Stock Option Scandal

The facts of this case do not present the first time that dishonest “shenanigans” have been used to increase executive compensation while corporate boards did nothing.

A stark example is the widening stock options backdating scandal. According to the New York Times:

More than 2,000 companies appear to have used backdated stock options to sweeten their top executives’ pay packages, according to a new study that suggests the practice is far more widespread than previously disclosed.The new statistical analysis, which comes amid a broadening federal inquiry of the practice of timing options to the stock market, estimates that 29.2 percent of companies have used backdated options and 13.6 percent of options granted to top executives from 1996 to 2005 were backdated or otherwise manipulated.So far, more than 60 companies have disclosed that they are the targets of government investigations, are the subject of investor lawsuits or have conducted internal audits involving the practice, in which options are backdated to days when the company’s shares trade at low prices. They include Apple Computer, CNet and Juniper Networks.

Former US Securities and Exchange Commission (SEC) Chairman Arthur Levitt stated that backdating “represents the ultimate in greed. It is stealing, in effect. It is ripping off shareholders in an unconscionable way.”

In the latest development in the developing scandal, federal authorities filed “the first of what could be a barrage of criminal and civil charges” against company executives for allegedly manipulating stock option grants to make them more lucrative.

Fraudulent actions to increase executive compensation can and do hurt investors. John Freeman, professor of business ethics at the Univeristy of South Carolina Law School and former counsel to the SEC writes: “The potential consequences for companies include fraud charges, earnings restatements, penalties for violating rules on corporate disclosure, additional tax expenses and civil lawsuits by shareholders seeking damages.” These consequences can end up costing companies and their shareholders hundreds of millions of dollars.