Options Backdating: Can I.T. Help?

By Doug Bartholomew  |  Posted 2006-06-15 Print this article Print

It's the latest scandal to hit corporate America--companies appear to have backdated stock options to insiders so they're more valuable. Software can help flag even the appearance of wrongdoing.

Options backdating, the latest scandal to hit corporate America, may be more widespread than anyone is willing to admit. If that's true, what can be done to prevent this fraudulent practice in the future? Can information technology be used as a backstop?

Ostensibly, the practice of granting options to executives serves as a carrot, giving them a stake in the company's success. They receive this additional compensation only if the firm's share price rises. Options for executives typically are granted by the board or its compensation committee. The strike price, or exercise price, of the option is the company's share price on the date the option was granted by the board. The options become vested, or exercisable, usually after a specified period, often one year from issuance.

The problem arises when a company's chairman, CEO or CFO looks the other way while the options are backdated to an earlier date when the firm's share price was at its lowest closing price for the year.

One reason for the failure is that boards tend to rubber-stamp options grants, viewing their issuance as little more than a routine corporate function. The end result is that company officers receive stock they were able to purchase at a price available on a date that could only have been divined by either the greatest luck or the sharpest hindsight.

The technology industry, long a proponent of greater use of options to retain talent, certainly is well represented in the ranks of firms that have fallen under the options backdating cloud. Among them are RSA Security, KLA-Tencor Corp., Trident Microsystems, Vitesse Semiconductor Corp., Brooks Automation, Juniper Networks and Openwave Systems.

At some companies, senior executives have resigned or been fired. The U.S. Attorney's Office in New York and the Securities and Exchange Commission are investigating numerous public companies to see if they may have engaged in fraudulent practices or violated securities laws. The SEC also said earlier this week that it would issue guidance on when it's appropriate to grant options.

Yet no rules, nor any technology, will ever eliminate the problem. As is the case with most other types of corporate wrongdoing, it's difficult if not impossible to prevent options backdating. "There is no absolute way to prevent people from backdating options," confirms Andrew Levi, chairman and CEO of Boardroom Software. The Dallas vendor's Equity Enterprise package is used for equity administration, capital management and corporate entity management. Other companies that offer stock option administration systems or equity plan management services include Chicago-based Computershare, e-Trade and Charles Schwab & Co. Unfortunately, as Levi puts it, "If people have the intent to defraud the system, then they're going to do it."

But software might help.

NEXT: Finding Problematic Options

Doug Bartholomew is a career journalist who has covered information technology for more than 15 years. A former senior editor at IndustryWeek and InformationWeek, his freelance features have appeared in New York magazine and the Los Angeles Times Magazine. He has a B.S. in Journalism from Northwestern University.

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