bythesameunitwhethertheoptionisout-of-the-moneyand
hasthreeweekslefttoexpirationordeepin-the-moneyand
hasfiveyearslefttomaturity.Clearly,firmsthathavemore
of thelatter should trade atlower market values(for any
givenlevelofearnings)and willlook cheaperonadiluted
basis.
Whatisthesolution?Theonlywaytoincorporatetheeffect
ofoptionsintoearningsmultiplesistovaluetheoptionsat
fairvalue,usingthecurrentstockpriceasthebasis,andadd
this valuetothemarket capitalizationtoarriveatthetotal
market value of equity.
26 This total market value of equity can be divided by
aggregatenetincometoarriveataP/Eratiothatincorporates
(correctly)theexistenceofoptions.Thiswillallowanalysts
to consider all options outstanding and incorporate their
characteristics into the value.
Thenetincomeusedshouldbetheearningsestimatedonthe
assumption that employee options are compensation and
operatingexpenses.Withtheadoptionof123R,this should
become a little easier to do.
Everything thatwe havesaid aboutearningsmultiplescan
alsobesaidaboutbookvaluemultiples.Failingtoincorporate
thevalueofequityoptionsintothemarketvalueof equity
willmakeoption-heavy companieslook cheaperrelativeto
companiesthathavefeweroptionsoutstanding.Thesolution
isthesameasitwasforearningsmultiples.Estimatingthe
value of employee options and adding them to market