It wasn't so long ago that stock options were the equivalent of corporate America's lottery.
That still may the case be for a handful of Maryland executives. Among those who got mega-grants last year, Coventry Health Care Inc. CEO Dale B. Wolf collected a whopping 1 million options valued at about $36 million before he took over the top job.
But the prospect of new accounting rules and a stock market slump that left many options worthless have prompted companies nationwide to cut back their use of the once wildly popular compensation tool.
Microsoft Corp., which pioneered the practice of granting stock options to rank-and-file employees, made headlines when it dumped its program entirely two years ago.
To fill the void in executive pay packages, many companies are turning to a surer bet: cash and restricted stock.
"The trend is to use fewer options and instead give them other things," said Corey Rosen, executive director of the National Center for Employee Ownership, a research group in Oakland, Calif. "The net effect on CEOs isn't going to send their real estate agents scurrying to find other jobs. They can still afford to buy small countries."
The number of stock options awarded at Maryland's largest companies fell almost 40 percent last year -- excluding four grants of 1 million options or more, according to a report done by Aon Consulting. The value of options, excluding those big grants, dropped more than 15 percent.
Meanwhile, cash pay in salary and bonuses climbed more than 12 percent, and though the overall value of restricted stock didn't increase, several area companies are using more of the outright grants.
Options have fallen out of favor as most companies anticipate having to deduct the cost from their bottom line starting next year. The new rules from the Financial Accounting Standards Board are expected to erase billions of dollars in profits.
To reduce the impact on earnings, companies such as Baltimore's Provident Bankshares Corp. and Martek Biosciences Corp. of Columbia have accelerated the vesting of options to make them available now and avoid having to count them as an expense later.
Incentive to stay
Provident also will award restricted stock with options as part of compensation packages, and Martek is considering reducing or eliminating options.
Proponents of restricted stock say the actual shares, like options, align an executive's fortune with that of outside investors and give leaders an incentive to stay on at a firm. Unlike options, companies say, restricted stock doesn't subject executives to the vagaries of the stock market that can render options useless for years.
Restricted shares typically vest over time and confer the right to a full share, so fewer are needed to give the same value as options. That means a smaller number of shares on the market to dilute the stakes of all shareholders.
Stock options merely give the right to buy stock at a certain price, usually the price on the day of the grant, and the profit is how much the stock rises above that. If the stock tanks, the options are "underwater" and can't be exercised.
Black & Decker Corp. Chairman and CEO Nolan D. Archibald had his 2004 grant slashed in half to 150,000 options, but the company for the first time awarded restricted stock, and Archibald got $3.4 million worth.
"Stock options were somewhat ineffective because there could be no value, so that's why there is some interest in restricted stock," said Barbara B. Lucas, a senior vice president at the Towson-based tool manufacturer.
While options have been vilified for creating an incentive for executives to boost stock prices in the near term rather than focus on long-term performance, restricted stock could offer a better way, said Ciena Corp. general counsel Russell B. Stevenson.
"Stock options have an up side for the recipients but no down side. The stock goes down; nobody loses anything. They just don't get any benefit," he said. "Whereas if you own restricted stock, you own an asset and you benefit if the stock goes up and you lose if the stock goes down."
Ciena Corp., a Linthicum business that makes telecommunications equipment, cut CEO Gary B. Smith's grant to 230,000 options from 700,000 last year and awarded him restricted stock worth more than $400,000.
Hunt Valley-based Sinclair Broadcast Group Inc. and Optelecom Inc., a Germantown maker of fiber-optic equipment, also said they're considering changes to their stock option programs.
Options remain popular at some companies, especially high-tech firms that say they need the tool as a way to lure key employees. Guilford Pharmaceuticals Inc. in Southeast Baltimore gave its new CEO Dean J. Mitchell 1 million options worth an estimated $4.4 million. And Rockville's Human Genome Sciences Inc. granted its incoming CEO H. Thomas Watkins 1.25 million options valued at $10.3 million.
This year might be the last chance for companies to award options before they become too costly. "For companies that haven't already decided to expense options, this is sort of the last hurrah," said Allen Jackson of the management consulting firm Towers Perrin.Copyright © 2014, The Baltimore Sun