Option backdating and its implications

Plaintiffs’ lawyers have seized upon this issue as yet another opportunity to bring cases against corporations and their officers and directors.

option backdating and its implications-10

However, the fact of the option grants, their strike price and their eventual profitable exercise are in most instances disclosed.

Thus, in the context of options backdating, substantial doubt exists as to the viability of shareholder claims.

All stemming from the practice known as “options backdating.” Options backdating occurs when a company issues stock options on one date, but reports in its financials an earlier issue date to create a “strike” or exercise price equal to the earlier date’s lower price.

Another consequence is that the company underrepresents the real nature of an executive’s compensation, perpetuating the myth that options are performance-based incentive compensation.

Not surprisingly, the defendants themselves earned millions of dollars from backdated options.

Another troublesome outcome for a corporation is that the SEC will bring civil fraud charges stemming from options backdating in all cases where criminal charges have been filed.Subsequently, the Securities and Exchange Commission (SEC) took an interest, followed by the securities plaintiffs’ bar and many corporations. The practice of options backdating, apparently widespread from 1996 through 2002, is widely believed to have been short-circuited by the enactment of Sarbanes-Oxley in 2002.Although backdating had not yet been recognized as a problem, the provisions of Sarbanes-Oxley requiring that insiders report the acquisition of securities, including options, within two days of receipt greatly hindered the ability of corporations to backdate options.Fifty-two companies currently under criminal investigation. Moreover, the company avoids having to expense the options as current compensation, thus increasing earnings in the near term. As a consequence, the option is immediately profitable, or “in the money,” to the option holder.Fortunately, the government appears to appreciate the difference between backdated options that involve the “intentional alteration of documents or faulty internal control and dating issues arising from ministerial or logistical delays.” Unfortunately, the plaintiffs’ bar is not so discerning.

Tags: , ,