Stock compensation time ! You may or may not know how much I hate the stock-based rewards that companies use to reward executives. Here is a comment on that by Warren Buffet. Also something to look at when your reading financials.
Stock-based compensation is compensation, isn’t it?
To be clear, Buffett also sometimes strays from GAAP in his effort to more accurately portray financial performance. But he cautions that the path away from GAAP is a slippery slope towards outright financial deception. And in his diatribe, he singles out one very real expense that executives love to ignore.
“Stock-based compensation is the most egregious example,” Buffett said. “The very name says it all: ‘compensation.’ If compensation isn’t an expense, what is it? And, if real and recurring expenses don’t belong in the calculation of earnings, where in the world do they belong?”
Buffett has been arguing this point for as long as companies have been excluding this expense from their income statements.
“This Alice-in-Wonderland outcome occurs because existing accounting principles ignore the cost of stock options when earnings are being calculated, even though options are a huge and increasing expense at a great many corporations,” Buffett said in his a letter to Berkshire Hathaway shareholders “In effect, accounting principles offer management a choice: Pay employees in one form and count the cost, or pay them in another form and ignore the cost.”
There are many reasons why a company may ask investors to ignore stock-based compensation. For one, stock-based compensation does not represent an immediate cash outflow from operations in the way that a salary or hourly wage will. And for options, it can be very difficult to estimate what the ultimate cost of this compensation may be since there’s no telling where the stock price will go and when the employee may exercise.