Rule #1 Finance Blog

With Investor Phil Town

EXPENSING OPTIONS

Here's a quick Q&A submitted by Lee, who wrote the two Rule #1 book reviews about a week back.  Lee has an accounting question, as follows:

Hi Phil Town,

I've been re-running the numbers on several companies using their 2006 Q1 results and Fiscal Year 2006 projections. Many companies are discussing the impact of FAS 123R, which apparently forces them to expense stock options exercised in the quarter. The result is that they report two income/EPS numbers: one comparable to the previous year, and (a lower) one that reflects the hit for the options. I imagine that this will continue for some time until all quarterly numbers include stock option effects.

How are you dealing with this in Rule #1 calculations?

– lee r.

My response:

I'm all for looking at the more conservative number.  If they weren't expensing options, then the net income number was kind of a fraud, really.  So I'm using the lower one.  When it comes to what that does to the growth rate, treat it like an anomalous earnings year.  An aberration.  Something that hopefully lowers the price of the stock well below the value but doesn't really affect the long term predictability of the business.  A one time hit.

Now go play say Phil Town.