Sky-High Prices for Web Stocks
Spark Debate on Option Values


Experts are having fits trying to keep up with the dizzying run-up of Internet stock options.

Take the case of Margaret Whitman, the eBay Inc. president. Did her slew of 1998 stock options transform her into an Internet billionaire or not? One executive-search firm values her package at nearly $1.2 billion on paper. But the Web auctioneer itself reported that exercising the options produced a more modest gain: $42.7 million.

Who's right all depends on how you count options -- and when. A debate is raging over how to assess the cornucopia of options commonly doled out by Internet companies. In this young, highly volatile industry, traditional valuation models seem pointless.

Now, even the U.S. Securities and Exchange Commission is giving the matter another look. Noting that the agency is reviewing its proxy-disclosure rules for executive pay, last revised in 1992, an SEC spokesman says, "Valuation of options is certainly something we're looking at."

The options debate is also changing the cat-and-mouse game of recruiting employees, especially in the Web world. The stratospheric values being bandied about are spurring job-hoppers everywhere to expect -- and demand -- eye-popping packages of their own.

At the heart of the debate is the hottest engine of the boom in bull-market wealth.

For years, companies have valued stock options one of two ways, as required by the SEC. The first involves projecting the options' value at their expiration, assuming either a 5% or 10% annual gain in the share price. The other uses something called the Black-Scholes formula. It's a complex model that measures the initial expected value of options partly based on certain economic assumptions that may damp stock prices down the road.

But in the revved-up world of Internet stocks, some compensation experts say, both approaches clearly undervalue the paper wealth many executives are amassing. Using a novel but disputed approach, search firm SpencerStuart came up with the estimate that Ms. Whitman's 7.2 million eBay options had a value of nearly $1.2 billion on paper. And that figure makes her the nation's highest-compensated Internet leader, concludes SpencerStuart's recently released study of 1998 cash and option awards for 486 senior officials at about 70% of all public Internet concerns.

To adjust for high volatility, the New York search firm measured options' value by averaging the stock prices of those 155 Internet businesses over three days earlier this year: April 6, May 6 and June 18.

SpencerStuart is a major headhunter with a sizzling Internet practice, and it will undoubtedly tout its findings to negotiate bigger executive pay deals. Still, its approach -- using a somewhat arbitrary measure, but involving three days of actual stock trading -- looks more grounded in reality.

EBay's latest proxy statement, for instance, reports that Ms. Whitman realized her $42.7 million paper gain from exercising those 7.2 million options just before its wildly successful initial public offering at $6 a share last fall. The online auctioneer had granted them at seven cents a share when the Hasbro Inc. manager took the No. 1 job early last year.

The $42.7 million gain fails to reflect the subsequent trajectory in eBay's stock price, which hit a 52-week high of $254 and closed Friday in Nasdaq trading at $133.50, up $12.0625. Ms. Whitman, 43 years old, declined to comment.

Executive Compensation Advisory Services, a consulting company in Alexandria, Va., pegs the Whitman options' initial value at $450,223, based on a modified version of Black-Scholes developed for a coming book on high-tech pay. "All option valuations are guesstimates at best," concedes Carol Bowie, publications director of the company.

The SpencerStuart method "is kind of silly," argues Alan Johnson, managing director of New York pay consultants Johnson & Associates. "It's not a valuation. It's a projection," he says. Ms. Whitman "bought a lottery ticket at seven cents a share, and now the ticket is worth $1 billion. Was the lottery ticket initially worth $1 billion? Of course not."

"We call this a commonsense approach toward valuing these things," retorts James Citrin, a SpencerStuart managing director. "It's a hybrid between what you got and will get in the future," he explains. "It will fuel the continued debate and jaw-dropping over the value of the most successful Internet CEOs."

Indeed, the options boom is already spurring many major company executives to seek bigger packages from young Internet ventures mulling an initial public offering. They're disregarding the SEC-mandated evaluation methods and instead using private calculations to wrangle a large enough equity stake that they could someday become a dot-com gazillionaire, too.

In the past, chief executives who didn't found their companies typically received options to buy between 4% and 6% of a start-up's shares, pay specialists say. Compare that holding with Robert Zollars's options stash: He confirms he got options to acquire 10% to 12% of Neoforma Inc. when he became chairman, president and chief executive in June.

The closely held Santa Clara, concern catalogs and sells medical supplies online. Mr. Zollars, 4l years old, previously was a $350,000-a-year executive vice president of Cardinal Health Inc., a big distributor of medical products that also manages health-care data. He figures his exit cost him several million dollars of unexercisable Cardinal options.

"There had to be a meaningful upside to me and my family, because I was taking a risk," the new CEO recalls. "In the Internet world, you are starting from scratch." He expects to take Neoforma public someday.

Armed with SpencerStuart's options analysis, "a number of people out there will double or triple what they think they're worth. But they may not be worth double or triple," says Rudy Puryear, president and CEO of Lante Corp., an Internet consultancy in Chicago that also plans to go public.

Lante, whose backers include Dell Computer Corp., attracted Mr. Puryear, a $2 million-plus Andersen Consulting partner, in late June with an options package that would give him about a 7% stake, according to informed individuals. "There are a number of places I could have gone where there was an opportunity to cash in [options] pretty quickly," Mr. Puryear says. "Compensation was one of maybe five factors that made Lante a really good fit."

But as he recruits senior managers, the 48-year-old Lante leader is concerned about the immediate-gratification factor. "I want to attract people who don't want to get rich overnight," he says. "This is not a casino."

His strategy: woo prospects from traditional service firms and Internet upstarts whose "stock price isn't doing so well."