House Votes to Limit Option Expensing

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July 22, 2004 -- In a victory for start-ups that offer employee stock options in lieu of pay, the House of Representatives overwhelming voted for a bill that essentially maintains the current standards of stock option accounting.

The passage of the Stock Option Accounting Reform Act by a vote of 312 to 111 was a blow to efforts by the independent Financial Accounting Standards Board (FASB) to require companies to count all stock options as business expenses.

The legislation approved in the vote would require only that a company expense the stock options of its top five executives. Privately-held businesses with revenue under $25 million would be entirely exempt, as would companies that have been public for less than three years. Additionally, the Securities and Exchange Commission cannot enforce any new FASB rules regarding option expensing until the Labor and Commerce Departments complete a yearlong study on the economic impact of expensing.

Proponents of the bill argued that FASB's requirement that companies deduct all stock options from their bottom lines would result in companies reporting losses when they were trying to gain financial backing. The vote was viewed as a real victory for Silicon Valley technology start-ups, which basically wrote the book on enticing employees with future stock options, as opposed to high starting salaries.

The topic of expensing stock options became a hot issue in the wake of the collapses of WorldCom and Enron. Executives were accused of artificially inflating profits to increase the value of their massive stock options.

Supporters of the bill, such as the National Venture Capital Association, felt that FASB went too far with the rules it proposed in March, because there is no universally agreed upon way to value stock options. Additionally, they argued that the cost of calculating the expense would be too high for fledgling companies.

Opponents, such as Senators Peter Fitzgerald, John McCain, Carl Levin and Richard Durbin, insist that the vote only serves to undermine the authority of FASB to create independent accounting standards.

The bill is expected to face stiff opposition in the Senate, with Senator Richard Shelby, chairman of the Senate Banking Committee, already stating he will fight it. This means that the bill cannot pass through his committee and will instead have to be attached to other legislation on the Senate floor.

Matt Quinn

Matt Quinn contributes to the Wall Street Journal's corporate finance blog. He has also written extensively about banking and corporate finance for publications including Inc., American Banker, and Financial Week. He lives in Brooklyn, New York.