Cisco Renews Options Parade
Cisco Systems Inc. (Nasdaq: CSCO) has cranked up the stock option printing machine for its employees and its CEO. As it did last year, Cisco disclosed the results of its annual "merit-based, company-wide stock option grant" in a filing with the SEC late Monday.
Cisco's filing states that the networking giant has granted 162 million stock options to employees. Its CEO, John Chambers received 1.5 million options at a strike price of $19.18.
The announcement shows Cisco isn't being coy in its approach to stock options. Cisco has traditionally been generous with options grants and has so far resisted pressure from the Financial Accounting Standards Board (FASB) and some shareholder groups to account for its options as an expense. Other cash-rich tech companies, most notably Microsoft Corp. (Nasdaq: MSFT), have made the decision to carry options on the books as a direct expense and have taken other measures to appease shareholders such as paying out dividends. Cisco does not pay a dividend.
In the past, Cisco has argued that if stock options were expensed, it would drag on corporate earnings and companies would stop issuing options. That expense -- and failure to offer options as an incentive -- would force more companies to find cheaper labor in other countries (see Chambers Attacks Accounting Plans).
Large options grants are often viewed as dilutive to shareholder earnings potential, because those options will increase the corporate share count when they are exercised. Cisco shares fell $0.21 (1.10%) to $18.97 on the news in afternoon trading.
"We view the increase in total options, options per employee and dilution as slightly negative for Cisco given the increased concern on stock option expensing heading into 2005," writes UBS analyst Nikos Theodosopoulos in a note to clients this morning.
Last year, Cisco granted employees 141 million options, of which Chambers received 4 million, at a strike price of $19.59. "This grant represents 2.34% of diluted shares at the end of July 2004, compared to 1.98% of diluted shares at the end of July 2003," writes Theodosopoulos. Cisco's grant this year results in 4,713 options per employee, compared to last year's total of 4,091 options per employee (see Cisco's Chambers Gets More Options).
Cisco critics grouse that, since Cisco does not record the cost of its stock options in its books, it overstates its earnings, which leads to an inflated stock price and an inflated ability to attract talent.
No laws exist that will change Cisco's mind in the near future. The House of Representatives did pass a bill requiring companies to expense options granted to senior executives, but that bill has yet to become law. And the FASB has tried to require companies to count stock options as an ordinary business expense.
Had Cisco expensed its stock options during the nine months that ended May 1, its net income would have been $2.1 billion instead of $3 billion, according to Cisco's SEC filings.
If companies such as Cisco instead issued restricted stock directly to employees as a way of rewarding them, the game might change a bit. The employees wouldn't have to worry about their options becoming worthless.
But Cisco's employees, in emails to the FASB, have cheered the possibility of someday cashing in on options, despite tax consequences (see Poll: Options Tax Problems Are Common).
"To use a common cliché, I am betting the farm on stock options," wrote one Cisco employee.
"My salary is moderate and I look forward to stock options as a reward from my company," another Cisco employee writes.
But there is another catch to Cisco's options approach -- it may be influencing the company's decision to use cash to buy back stock, which consumes the company's cash. When the options come in the money, Cisco employees exercise them in droves, which increases the share count and dilutes earnings. Cisco recently has been buying back billions of dollars of its own shares (see Cisco Goes Buyback Happy).
Meanwhile, Cisco CEO John Chambers, who has drawn a $1 salary and no bonus since April 2001, has made the options-based compensation plan quite lucrative. In 2003, Chambers hauled in about $34.8 million in total compensation, including stock option grants from Cisco Systems. In an average work week, that's about $16,725 an hour. Chambers has another $214 million worth of unexercised stock options from previous years, according to the AFL-CIO's Executive Paywatch database.
— Phil Harvey, News Editor, Light Reading