

OH deary deary (3.00 / 2) (#46)
by cb on Wed Jul 17, 2002 at 03:12:01 PM EST

Bush is vastly cleaner than, say, Bill Clinton and the DNC, who sold nuclear secrets to the Communist Chinese so that the latter now have ICBMs pointed at all major American cities.

It's all part of the capitalist game (of which I have no doubt you worship on the alter). And Heaven forbid that anybody should defend themselves!



[ Parent ]
And the UN invading force! (5.00 / 1) (#50)
by revscat on Wed Jul 17, 2002 at 06:15:22 PM EST

Don't forget about the UN invading force? Or was it NATO? Can't seem to remember. Anyhoo! Yeah, so listen, small question for ya: Got any proof to back up those allegations? That's purty serious stuff you're saying there! I'd even go so far as to say that you appear to be yet another conservative clone who got sucked up in the "HAAAAATE Clinton!" fad of the 90's.

Or say, Whitewater, Tyson, Enron, etc, all who contributed vastly more to the DNC than to the GOP.

Why are you lying about this? Enron has given over 2/3 of all campaign contributions to Repulicans, according to this article at the non-partisan Center for Responsive Politics. And Whitewater didn't "contribute", because it wasn't a corporation -- it was a real estate deal. Tyson is balanced, giving to both sides pretty evenly.

Oh, but you seem to be a dittohead, which tells me that you will insist that the GOP can do no wrong and that all Democrats are terrorist-loving hippies who perform abortions while stoned.

Whatever.

IHBT.



- Rev.
Libertarianism is like communism: both look great on paper.
[ Parent ]
You forgot Global Crossing (none / 0) (#52)
by jhylkema on Thu Jul 18, 2002 at 01:04:39 AM EST

Upon whose board sat none other than one Terry McAuliffe, Slick Willie's handpicked DNC chairman. He made an 1,800% profit on Global Crossing stock right before they went bankrupt, yet the major media is SILENT. Oh well, he's a Democrat, so it's okay . . .

--

1260 divided by the weight of the problem equals the length of the solution.

LEGAL NOTICE: Spam sent to this account will be prosecuted at $1,000 per message (RCW 19.190.030).


[ Parent ]
Dont know about Dubya and the SEC? (5.00 / 3) (#41)
by pcable on Wed Jul 17, 2002 at 12:20:53 PM EST

This site has a little more about it...

While we're on the subject... (none / 0) (#47)
by broken77 on Wed Jul 17, 2002 at 03:12:35 PM EST

I'm surprised nobody is talking about allegations of wrongdoing by Cheney. I would think he's more indictable than Bush.

I'm starting to doubt all this happy propaganda about Islam being a religion of peace. Heck, it's just as bad as Christianity. -- Dphitz

Will Bush fight the good fight against Corporate America? | 53 comments (42 topical, 11 editorial, 0 hidden)
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