Ethics of Options Repricing and Backdating
stock options. This Article analyzes three forms of secret option backdating: (1) the . hindsight to secretly backdate stock option grants to both executives and that option grants be "performance-based" and established by formal pricing. No Repricing or Backdating of Options of Stock Appreciation Rights. Except for adjustments made pursuant to Section 4(b), neither the Committee nor any other . assess the practice of backdating stock options, as an illustration of the agency .. firms to reprice options for some executives, but not for other employees.
This requirement should significantly reduce the opportunity for backdating, if companies comply with the new regulation. One would hope that such delays have been resolved since that study was conducted. Such a tactic could be seen as an extra reward to the executive, who obtains cash even if the stock prices fall from the bad publicity resulting from backdating: It is obvious to the authors that the law did, in fact, prompt many companies to use stock options as a form of noncash compensation, but to infer that this justifies the backdating of options seems a huge leap of logic.
Whether all cash compensation of CEOs should be tax deductible is an issue that should be addressed on its independent merits, or lack thereof, with a clear eye toward acknowledging the massive discrepancy that exists between worker pay and executive compensation in the United States.
No Repricing or Backdating of Options of Stock Appreciation Rights Sample Clauses
According to a BusinessWeek survey of large U. Inequality and the Roots of Economic Insecurity, February ; www.
In addition, companies are now facing potentially massive restatements that could reduce reported income, which would likely trigger further downturns in stock value.
Shareholder and pension-fund lawsuits have been launched against some companies and are on the horizon for others. Spring-Loading and Bullet-Dodging Because the SOX disclosure requirements make it essentially impossible to backdate stock options, some companies have turned to two other tactics to increase executive pay: Spring-loading refers to the practice of issuing options shortly before announcing good news to investors; bullet-dodging refers to delaying an option grant until after bad news has been reported.
Atkins believes that opportune timing of options grants merely provides the best benefit to the grantee at the least cost to the corporation. Technically, the timing of options grants does not fall under Regulation FD; however, a case could be made that the end results are similar: Someone or some group benefits to the exclusion of others. In the case of selective disclosures, certain analysts and their clients benefit; in the case of option timing, certain inside executives benefit.
Using Indexing to Determine Option Price Many people might argue that backdating and repricing have occurred because companies thought it was unfair to penalize executives for recent downturns in stock prices that were due to macroeconomic pressures and industry fluctuations beyond the control of CEOs. While backdating and repricing present questionable behaviors by corporate compensation committees, an alternative methodology—indexing stock options—might be viewed as more fair and effective in rewarding the highest-performing executives.
In such a process, the board of directors would select a group of companies, such as industry rivals, to serve as a benchmarking peer group.
Options backdating - Wikipedia
The option-issuing company indexes or ties the exercise price to the benchmark group. In theory, economic and industry factors should affect similar companies in similar fashion. Many other companies voted on adopting the use of indexed options inbut few of those measures were approved. Despite the inherent fairness in the indexing concept, many major U. On the positive side, indexing would eliminate the situation in which CEOs are granted millions of dollars of options in a rapidly rising stock market when the companies led by those CEOs performed worse than competitors.
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Indexing would also stop the practice of repricing stock options. Such perspectives can serve as the basis for asking important questions when compensation packages are being awarded.
It was noted above that repricing options differently for different groups of grantees may be viewed as unethical. Using virtue ethics to gauge this tactic, the authors examined both the action and the reasons for taking a particular action as follows: The justice theory of ethics requires equals to be treated the same way but allows unequals to be treated differently; executives could be viewed as equals and all others could be viewed as unequals.
As such, differential repricing between the two groups would be considered ethical and appropriate. The international business community, in the form of the OECD and ICGN, provides no indication that executives should be viewed any differently from other shareholders. Assessing options repricing and backdating from an ethical theory of rights perspective requires determining who is entitled or has the right to what. Investors and creditors who have provided funds to an organization have the right to receive accurate, reliable, and transparent financial statements.
Options backdating and repricing either ignore or do not consider that right of those investors and creditors, and, as such, these techniques would be seen as unethical. Engaging in options backdating and repricing as a corporate employee, or an external auditor, with knowledge that such actions have taken place, would be unethical from a professional perspective.
Options backdating and repricing can also be viewed from a utilitarian perspective. The decision of whether the actions are ethical would be made by weighing the benefits to management as individuals and the perceived benefits to the company and its shareholders via increases in share price against the costs of the action and the long-term negative effects on investors and creditors of false and misleading financial information.
The Kantian theory of ethics named for the 18th-century German ethicist Immanuel Kant directs one to act only as if the action were to become universal law. From this perspective, if stock option backdating and repricing were intended to manipulate or deceive any stakeholders, then the action would be considered a lie and could not be justified by Kantian ethics; the ends do not justify the means.
The issues of spring-loading and bullet-dodging can also be viewed from these three ethical standpoints. If one accepts the fiduciary responsibility of management to all organizational shareholders, then selectively timing the distribution of options places executives in a better position than other shareholders and, as such, discriminates against nonexecutive owners.
The ethical theory of utilitarianism is violated by spring-loading and bullet-dodging because there are more market participants who are not executives than there are those who are executives. These two tactics also violate Kantianism: It is highly unlikely that the populace would agree that treating one category of market participants executives differently from another category all other investors and potential investors would be appropriate. Thus, although these two activities are undoubtedly legal, they are without question unethical—and the investing public has had its fill of the lack of business ethics!
The SFAS R grant date and the fair value of the option on the grant date by officer; The closing market price on the grant date if that price is higher than the option exercise price; and The date that the board of directors or compensation committee of the board actually granted the options, if that date differs from the grant date. For example, if a company has a plan to issue option grants in coordination with the release of material nonpublic information, that [information] will now be clearly described.
The First to Fall The first company to actually pay a fine in connection with backdating charges was Brocade Communications Systems Inc.
Many companies' stock option plans provide that stock options must be granted at an exercise price no lower than fair market value on the date of the option grant. Thus, backdating can be misleading to shareholders in the sense that it results in option grants that are more favorable than the shareholders approved in adopting the stock option plan. The other major way that backdating can be misleading to investors relates to the method by which the company accounts for the options.
Until very recently, a company that granted stock options to executives at fair market value did not have to recognize the cost of the options as a compensation expense. However, if the company granted options with an exercise price below fair market value, there would be a compensation expense that had to be recognized under applicable accounting rules.
If a company backdated its stock options, but failed to recognize a compensation expense, then the company's accounting may not be correct, and its quarterly and annual financial reports to investors may be misleading.
Although many companies have been identified as having problems with backdating, the severity of the problem, and the consequences, fall along a broad spectrum.
At one extreme, where it is clear that top management was guilty of conscious wrongdoing in backdating, attempted to conceal the backdating by falsifying documents, and where the backdating resulted in a substantial overstatement of the company's profitability, SEC enforcement actions and even criminal charges have resulted. Toward the other extreme, where the backdating was a result of overly informal internal procedures or even just delays in finalizing the paperwork documenting options grants, not intentional wrongdoing, there is likely to be no formal sanction—although the company may have to restate its financial statements to bring its accounting into compliance with applicable accounting rules.
With respect to the more serious cases of backdating, it is likely that most of the criminal actions that the government intended to bring were brought in There is a five-year statute of limitations for securities fraud, and under the Sarbanes-Oxley Act ofoption grants to senior management must be reported within two days of the grant date.
This all but eliminated the opportunity for senior management to engage any meaningful options backdating.
Therefore, any criminal prosecution is likely to be based on option grants made before Sarbanes-Oxley took effect, and the deadline facing the government for bringing those prosecutions has already passed.
As of 17 Novemberbackdating has been identified at more than companies, and led to the firing or resignation of more than 50 top executives and directors of those companies. Notable companies embroiled in the scandal include Broadcom Corp. Some of the more prominent corporate figures involved in the controversy currently are Steve Jobs and Michael Dell. Anderson and former Apple general counsel Nancy R.
Heinen for their alleged roles in backdating Apple options.