I was surprised to see that Google announced in an 8-K
last week that they are implementing an option exchange program for
their underwater stock options.  I was even more surprised to read how
the program will work. 

What About the TSO Program?

What surprised me most about the exchange program was that Google
feels the need to do it at all.  You will recall that one of the major
headlines of 2007 was Google's transferable options program,
which enables Google employees to sell their options to a third party,
rather than exercising them.  One of the touted benefits of the program
was that it should make underwater options less of a concern for
Google.  Even underwater options have time value, thus, Google
employees would still be able to realize a return by selling through
the TSO program even when their options have no intrinsic value.

Does the exchange program mean that Google employees haven't been
able to sell their underwater options through the TSO program, or is it
just that they weren't making enough money on their sales? According to
Google's September 2008 10-Q,
options covering almost 500,000 shares were sold
through the program in Q3, but the 10-Q doesn't say whether those
options were underwater or in-the-money.  It does say that the options
sold at an average of about $276 per share (a premium of about $38 per
share).   

Is This 1998 Again?

I was also surprised to see Google offering to exchange the options
on a one-for-one basis--something I haven't seen much of since FASB
announced variable-plan accounting for repricings under APB 25, back in
1998 (yeesh, has it really been ten years since the halcyon days of
cost-free repricings?). For most public companies, this would
never get past their shareholders, but Google isn't submitting the
exchange program to a shareholder vote (their plan
expressly allows repricing without shareholder approval).  Even if they
did, it wouldn't matter: according to their last proxy statement (March 2008), their
officers and directors hold 70% of the votes on their common stock,
which gives them the luxury of being able to do things with their stock
plan that other, more widely held companies with institutional
investors, can't. 

If your management team is thinking that they can do this type of
exchange just because Google did it, they might need to think again
(I'm guessing that not many of you work for companies where management
controls a majority of votes).

Eligible Options

Another feature of the program that is surprising to me is
that Google is repricing all options with a price above FMV on the day
before the exchange, rather than requiring that options be a minimal
percentage underwater to be eligible for exchange.  The last company
I know that did this saw their FMV rise on the date of the exchange and
some employees that participated ended up with options that had a
higher exercise price that the ones they exchanged--not at all the
intended outcome.

Compared to Starbucks

Starbucks also announced
an exchange program last week, but their program is a lot more like
what I expect to see in exchange programs these days:  only options
with a price above the 52-week high are eligible, options will be
exchanged on a less than one-for-one basis (Starbucks is hoping to
achieve the elusive value-for-value exchange), executive officers are
excluded, and the program is subject to shareholder approval (probably
the reason why the program is more like what I'd expect).

Reason #10 to Renew Your NASPP Membership:  The Latest Information on Underwater Options

Visit our Underwater Options Portal for the latest strategies on dealing with underwater stock options, including a recent memo from ISS on key features institutional shareholders consider when evaluating exchange programs.  And don't miss our webcast, "The Dark Side of Option Exchanges," coming up this Thursday, January 29.

more...http://www.naspp.com/blog/2009/01/i-was-surprised-to-see.html