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The point of the issue with GAAP is deducting as an expense the *granting* of the option, whether or not is is ever exercised. At that point, the company has spent no money, taken in no money, and the shareholders are not impacted since that only happens when the options are exercised.

But that's not true. Shareholders are certainly impacted.

We've already established that options have value. Those options could have been sold on the market and the money pocketed by the company. By giving those options to employees at no charge, they have cost the shareholders the money that could have been raised by selling the options.

In the grant, no cash goes anywhere.

Right. I addressed that above. The grant has value - value which was granted to the employee. If you disagree, feel free to give me any options you have been granted. Apparently you feel they have no value since no cash changed hands. That value could have been realized as cash. Instead, the value was realized by obtaining the services of the employee.

The exercise, if anything, brings cash *in* to the company.

While this is also true, it is incomplete. MORE money would have come into the company had the stock been sold on the open market. Assuming, of course, that the exercise price is below the current market price, which is the typical case. That is also a form of compensation to the employee. The employee purchased stock at a price less than it's current market value.

The whole point of GAAP is to create a uniform way of comparing company financials so that one knew that one was looking at an equivalent statement and not some statement where strange handling was distorting key elements.

Exactly.

Great idea, but if one creates a rule that systematically punishes companies that do something like use options as a part of their compensation

Don't you see? This statement is completely at odds with the one I quoted immediately above. The rule requiring expensing of options doesn't punish the company issuing the options. It makes their statements uniform with the one that doesn't issue options.

Consider this: One company pays it's employee $100,000 in cash. The other pays the employee $80,000 in cash and gives them an option that is valued at $20,000. Why should one report $100,000 of wages expense and the other report $80,000? They both compensated their employees the same amount. It is only the form of compensation that is different.

Or another example: One company pays it's employee $80,000 in cash plus a stock option. The other pays $100,000 in cash, but let's the employee buy the same stock option for $20,000 - which the employee does. How are these two companies in a different position after all of the transactions? They each are out $80,000 in cash and each have given the same stock option. Why would they be treated differently for accounting purposes?

--Peter
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