by Glenn Cheney

Norwalk, Conn. - In the shadow of jittery securities markets, impending international standards and pervasive distrust of corporate accounting, the Financial Accounting Standards Board has again taken up the issue of accounting for stock option compensation.

This time, the board isn’t trying to require that such compensation be reported as an expense on income statements under a fair value method. Rather, it is offering companies three ways to make a voluntary transition to such reporting, which the board unabashedly believes is the preferable method.

"The original impetus of this project was to respond to questions from the preparers and users of financial information," said FASB project manager Patrick G. Durbin. "Preparers were concerned about the so-called ‘ramp up’ effect that arises from the existing provisions of Statement 123."

The ramp-up effect creates an inconsistency in reporting from one period to the next because some or all of the stock-based compensation expense for the second of the periods would be recognized on a different basis than in prior periods.

The proposal, which is being issued as an exposure draft, does not require adoption of the fair value recognition option of Statement 123. Rather, it provides optional transition methods for those companies who decide to convert. It also modifies the statement’s disclosure requirements.

If an amendment is issued as proposed, companies that opt to adopt the fair value recognition provisions will have three transition options. They can recognize stock compensation cost for awards granted after the beginning of the fiscal year in which the change is made. Alternatively, they can recognize such costs for the year of the change equal to that which would have been recognized if Statement 123 had been adopted as of its effective date. Companies can also choose to recognize those costs for the year of change and restate prior financial statements as though Statement 123 had been used.

The amendment would also modify disclosure requirements. The accounting policy notes for annual and interim statements would have to reveal the method of accounting for stock option compensation. Until that compensation is expensed, statements will need to show tabular information on total stock compensation costs included in net income, additional stock compensation costs that would have been included under the fair value method and pro-forma net income and earnings-per share that would have been reported under the fair value method.

Impetus to make the change

At least three factors are giving companies an impetus to make the change. One is that, within the next month, the International Accounting Standards Board is likely to issue a proposed standard that would require the expensing of stock-option compensation.

While the standard would not necessarily apply to U.S. companies at present, much of the rest of the world, including, soon, those of the European Community, would meet the international standard. That standard, however, uses a differentmethodology from the one that is recommended by FASB.

Some companies are converting in order to improve their image in the wake of corporate accounting scandals.

The high-tech sector, which has been most resistant to the expensing of stock option compensation on income statements, led the charge in the mid-1990s that led to FASB backing down from a proposed requirement that options expensed in the same way as other compensation. The same sector is now resisting the IASB project.

That sector is also expected to be highly critical of the FASB proposal and is already saying that the three alternative methods for conversion will result in incomparable financial statements. Among the companies that are expressing annoyance with the proposal are Intel, Applied Materials and Microsoft.

A representative of the high-tech industry said that rather than clarify and facilitate the transition, the proposal only makes the picture cloudier. Opening the issue again, the individual said, would be very messy.

A recent survey conducted by AeA, an association of electronics companies, found that 60 percent of public high-tech companies granted stock options and an average of 84 percent of their workers received them. Sixty-six percent of the options went to non-executives.

Durbin said that FASB recognizes that financial statements will show differences as companies choose among the three alternatives or to not convert at all.

"Because companies can already choose the intrinsic value method or the fair value method, there’s already a comparability issue," Durbin said. "Because there isn’t a specific time when any company has to choose one way or the other, there will continue to be a comparability issue. The board is amending the disclosure provisions of Statement 123 to deal with that issue so that every company, regardless of their decision, will have comparable information disclosed. Every company, regardless of the method used to account for stock-based compensation, is disclosing the same information on either an actual or pro-forma basis so people can make a comparison."

FASB has been keeping track of how many companies have already stated that they will be expensing employee stock options. Among the more than 80 companies are Allstate, Boeing, Pendant, Coca-Cola, Dow Chemical, General Motors, Marathon Oil, Merrill Lynch, MetLife and Wal-Mart.

This proposal is probably not the last of the stock-based compensation debates that FASB will have to struggle with. Later this year, the board is expected to issue an exposure document asking whether American business agrees with the IASB proposal. If the United States ever decides to accept international standards, companies may have to expense stock option compensation in a manner similar to the one that FASB proposed prior to adopting Statement 123.

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