NEW YORK (Bloomberg) — Much of American industry spent a good part of the past decade fighting demands that it count stock options as an expense that reduces earnings.It lost that battle after the stunning collapses of Enron Corp. and other corporate malefactors, where executives used all sorts of shenanigans to keep share prices up so they could exercise their stock options and get rich. A 2005 rule change by the Financial Accounting Standards Board ended all that fun.

You had to figure that business leaders, clever folks that they are, had answers. Some, like Microsoft Corp., did away with options and switched to free-share grants. Others designed long-term incentive plans that pay for achieving profit goals or delivering total returns that beat a major market index.

There is a subtler response as well: shortening the time in which an option may be exercised. Because of the way options work, a reduced life expectancy lowers its value — and the cost to the company.

Think about a stock option: It’s a right to buy a share at a specific price within a certain period of time. Even an option with an exercise price above the current stock price has a value. That’s because at some time in the future the stock price may rise above the exercise price.

Until recently, most companies issued options with terms of ten years. Why ten years? Well, that was because the federal government once offered favourable tax treatment to options that conformed to certain rules. One of those was that an option couldn’t carry a term of more than ten years.

Those rules are history, but the notion of a ten-year term lived on. The odd thing was that most companies found that it was the rare employee who waited a decade to exercise his or her options.

That confounded the academics, who argued that since an employee option can’t be sold but only exercised, it shouldn’t be exercised until near the end of its term. Otherwise, the premium value on the remaining term is lost.

But the academics didn’t understand that most employees are not well-diversified. They have most of their assets in a house and in company stock and company stock options.

Years ago, Ira Kay, a compensation consultant with Watson Wyatt Worldwide, advanced the notion that employees weren’t that rational — the stock price doubles, say, and they exercise the option no matter how many years remain before its expiration.

Here’s how shortening the option term works in reality.

Say Lehman Brothers Holdings Inc., the New York-based securities firm, issued an option with a ten-year term and a strike price of $76.58 (Lehman’s closing price on November 24). The option, based on its value today, would be worth $33.81 a share. But if the term is lowered to five years from ten years, which is what Lehman has done, the value declines to $24.04 a share. That’s a savings of 29 percent, all to the benefit of net income in the year the option is issued.

Another case in point is DuPont Co. Before 2004, DuPont relied almost exclusively on stock options as its long-term incentive of choice.

It then decided to start charging earnings for the cost of stock options in advance of the FASB ruling — a move that a handful of companies took.

In the process of examining its long-term compensation strategy, DuPont decided, as spokesman Carl Lukach put it, “to dial down the stock-option element” and to add two new elements: free shares that vest over the passage of time and free shares that vest only if certain performance goals are met.

At the same time, DuPont also decided to decrease the term of future option grants to six years from ten. As Lukach noted, few if any DuPont employees waited until the end of the former ten-year terms anyway.

Indeed, because of employee behaviour, cutting the term of a stock option may be a way to cut compensation costs without diminishing pay to employees. Many, if not most, employees won’t even notice the shrunken option term because they weren’t planning to hold the option until its expiration.

Here are some examples of companies that have adopted option terms of less than 10 years:

Company (years)

General Dynamics Corp. 5

Lehman Brothers 5

Lennar Corp. 5

DuPont Co. 6

Micron Technology Inc. 6

Adobe Systems Inc. 7

Applied Materials Inc. 7

Advanced Micro Devices 7

Amgen Inc. 7

Harrah’s Entertainment 7

Humana Inc. 7

Ryder System Inc. 7

Whole Foods Market Inc. 7

Starwood Hotels 8

Novell Inc. 8

Sotheby’s 9

Cisco Systems Inc. 9

Source: Standard & Poor’s ExecucompSo what are we to conclude from all this? Executives, so often accused of having only their own bank accounts in mind, are doing something that should be welcomed by shareholders as well.Graef Crystal is a columnist for Bloomberg News. The opinions expressed are his own.