When the US survived a stock option crackdown

A world without stock options is a world without semiconductor chips, personal computers, video games, and the Internet.
Written by Mahesh Sharma, Correspondent

Stock options were the tools used to start up Silicon Valley.

Veteran journalist Michael S Malone grew up in the suburban tech Mecca, an hour south of San Francisco, and as the San Jose Mercury's first high tech reporter, he witnessed the evolution and growth of what would become the headquarters of global innovation.

"It was frustration over [flash photography R&D company] Fairchild Camera's unwillingness to share its wealth in the form of stock that led the employees of subsidiary Fairchild Semiconductor to depart en masse and start Intel, AMD, National Semiconductor, and all of the other pioneering companies of Silicon Valley," Malone said. "For the last 40 years, stock options have been the most egalitarian force in the US economy."

An option wasn't just a dollar figure on a piece of paper, it was your own tangible piece of the company, thriving off your blood, sweat, and tears.

Their moment arrived in the 1980s, when the poster boy of the desktop revolution, Apple Computer, provided the opportunity for mum and dad investors to own a part of the company. The IPO created more than 100 millionaires: from executives to secretaries and clerks. Subsequently, Cisco, Siebel, eBay, Microsoft, and Oracle did the same for many more. More recently, Google and Facebook, have continued this trend.

Atlassian staff will soon join this club — even the receptionist.

Shares are not only the lifeblood of startups, Malone said, it's their food, water, and air.

"Why else would you leave a comfortable, high-paying job at an established firm to take on the long hours, hard work, and high risk of a tech startup, if not for the stock options and the chance to become a tycoon on the back end?"

"Without stock options, there would be no semiconductor chips, no personal computers, no video games, and no internet. Throw in software, too, because Gates, Ellison, and the others never could have started their companies — and retained talent — without the bait of founders stock."

Malone's manifesto was provoked by a regulatory threat to the Silicon Valley way of life.

In the early 2000s, the reckless antics of highly-paid corporate executives that led Enron and Worldcom prompted the Financial Accounting Standards Board (FASB) to revive its once-thwarted stock options crackdown.

Share schemes, the FASB believed, were largely an instrument for indulgent executives to reward their actions without culpability.

Companies should expense the employee share asset on their balance sheet. These disclosures would expose any stock skeletons in a company's closet (even though at the time, companies were already required to report this value in the footnotes of their regulatory filings).

Silicon Valley was outraged.

Cisco announced in 2004, the year of the crackdown, that to expense stock options would have cut its quarterly profits by 60 per cent.

The word traversed the Valley, and was even heard across the continent, where The New York Times reported on the hundreds of technology workers that spilled out from their darkened offices into the sunlit streets to protest this fundamental threat to their existence. They carried placards with slogans like "Save our stock options".

The geek's cause was championed by high-profile Silicon Valley venture capitalist John Doerr, who also pleaded his case to the FASB accounting board.

"The proposal related by FASB today might as well be renamed the Jobs Export Act of 2004," Doerr, then general partner at Kleiner Perkins Caufield & Byers, a prominent Silicon Valley venture-capital firm, told the Wall Street Journal at the time.

The pleas fell on deaf ears. The FASB successfully shifted the balance sheet goalposts. Silicon Valley survived.

The accounting rule change would only affect those companies that issued stock options because it was de rigueur, according to Corey Rosen, director of the National Center for Employee Ownership, not the companies that offered stocks to encourage employees to work harder.

"The rank and file at the companies that were giving out what were largely symbolic option grants will generally see those disappear," Rosen said.

Indeed, they were alive and well in 2012, according to former CEO of PayPal and Intuit, Bill Harris.

"Venture financing is up — $28.4 billion poured into the Valley in 2011, almost twice the level of two years before," said Harris, now CEO of Personal Capital, a financial advisory firm. "This funding went into 3,700 different companies, almost all of which were issuers of stock options."

The Americans tempered the democratic spirit of the stock option with the regulatory rigour to enforce responsible allocation of shares to the parts of the business where it would have the greatest impact — the employees.

It's a shame the Australian government couldn't do the same.

Tomorrow: What's the answer for Australia?

Editorial standards