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(1.0 point) DNSBL: Received via an IP in dynablock.njabl.org SPAM: SPAM: -------------------- End of SpamAssassin results --------------------- September 14, 2004 The Honorable Richard Shelby Senate Committee on Banking, Housing and Urban Affairs 534 Dirksen Senate Office Building Washington, D.C. 20510 Dear Senator Shelby, I am writing to ask you to vigorously oppose S. 1890, the so-called “Stock Option Reform Accounting Act.” Your opposition to this so-called “reform” is a strong statement in favor of investor protection and shareholder rights. As you are aware, the House of Representatives last month passed (H.R. 3574) that would intervene in the independent accounting rule-making responsibility of the non-partisan Financial Accounting Standards Board (FASB), which supports the treatment of employee stock options as an expense to the company. In other words, FASB supports reality over fantasy, and the investor’s right to know over management’s right to hide. In this post-Enron, post-WorldCom world, in which investors suffered unprecedented losses from companies hiding their true liabilities, it is unconscionable that any company would stand up and argue that its ability to attract and reward employees is contingent on its ability to dupe the owners of the company – its own shareholders – into thinking it is compensating its management and others less than it really is. But that, as it comes down to it, is exactly the position of the supporters of S. 1890 and H.R. 3574: “We can’t make money if we have to report our true expenses.” As an organization committed to financial transparency and integrity in capital markets, we urge you to let FASB do the job it was set up to do, without Congressional interference, and to encourage your colleagues to do likewise. We strongly believe this is the right course of action for investors everywhere, for the following reasons: 1. FASB was set up as an independent, non-political body, precisely to allow accounting experts to make decisions based on what presented the most complete and accurate picture, not what provided special interests the most favorable treatment. Following a deliberative process marked by exhaustive study and open dialogue by a non-political and objective group of experts, FASB reasonably concluded that stock options are a form of compensation and, as a cost of the production of goods and services, are expenses to be accounted for in financial statements. 2. Financial statements exist, first and foremost, to allow investors to make well-informed decisions. They must not become a sales tool for management. They must represent a fair and accurate picture of the company as it is, not as management would like others to believe it is. 3. Investors generally support the ability of companies to issue stock options to employees in a responsible matter. That is not the debate here. The debate is whether the options should be measured and recognized as compensation in the full light of day, or buried in the footnotes where only the resourceful will notice them. 4. Stock options are compensation. Oftentimes, executives and other employees accept stock options in lieu of cash compensation. When compensation is paid in cash, it is expensed. When paid in goods or services, it is expensed. When stock options are awarded to non-employees, such as attorneys, for services rendered, they are expensed. Therefore, why should stock options issued to employees not be subject to the same accounting treatment? 5. Failure to recognize stock options as an expense overstates net income. (Do you hear echoes of Enron and WorldCom here?) This is because failure to recognize stock option expense understates not only the cost of compensation, but also the cost of production. For example, as FORTUNE has reported, if the online auction firm eBay had reported the cost of its stock option grants, its net income from 1999 to 2003 would have been $13 million, not $840 million. By not accurately measuring compensation and net income, investors’ ability to compare companies with different compensation structures is impaired, and the performance of companies that rely heavily on stock options is overvalued relative to those that pay their employees in cash or other “hard’ assets. 6. Essential financial information should be transparent and accessible to even the least astute financial statement reader, not buried in a hidden footnote. Proponents of S.1890 assert that the information on employee stock option awards is already provided in the footnotes to the company’s financial statements. But if companies already generate stock option information for a footnote, then why can’t that information be made available within the body of the financial statement? The answer is because on the income statement, the number will affect the bottom line, and that is what these companies want to avoid. They want to continue to say they made more money than they really did. Should the FASB be forced to support this fantasy? 7. Companies trust estimates in every other line item on the financial statements. Their arguments that option values cannot be estimated are specious. Anyone who understands financial reporting understands that each and every number on the financial statements, including “cash and cash equivalents,” can be an estimate. The values of receivables, inventories, fixed and intangible assets, as well as pension liabilities, lease obligations, etc., are based on recorded historical costs, which are adjusted, either initially or over time, using various assumptions and estimation methods. Companies trust these valuation methods in other areas. For example, trillions of dollars in options are traded globally utilizing estimates based on the Black-Scholes model or other option valuation techniques. In addition, when compensation contracts with executives and other employees are being negotiated, these same models are applied to ascertain the number of options the employee will receive. If the measurements provided by these models are good enough for those who accept stock options in lieu of other compensation, they are reliable enough for investors. 8. This is a reiteration of No. 1, above, but it bears repeating: accounting standards should be set by FASB, not the United States Congress. An independent entity free (ideally) from political pressures, FASB is the authority to set accounting standards. This sentiment was echoed in the Sarbanes-Oxley legislation, the aptly titled, “Public Accounting Reform and Investor Protection Act” of 2002. Again, thank you for your unwavering leadership, which has proven vital to investors everywhere. If there is any additional information that our membership or I can provide you or your staff, please do not hesitate to contact us. Sincerely, Thomas A. Bowman, CFA President and CEO The CFA Institute cc: Sen. Paul Sarbanes, Ranking Democratic Member Members of the Senate Banking Committee CFA Institute is a non-profit professional association whose membership includes 71,000 securities analysts, money managers and investment advisors worldwide, including the world’s 57,000 holders of the Chartered Financial Analyst professional designation. PAGE PAGE 3 _______________________________________________ Politech mailing list Archived at http://www.politechbot.com/ Moderated by Declan McCullagh (http://www.mccullagh.org/)
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