One of the country’s most powerful institutional investors put itself squarely in the dump-stock-options camp last month.
The Canada Pension Plan Investment Board (CPPIB), said it wants companies it invests in to stop granting stock options to executives and employees because they encourage short-term thinking.
“We will support boards and management teams through difficult periods as long as their long-term visions and strategies are clear and compelling,” states the 2003 Proxy Voting Principles and Guidelines. “Management’s priority should be to enhance sustainable long-term profitability.” The CPPIB maintains stock options run counter to this objective.
“Stock options are problematic in many areas, including their effectiveness in aligning management interests with those of shareholders, (and) their tendency to focus management on short-term performance,” states the CPP guidelines.
Stock option programs have come under fire after high-profile corporate scandals that have brought an intense focus on corporate governance. Critics charge that executives with stock options become focused on driving up the value of their options rather than making the best long-term decisions for the company, and that the excessive granting of options dilutes the value for other shareholders.
The CPPIB said some forms of stock-based compensation are acceptable, such as stock grants, so long as they are linked to the achievement of long-term objectives. “It aligns management’s interests with all possible future stock prices,” it stated.
Raymond Murrill, a compensation specialist with consulting firm Watson Wyatt, said the CPPIB may be overreacting.
“They are going to have some situations where stock options make a lot of sense for the shareholders and they (the CPPIB) are going to automatically vote ‘no.’ That just doesn’t make a lot of sense,” he said.
Other large investors, like the Ontario Teachers’ Pension Plan (OTPP) and Ontario Municipal Employees Retirement System (OMERS), “don’t like options but they put up with them. They want to cut them back but they are not going to automatically vote against them,” he said.
The OTPP addressed stock options in its 2003 guidelines but did not call for an outright cessation to the practice.
“We assess proposed stock option plans on a case-by-case basis,” stated the OTPP guidelines.
“Stock option plans increase the number of shares of a company and therefore dilute the value of existing shares. While stock option plans can be an effective compensation tool in moderation, they can be a concern to shareholders and need to be closely watched.”
The CPP decision is unlikely to have much of an impact in the short term but it is another development that might cause HR departments to re-examine how they have been using stock options to compensate employees, said Murrill.
The increased pressure from institutional investors to change options granting practices comes at a time when the Canadian Institute of Chartered Accountants (CICA) is set to introduce new accounting rules that will, in effect, make it more expensive for companies to grant stock options.
Currently, when an employer grants stock options to employees, it does not register as an expense since there is no immediate cost to the company. For years, critics have complained the growing practice not only dilutes share value but distorts impressions of the value of a company. They have called for stock options to be included as an operational expense and CICA is about to answer the call.
Public consultation is being held on a series of proposed changes until March 31. The changes would force companies to expense all stock options and it is almost certainly going to happen, said Alex Wooley, a spokesperson for CICA.
Paul Cherry, chair of the Accounting Standards Board, the body responsible for establishing standards of accounting, has said it is their intention to change the rules and it would take a fundamental flaw in the proposed changes to prevent them from going through.
“The new standard will probably be issued later this year,” said Wooley.
The Canada Pension Plan Investment Board (CPPIB), said it wants companies it invests in to stop granting stock options to executives and employees because they encourage short-term thinking.
“We will support boards and management teams through difficult periods as long as their long-term visions and strategies are clear and compelling,” states the 2003 Proxy Voting Principles and Guidelines. “Management’s priority should be to enhance sustainable long-term profitability.” The CPPIB maintains stock options run counter to this objective.
“Stock options are problematic in many areas, including their effectiveness in aligning management interests with those of shareholders, (and) their tendency to focus management on short-term performance,” states the CPP guidelines.
Stock option programs have come under fire after high-profile corporate scandals that have brought an intense focus on corporate governance. Critics charge that executives with stock options become focused on driving up the value of their options rather than making the best long-term decisions for the company, and that the excessive granting of options dilutes the value for other shareholders.
The CPPIB said some forms of stock-based compensation are acceptable, such as stock grants, so long as they are linked to the achievement of long-term objectives. “It aligns management’s interests with all possible future stock prices,” it stated.
Raymond Murrill, a compensation specialist with consulting firm Watson Wyatt, said the CPPIB may be overreacting.
“They are going to have some situations where stock options make a lot of sense for the shareholders and they (the CPPIB) are going to automatically vote ‘no.’ That just doesn’t make a lot of sense,” he said.
Other large investors, like the Ontario Teachers’ Pension Plan (OTPP) and Ontario Municipal Employees Retirement System (OMERS), “don’t like options but they put up with them. They want to cut them back but they are not going to automatically vote against them,” he said.
The OTPP addressed stock options in its 2003 guidelines but did not call for an outright cessation to the practice.
“We assess proposed stock option plans on a case-by-case basis,” stated the OTPP guidelines.
“Stock option plans increase the number of shares of a company and therefore dilute the value of existing shares. While stock option plans can be an effective compensation tool in moderation, they can be a concern to shareholders and need to be closely watched.”
The CPP decision is unlikely to have much of an impact in the short term but it is another development that might cause HR departments to re-examine how they have been using stock options to compensate employees, said Murrill.
The increased pressure from institutional investors to change options granting practices comes at a time when the Canadian Institute of Chartered Accountants (CICA) is set to introduce new accounting rules that will, in effect, make it more expensive for companies to grant stock options.
Currently, when an employer grants stock options to employees, it does not register as an expense since there is no immediate cost to the company. For years, critics have complained the growing practice not only dilutes share value but distorts impressions of the value of a company. They have called for stock options to be included as an operational expense and CICA is about to answer the call.
Public consultation is being held on a series of proposed changes until March 31. The changes would force companies to expense all stock options and it is almost certainly going to happen, said Alex Wooley, a spokesperson for CICA.
Paul Cherry, chair of the Accounting Standards Board, the body responsible for establishing standards of accounting, has said it is their intention to change the rules and it would take a fundamental flaw in the proposed changes to prevent them from going through.
“The new standard will probably be issued later this year,” said Wooley.
