Options

There is a very interesting discussion of stock options going on at VentureBlog, the excellent blog written by the guys at August Capital.

The post was initiated by a survey by Deloitte and Touche that found that 73% of public companies surveyed have either decreased or have plans to decrease the number of options they issue. And David Hornik’s concern was that reduced employee ownership levels would ultimately result in reduced innovation, which is clearly a bad thing.

I personally think this is a natural response to the overheated talent market of the late 90s when you had to pay exorbitant amounts of equity to retain and keep valuable employees. Now that the job market is back to normal, equity ownership levels will come back too. I think that is all that is happening.

I loved the comment made by Tubby Bartles that this isn’t something to get all that worked up about because markets are efficient. Tubby argues that the cost of options has always been something sophisticated investors have known about and have taken into account and that reducing the number of options issued now that they have to be expensed isn’t going to make a difference one way or another.

I agree with Tubby. First, cash flow is what matters. Expensing options won’t impact cash flow. Sure options impact the true ownership. But venture capital firms and sophisticated public investors have always looked at “fully diluted” ownership levels so they have been taking into account the dilution from options for a long time.

Markets are self correcting. The people who buy public stocks or buy companies (in other words the people who ultimately pay us for the ownership we buy or earn in startup companies) will figure out what the companies are really worth and won’t have too much trouble dealing with whatever the new accounting rules throw at them. And the people who run companies (CEOs and their Boards) will do whatever it takes to attract, retain, and reward the talented people who are needed to make their companies succeed.

That is capitalism at work. And that’s why its the greatest economic system ever invented.