Stock option backdating cases
The SEC began charging corporations and executives in enforcement actions relating to backdating in significant numbers in 2006, and criminal charges have resulted in a few cases.The SEC has continued to bring enforcement actions against corporations and executives for secret backdating of options.(For more insight, see ) Although it may appear shady, public companies can typically issue and price stock option grants as they see fit, but this will all depend on the terms and conditions of their stock option granting program.However, when granting options, the details of the grant must be disclosed, meaning that a company must clearly inform the investment community of the date that the option was granted and the exercise price. In addition, the company must also properly account for the expense of the options grant in their financials.Backdating itself is not illegal, but it must be properly disclosed in financial records and filings with the SEC.This article, published at the beginning of the backdating scandal in 2006, explains the history and controversy of backdating options.
(Under APB 25, the accounting rule that was in effect until 2005, firms did not have to expense options at all unless they were in-the-money.
The SEC’s opinions regarding backdating and fraud were primarily due to the various tax rules that apply when issuing “in the money” stock options vs.
the much different – and more financially beneficial – tax rules that apply when issuing “at the money” or "out of the money" stock options.
In 1972, a new revision (APB 25) in accounting rules resulted in the ability of any company to avoid having to report executive incomes as an expense to their shareholders if the income resulted from an issuance of “at the money” stock options.
In essence, the revision enabled companies to increase executive compensation without informing their shareholders if the compensation was in the form of stock options contracts that would only become valuable if the underlying stock price were to increase at a later time.