If Ceo Pay Makes You Sick, Don't Look At The Stock Options

Memo to Phil Donahue:

Dear Phil: You've broached every topic from tough love to transvestite teens. Why not executive stock options? Companies are handing them out by the hundreds of thousands--and even you, Phil, and your rival Sally Jessy Raphael are on the gravy train. What about it?

It's true. Like many of the nation's top chief executives, even Phil Donahue's compensation includes that most luscious executive perk: the stock option. Multimedia Inc., the syndicator of talk shows, has handed Donahue more than 1 million options--150,000 in 1991 alone--that show a paper gain of $20.5 million.

It's enough to warrant one of those wild, audience-participation free-for-alls for which Donahue has become famous. Phil certainly wouldn't have a shortage of executive guests to book for such a show: This year, amid a storm of controversy over pay for the top brass, many of the nation's largest corporations are ladling out record stock options to their chief executive officers.

HUGE GRANTS. Some of them are mind-boggling. Atop the heap so far is Leon C. Hirsch, chairman of U.S. Surgical Corp., who was handed options on 2.75 million shares in 1991--a tidy package already worth nearly $120 million. AT&T, Equimark, Merrill Lynch, Paramount, Philip Morris, and Westinghouse have joined the rush, each dishing out 300,000 shares or more to their chieftains.

Stock options are nothing new. Since the 1950s, companies have been giving their senior managers options to buy stock at a set price. Executives can exercise those options up to 10 years later, when the stock may be trading well above the option level. They were designed to provide managers with a strong incentive to perform well over the long haul. With few exceptions, however, the grants were small.

What's different today is the size and use of these rewards. Instead of handing retiring Chairman Hamish Maxwell a gold lighter, for example, Philip Morris Cos. last year handed him options on 500,000 shares--a goodbye gift already worth $10.4 million. "Even Tiffany's best doesn't cost a fraction of what Maxwell is likely to get," says pay critic Graef S. Crystal.

Maxwell is not alone. Merrill Lynch & Co. last year tossed a 300,000-share option grant to Chairman William A. Schreyer, even though he retires next year. Schreyer's prize shows a paper gain of $10.1 million, largely because of a rally in brokerage firm shares. "As the CEO, he's making strategic decisions that have long-term implications," explains Herbert M. Allison Jr., Merrill's chief financial officer. "It's fully appropriate to give him a long-term grant of options."

Some shareholder advocates consider huge option grants "outrageous" because they can unleash millions in rewards even if the stock merely matches the return of a risk-free Treasury bill. "With these big grants, chances are a CEO can put his feet on the handlebars and coast his way to extraordinary wealth," complains United Shareholders Assn. President Ray V. Whitworth.

What's behind the sudden largess? Several pay consultants believe it's a hangover from the leveraged-buyout craze of the 1980s. In most LBOs, 10% to 15% of a company's outstanding stock options were set aside for the management team. That compares with less than 3% in most public corporations. Peter T. Chingos, a consultant with KPMG Peat Marwick, says some of the larger option awards may be part of an effort to match the rewards given to managers involved in LBOs.

DEFENSIVE. In many cases, the outsize awards are going to chief executives whose companies have performed well--including Philip Morris and Merrill Lynch, where spokesmen defend the grants by citing their company's recent performance. That's also true of U.S. Surgical, the Norwalk (Conn.) medical products firm. The company's market value has jumped to $5.8 billion last year from only $400 million in 1988. Hirsch has said that his performance justifies his 2.75 million option grant--the second largest. The biggest, 4 million, went to H. J. Heinz Co.'s Anthony F. J. O'Reillyin 1990.

Still, Hirsch went on the defensive, even writing a column about it in U.S. News & World Report. "If I don't make the grade, I don't get the bonus, and my stock options don't appreciate," wrote Hirsch, who would not discuss the issue with BUSINESS WEEK. What he did not note was that in the previous three years, he had received optionson 1.6 million shares--now worth $225 million. For every $1 rise in Surgical's stock price, Hirsch stands to gain $5.9 million, thanks to four years of options.

Sometimes, executives take cuts in cash pay, only to receive sizable option grants worth far in excess of a single-year salary cut. At Westinghouse Electric Corp., Chief Executive Paul E. Lego saw his pay and bonus last year cut by $1.5 million. But the company also decided to grant him the option to buy 700,000 shares at $22.28 each. Because the company's stock now trades below $19, the option is worthless.If Lego can move Westinghouse's stock upward, however, he stands to gainmillions.

In other cases, companies are upping the ante partly to keep up with the Joneses. American Telephone & Telegraph Chairman Robert E. Allen last year was granted options on 312,526 shares, up from only 44,898 a year earlier. The greatest part of the award was a one-time grant of 250,000 options that an AT&T spokesman says was made in part to keep Allen's compensation package competitive. In Allen's case, however, most of the options are priced at a premium to market.

Many consultants agree that this latest round of mammoth grants is likely to push spiraling executive pay even higher, as smaller companies follow the lead of corporate giants. Just the stuff for a wild debate on Donahue.

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