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Jobs' Options: Worth $872 Million? Or Zip?

By Rob WalkerPosted Wednesday, July 18, 2001, at 11:30 PM ET

Recently Fortune ran a very fine story promoted on the magazine's cover with the words "Inside the Great CEO Pay Heist" over a photograph of Steve Jobs; smaller type noted the Apple chief's "$872,000,000 options grant" in 2000, "the largest ever." The current Fortune, however, includes a letter from Jobs that puts a different value on those options: $0. Who is right?

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The $872 million figure refers not to the worth but to the "face value" of Jobs' grant: The number of shares times the per-share market price on the date the options were granted. According to Apple's 2000 10-K, Jobs received an option on 20 million shares, then valued by the market at $43.59 each, or roughly $872 million. This does not mean (as Fortune noted inside the issue) that Apple's board put $872 million in Jobs' pocket. Options are only worth something if a share price rises, and if they do, then what they are worth is the difference between the higher share price when they are cashed in and the "exercise price" (often, as in this case, the market price) set at the time of the grant.

This brings us to Jobs' beef: What Fortune's otherwise insightful article neglected to mention is that Apple shares have fallen off a cliff since Jobs' grant. In recent months (including the period before that issue of Fortune went to press) it's traded at between about $20 and $26 a share. Meaning that at the moment at least, Jobs' options are worthless. So Jobs has a point here. Fortune should have shared these straightforward facts in its piece, particularly since they apply not to someone mentioned in passing but to the issue's cover boy. On the other hand, these things happen, and Jobs is being a bit disingenuous himself: The essence of what Fortune was complaining about was how much CEOs want and how much boards are willing to give them these days. At the time Jobs got his grant, it did indeed look incredibly generous, even if it looks considerably less so now.

What's odd, actually, is that Fortune chose to play up the grant's face value in the first place because it's a number of secondary usefulness when you're trying to grasp the worth of an options grant. One reason the face value was so large is that the number of shares was high, but the other reason is that those shares were, at the time, pretty pricey. If the grant were made today, its face value would be around $500 million, which would fall short of the "largest ever" mark—but which would no doubt be far preferable to Jobs, who would obviously be more likely to make a lot more money on the deal. This is why face value is not the most interesting number.

So what's a better way to estimate the worth of an options grant? It's always tricky because the answer involves future share performance, which is unknowable. Still, public companies are required to put some kind of value on options grants to executives, and one crude method, employed by Apple among many others, is to simply state what the grant would end up being worth if held for the full length of its term and if shares uniformly rose 5 percent or 10 percent a year. These are obviously fanciful scenarios, but they're also widely used, and for what it's worth Apple's 10-K uses them to note that the "potential realizable value" of Jobs' grant was $548 million (at the 5 percent clip) or nearly $1.4 billion (at 10 percent).

Another method for calculating the value of an options grant is the famous Black-Scholes model, but there's no point getting into that here because Fortune used a third method: "We have valued [Jobs'] monstrous options grant at one-third the exercise price of the shares optioned." (This logic is elsewhere explained as following a "rule of thumb.") So that's $291 million, to which Fortune adds $90 million for the Gulfstream jet that Apple's board famously gave Jobs as a bonus. Thus $381 million, which is the number Fortune uses in the actual piece. And in its response to Jobs' letter, the magazine concedes that it "should have stated in the story that Jobs' options are currently underwater," which ought to close the issue.

But there is an epilogue. Fortune's response goes on to note that since Jobs' options don't expire for 10 years, "if Apple stock appreciates for the decade after the grant at the rate it did for the decade before (about 9.2 percent annually), his 20 million options would give him a gain of $1.2 billion."

Of all the numbers attached to Jobs' options grant in this episode, this one is actually the least plausible. It's also argued in by far the most misleading terms since (with surprising chutzpah) it ignores the current state of Apple's share price—precisely the omission that bugged Jobs and that the magazine just admitted was a mistake. In fact, if Apple starts rising an impressive 9.2 percent annually from its share price now (let's use $25), it would take about six years to get back to the point where Jobs' options are worth a dime. The grant now expires in about eight and a half years, but for simplicity's sake call it nine: At the end of that period, Apple shares would reach about $55.5. Multiply the difference between that and the price when the grant was awarded (about $11.80) by 20 million shares (here, finally, is where the size of the grant matters) and you get $236 million.

That's probably more money than I'll make writing for Slate this year, but a) it assumes a briskly rising share price, and b) it sure isn't $1.2 billion. For Jobs to enjoy a gain in that ballpark, Apple shares would have to hit nearly $104, which is more than four times the current price and would require an average annual rise of about 17 percent over the next nine years. If Fortune figures that's going to happen, don't tell us about it in the letters page—tell us in the stock-picking columns.

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Rob Walker writes the Ad Report Card for Slate.

Photograph of Steve Jobs by Ed Kashi/Corbis.

COMMENTS

Reader Comments From The Fray:

The one-third "rule of thumb" is sadly used in some boardrooms, but is inappropriate for a volatile technology company. The growth rate approach is simplistic, and not even discounted to present value. The Black-Scholes model, while also imperfect, deserves a little more than "there's no point getting into that here." A Nobel Prize was awarded for its development, after all. Not being one to dwell on criticism though, here are some valuations under the Black-Scholes model:

Value of Jobs' options at grant (1/12/00) = $630m
Value of Jobs' options today (7/18/01) = $296m

Clearly indicating that Jobs' wealth as CEO is tied to share price performance and that to contend that these options are worthless is silly. Apple's share price underwent its decline over a period of 18 months--why is the reverse movement so unfathomable?

Here's the interesting story that Moneybox misses. From Apple's most recent proxy statement:

"Of the options granted to Mr. Jobs, 10 million options were immediately vested and exercisable on the date of grant; 5 million vested in July 2000; and the remaining 5 million will vest in July 2001."

Shareholders don't divvy out equity to their executives because they like income inequality. They do it (chiefly) to evoke behavior, and one of these behaviors is not jumping ship (retention). A typical vesting schedule for a CEO is 4-5 years. 18 months for a grant of this size is completely unnecessary and robs shareholders of one of the key benefits of equity-based pay. Had Apple's share price gone in a different direction, say up to $60, Jobs could have exercised right about now for $330 million and walked. Maybe next time.

--Agency Theory Guru

(To reply, click here.)

Walker buys Jobs' claim that the options should be valued based on what they are worth today, rather than what they were worth when granted. Yes, the stock went down, but it really has no effect on a historical number: how much the options were worth when granted. If someone gives you a $1000 bet on red on the roulette wheel they are giving you a little less than $500. If black comes up you lose, but it doesn't change the value of what you were given at the time you got it.

Nor are Jobs' options worthless. If you don't believe me call Jobs up and offer him $100 for them. See what he says.

--Bernard Yomtov

(To reply, click here.)

(7/19)

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