STOCK OPTIONS AND EXECUTIVE PAY

For more than a decade, Senator Levin has expressed concerns about runaway corporate executive pay that is unrelated to company performance, excessive in amount, and paid even when the owners of the company – the shareholders -- object to the level of compensation.

Since the 1980s, the pay of chief executive officers at U.S. corporations has skyrocketed. Since 2000, average annual CEO pay at the largest U.S. publicly traded companies has ranged from $7 million to $13 million. U.S. CEO pay is now 300 to 500 times greater than average worker pay. In addition, most U.S. CEOs receive lavish severance payments, pension plans, life insurance, and other employment benefits not available to other company employees.

For the last ten years, a large part of CEO pay has come from stock options. Stock options enable executives to pay a set amount for shares of their company’s stock, even if the stock price is higher on the market. U.S. CEOs have used stock options to obtain millions of dollars in compensation, by buying company stock at the lower set price and then selling the shares for a profit. For example, in 2000, Enron’s CEO used stock options to obtain $123 million, while in 2001, a CEO of a high tech company obtained stock option profits of over $700 million in a single day.

Senator Levin led the Senate effort to support a proposal by the Financial Accounting Standards Board (FASB) to reform U.S. accounting rules that allowed companies to omit stock option expenses from their financial reports, even when the companies reported these expenses on their tax returns to reduce company taxes. After a decade of political opposition to this reform, FASB was able to implement the expensing rule in 2005. Some companies award stock options to average workers, but a large majority are awarded to executives. In fact, a recent Bureau of Labor Standards report found that, in 2000, only 1.7 percent of non-management employees in the United States actually received any stock options at all.

Senator Levin held his first hearing on these issues in 1991. That hearing presented evidence of rising CEO pay unrelated to company performance. Over the years, Senator Levin testified at hearings and introduced legislation on a variety of executive pay issues. In 2002, Senator Levin examined pay practices at Enron Corporation as part of a yearlong investigation conducted by the U.S. Senate Permanent Subcommittee on Investigations, which he then chaired.

A bipartisan subcommittee report found that the Enron Board of Directors approved excessive compensation for company executives. The report noted, for example, that in 2000, Enron’s CEO was paid more than $140 million, including $123 million from stock options, while another executive was paid $265 million, entirely from stock options. The report also found that the board failed to monitor the cumulative cash drain caused by Enron’s 2000 annual bonus plans which, collectively, paid executives $750 million in cash bonuses in a year when the company’s entire net income was $975 million.

The subcommittee report also found that the Enron board had failed to monitor or halt abuse by the CEO of a company-financed, personal credit line that the CEO used to take out over $77 million in cash from the company and repaid these “loans” solely with Enron stock.

View or download report:
The Role of the Board of Directors in Enron's Collapse - May 7, 2002 [PDF]

Senator Levin also pointed out how Enron had used stock options to avoid paying U.S. taxes while overstating company earnings. For example, Enron had failed to pay U.S. income tax in four out of five years, from 1996 to 2000, despite alleged revenues totaling $1.8 billion. To avoid paying about $625 million in taxes on its $1.8 billion in income, Enron apparently claimed stock option tax deductions totaling almost $600 million. At the same time, Enron never reported this $600 million as an expense on its financial statements. Enron was able to do so, because U.S. accounting rules allow stock option compensation to be kept off a company's books as an expense, even when taken as a business expense deduction on the company’s tax return.

These accounting rules, when combined with federal tax rules, allow U.S. companies to tell Uncle Sam one thing and its shareholders the opposite. That's just what Enron did – it lowered its tax bill by claiming stock option expenses on its tax returns, while overstating its earnings by leaving stock option expenses off its financial statements.

Senator Levin has fought for a number of executive pay reforms over the years. While he does not believe the federal government should establish compensation levels, Senator Levin has successfully fought for other reforms such as requiring publicly traded companies to provide better disclosure of executive pay, and enabling company shareholders to file proposals protesting excessive executive pay and recommending curbs on unreasonable compensation. Senator Levin also supported the ban on company loans to executives included in the Sarbanes-Oxley corporate reform law, and is fighting ongoing efforts to narrow or weaken this ban.

Links:

Press release, Levin Statement on FASB Rule on Expensing of Stock Options, December 16, 2004

Small Business Comittee statement, Levin Statement on the Impact of Stock Option Expensing on Small Business, April 28, 2004

Press release, Section-by-section analysis for S. 1940, Ending the Double Standard for Stock Options Act, February 13, 2002