Option Passes Tough to Complete

With
"repricing" programs for underwater stock options decidedly unpopular
among shareholders, companies are tiptoeing toward decisions on whether
to pursue them.

David McCann
- CFO.com | US

November 13, 2008

After the Internet bubble burst in the early 2000s, some 450 U.S.
public companies offered programs allowing employees to exchange
underwater stock options for something that had value — usually either
new options with a strike price at current fair value, a smaller number
of shares of restricted stock, or cash.

But don't expect the same level of activity now, even though the
overall stock market is in just as bad shape, if not worse. The restive
climate among shareholders and their advisory services likely will
produce mostly "no" votes on proposals for so-called repricings,
compensation attorneys and consultants say.

"In the last downturn the advisers and attorneys were coming up with
all sorts of new ways to reprice options, because clients were
demanding it," said Jim Scanella, a Watson Wyatt consultant. "It's the
exact opposite now."

That's not to say there won't be any repricings. This year there
were about 55 through October, mostly at smaller companies, Scanella
said, citing a Watson Wyatt database. "There's some activity, but it's
certainly far less culturally acceptable than [it used to be]," he
noted. Most companies, he added, are just looking around to see what
everyone else is doing.

Sean Feller, a partner in the compensation and benefits practice at
Gibson Dunn & Crutcher, agreed. With companies now starting to
think about what proposals to include in 2009 proxies, he's getting a
lot of requests from clients asking about their choices with regard to
underwater options. "I think everyone is still trying to figure out
where things are going and markets are heading before they take
action," he said. "But they're definitely concerned about how to keep
incentivizing employees."

Most companies that propose repricings will make executive officers
ineligible, in a bid to overcome institutional investors' current
distaste for the exchange programs, Feller said.

However, there were some notable exceptions to that among 2008
repricings. An analysis by White & Case highlighted eight companies
with annual revenue greater than $1 billion that completed option
exchanges in 2008. Four of them — Builders FirstSource, R.H. Donnelly,
Isle of Capri Casinos, and MGM Mirage — allowed executive officers to
participate. Isle of Capri even let directors in on the repricing.

"There is a growing trend to include executive officers in
repricings," said Colin Diamond, a partner in the securities practice
at White & Case. "It reflects the reality that they often hold a
large number of underwater options and that the goals of many exchange
programs would be frustrated by excluding them."

Five of the eight companies — M.D.C. Holdings, Builders FirstSource,
Toll Brothers, VMware, and UTStarcom — exchanged underwater options for
new options at lower strike prices. Typically in such cases, companies
grant a smaller number of options than were included in the original
programs, or extend the vesting term, or both.

Isle of Capri exchanged options for restricted stock or, in the case
of employees that would receive have receive less than 1,000 shares of
stock, for cash. MGM Mirage also switched from options to restricted
stock, and R.H. Donnelly shifted from options to stock appreciation
rights.

In a recent study of 61 companies that completed repricings since
2005, Aon Consulting said that 46 percent of them exchanged options for
options, 49 percent went to restricted stock or restricted stock units,
and 5 percent paid cash in lieu of the worthless options (with the
amount often determined by an option valuation formula such as
Black-Scholes).

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