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The Securities and Exchange Commission’s chief accountant said Friday that while valuing employee stock options using certain market-based approaches “should be possible,” he still had “significant doubts” about using those methods. The statement from Donald Nicolaisen is not an out and out rejection of a proposal by network equipment maker Cisco Systems Inc., which wants to use a novel financial instrument that, in theory, would provide a market value for options that are issued to all company employees, but it also does not bless the approach. The debate over valuation of employee stock options has loomed large since a new accounting rule took effect June 15 that forces all companies to start treating stock options as a routine business expense when their new fiscal year starts. “Broadly speaking … it should be possible to design instruments whose transaction prices would be a reasonable estimate of the fair value of underlying employee stock options,” Nicolaisen said. However he added: “We have significant doubts… as to whether it would be possible to design a financial market instrument that would meet the requirements of the new rule.” “I do not believe at this point that it is possible to definitively conclude that the strategies that have been considered, or others that could be developed, would produce an estimate of fair value” to satisfy the rule, he said. The SEC simultaneously released a memo from its Office of Economic Analysis that took a much harder stance over its concerns about instruments that are similar to ones proposed by Cisco. It said that “there are inherent difficulties with such an instrument that will likely prevent its market price from being a reasonable estimate of fair value.” But, newly appointed SEC chairman Christopher Cox said because so “little empirical data” is available the views expressed are “tentative and subject to ongoing assessment.” He also said that for now, “it is not our intention to narrow the field and to limit experimentation, but rather to welcome it.” Cisco chief financial officer Dennis Powell said: “We are pleased that the SEC is encouraging continued dialog around potential ways of using a market instrument to value stock options. It is clear that a market-based approach would determine a real value as opposed to models that estimate theoretical value. We will continue an open dialog and pursue an approach that will lead to an objective, market-based valuation.” The new option expensing rule, promulgated by the Financial Accounting Standards Board and backed by the SEC, was fiercely opposed by Cisco and other technology titans because their widespread use in the sector is expected to raise their operating costs thus cutting into profits. One of the most contentious points of the debate has been over how to set a dollar value on stock options, which are contracts to buy shares of stock over a fixed period in the future for a predetermined price. After the controversial rule was adopted the SEC in March said that companies could choose from a variety of option valuation methods, including the widely used Black-Scholes model. Cisco then put forward its own alternative, a market-based idea and the SEC said then it would evaluate the proposal. Nicolaisen announced that he plans to resign next month after two years on the job as the SEC’s top accountant. The 61-year-old former partner at Big Four accounting firm PricewaterhouseCoopers said he plans to return to the private sector. Copyright �2005 TDD, LLC. All rights reserved.

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