The new physics of stock options.

• Author: Rock, Robert H.
• Position: Letter from the Chairman

The laws of classical physics are no longer applied to executive stock option programs. When devising, or revising, these programs, the new physics of alternative histories and multiple universes has replaced Newtonian mechanics. According to compensation theorists, the stock market may never go down again, but if it does, option programs can be revised so as to defy gravity.

For the past several years, top executives have grown rich, very rich, on the back of the bull market. Take home pay is often several million dollars, and CEO compensation over $10 million is not that unusual today. Increasingly, these large awards result from stock option programs. For the CEOs of large public companies, approximately 40% of their total compensation derives from the exercise of stock options. Options in the '90s have been a bonanza, even for those executives whose companies have underperformed the overall market.

Despite the massive issuance of stock options, ownership levels of managers have not increased. A recent study by the Stern School of Business reveals that executives continue to immediately sell most of their shares acquired from exercising stock options. These sales are facilitated by provisions in their companies' stock option programs that enable simultaneous exercise-and-sell transactions. Although touted as programs that make managers think like owners, stock option programs appear more like short-term bonuses, given the unwillingness of executives to...