On the theory that backdating’s not illegal if you account for it correctly

APPLE COMPUTER, INC. 1998
EXECUTIVE OFFICER STOCK PLAN :

16.    Date of Grant.    The date of grant of an Option, SAR or Stock Purchase Right shall be, for all purposes, the date on which the Administrator makes the determination granting such Option, SAR or Stock Purchase Right, or such other later date as is determined by the Administrator. Notice of the determination shall be provided to each Optionee within a reasonable time after the date of such grant.

So no problem .

I’m not sure why people are so vehement about pointing out that back-dating options is not illegal. While that may be the case, that is not the point being made. There is a serious lapse of ethics when the general counsel plots a way to make the phony grant dates look legit and then creates false documents to finish the scheme.

Given how many CEO’s have claimed ignorance, I’m starting to wonder what they get paid for. Clearly it’s not for understanding how corporate law works.

There doesn’t have to be “harm” to the corporation for this to be wrong. When the news gets out about the dishonesty, the harm comes in lack of trust and confidence in management. The board and executives have a duty to be honest and loyal to the corporation, which includes the shareholders, these actions lack even a hint of honesty and the only loyalty shown is to the person who is receiving the back-dated options.

The common sense sentiment expressed in the article is
great, especially the anecdote with Sun CEO McNealy.

That said, even the SEC doesn’t have this disambiguated.
E.g. FASB 123 (p. 129) defines “grant date” as “the
date at which an employer and an employee have a mutual understanding of the terms of a stock-based compensation award.”

Well, I worked for Sun once and received options –
they were signed, sealed, and delivered to me
and other non-executive employees without
even knowing the date until days/weeks later.
In a very real sense, *all* employee stock options
are backdated. Shouldn’t this also hold true
for the zecks, who work in turn for the board
of directors?

Drilling down, all the statements in the SEC
Apple case (from Heinen, Anderson, Jobs, the
BOD) are consistent with the fuzzy SEC definition,
and also Apple option plan section 16, which permitted
“forward dating” and presumably was vetted by
compensation specialist Larry Sonsini. If hundreds
of companies comply with a loose rule, isn’t this
all much ado about poor SEC rulemaking?

I sent the comment about what is the truth, the whole truth, and nothing but the tuth. I accidently hit the return button before entering my city and state.

J Bond

The backdating of options should be made legal when the backdating of stock share sales is also backdatable. Oh, look! I lost money investing in XYZ Corp. No problem. I’ll just backdate the sale of my shares to a more profitable date! Yeah, right.

Well written article and absolutely correct.

WHOOH–you are something else!!!! The share holders have the right to sue boards for accurate accounting–and the right to approve all wages and bonuses. You still want to spend my tax money don’t you—-have you ever heard of a conflict of interests by Board members. sow-has. Do a write up on that for me–we will be friends again.

I don’t see how Heinen can get out of the charge of falsifying documents even if she does manage to do Steve Jobs a favour by making the argument that the ‘measurement date’ requirement was met.

And Roger has a point about the Apple stock option plan — I didn’t read that part carefully enough. But the issue does seem to boil down to what is meant by terms like ‘prior approval’ and ‘grant date’, what the SEC means by them (which this link above shows is an interesting question), what Steve Jobs meant by them, and what Fred Anderson thought Steve Jobs meant by them (assuming that his lawyer’s statement is credible).

The common sense definition of a grant being approved is being told for a certainty that you are going to get it. This doesn’t necessarily equate to ‘the end of the very last word of negotiation’.

It’s a rather large gap to leap over to conclude that ‘backdating is functionally illegal’ which is how I read Roger’s argument.

Is it really so important to smear Steve Jobs that one has to pronounce a common and legal practice in the business world as essentially stealing from the shareholders? If it is necessary to do this to ascribe guilt to Steve Jobs at this stage of the game, then suffice it to say that he isn’t looking very guilty.

If this is part of some larger ethical crusade against current practices in the business world, then why not just make that broader argument so everyone knows where you stand instead of pretending that this alleged backdating not-quite-illegal-but-might-as-well-be perfidy only catches Steve Jobs in its net?

I wholeheartedly agree with the author. I don’t believe that Mr Jobs action was coincidental. I would not accept this behavior in my children, partners, or employees. Mr Jobs / team are paid much more and should be accountable for behavior that is indifferent to law, practice, morality, and perception. For shame.

Conrad Hewitt,the Chief Accountant of the SEC, wrote a letter dated September 19, 2006, well after the events that took place at Apple that are subject of the SEC’s complaint, defending the SEC’s position on the accounting treatment of “back dating” options. The link to the letter is http://www.sec.gov/info/accountants/staffletters/fei_aicpa091906.htm
As I understand the letter, the key issue is when was the “measurement date” for the options. I would think Ms. Heinen and her counsel may well challenge the SEC’ position.
Any fair mind person, after reading the SEC’s letter, must conclude that this is not a simple matter. There may well be grounds to debate when was the appropriate date of the options granted by Apple that are in issue.

John from Trenton, NJ,

You’re right in stating that some companies issue shares of stock rather than options. And indeed, shares issued, either outright or in the form of restricted stock, are sort of like an option with a strike price of $0.

A key point you may not be acknowledging, though, is that most a company that grants shares rather than options typically does so at a diminished rate, such as 1 share for 4 equivelant options.

This is because of the lack of risk on shares of stock to options. Options are riskier, which is directly tied to their strike price, which is what makes the back-dating process an issue.

Paul–
You are correct that I oversimplified the typical language. The typical language specifies that the exercise price “shall BE NOT LESS THAN one hundred percent (100%) of the fair market value of the stock subject to the option on the date the option is granted.” It does forbid in-the-money options, but not options priced at MORE than FMV. What Anderson seems to be saying is that he thought the decision to grant his options had really been made on January 2, and that there wouldn’t be a problem in delaying setting the exercise price until January 17, when the price was HIGHER. As long as there really had been a decision to grant on January 2, his position sounds plausible. But it seems to have turned out that there hadn’t really been any decision to grant on January 2 in the first place.

“Those plans almost always require that the options be granted at fair market value on the date of the grant.”

Apple’s stock option plan required no such thing — at least, not according to Fred Anderson’s statement to the press.

Also note that what we are talking about when we say ‘backdating’ is choosing a strike price from an earlier point the negotiations — and when negotiations drag on over a minor point, as they did with Jobs, this starts to look like a reasonable action.

If you are correct and there is no use for backdating ever except in support of an illegal activity (i.e. misleading the shareholders as you put it), then why ISN’T backdating also illegal? It defies logic.

Attempting to choose a date closer from earlier in the compensation negotiation process in order to preserve the terms of the deal is not misleading the shareholders. Failing to report that date, is. And falsifying documents is. And I point out to you once again that nowhere in the shared email conversations exchanged among the parties that we’ve seen revealed was it ever mentioned to Steve Jobs or to the Board that documents would have to be falsified for this date to be chosen. For the time being it looks as if Heinen came up with this solution all on her own.

If it is shown that anyone asked her to falsify those documents or knew that they would have to be falsified then I be the first to pronounce that person guilty of misconduct.

I think this whole “Back dating” scandal is a bunch of hog-wash by the SEC to try and save face because of the Enron’s, Worldcoms, Tycos were criminal and the SEC did NOTHING and people lost money. So now they are looking at all of these other companies and saying, “SEE We are doing something”.

With Apple, what was illegal was falsifying legal documentation. No one can claim that was OK. And I would argue that falsifying documentation in Apple’s case DID NOT lose stock holder value in the company. Give me a break. All of this Back dating crap is a smoke screen by the SEC to try and make people believe that they were harmed in some way that they weren’t by saying,”Apple failed to account for 20 million in expenses because of in-the-money option grants”.

I’m not an accountant so forgive me if I don’t get it but how is not reporting a 20 million charge on the 7.5 million options to Steve Jobs that were CANCELED affecting the companies earning report? Since they were canceled, doesn’t that mean that the earning reported stay as they are since there was no gain from the 7.5 Million options? Or was the company supposed to add that cost back once the options were canceled making the 7.5 million option grant a moot point?

I’m “over” backdating!
I realized, that people I know have outright received shares of stock in their employer. My wife did when she worked. Imagine that! They could have GIVEN Jobs SHARES, not OPTIONS ! They could probably pay him in baseball cads, if everyone agreed to.
Then I thought about it, and realized that giving an actual SHARE is like giving an OPTION, where the strike price is ZERO. Now when was Apple stock $0? I don’t know. It’s an imaginary point in time, perhaps moments before Jobs met Woz ! So, if I gave you a share of Apple, it’s like I gave you an OPTION backdated to 1974 !
oh gee…all the “evil” just trickled out of the transaction, didn’t it?
I also know people who retired early, and were “given years” towards their pension! YIKES! That’s like BACKDATING the start of their employment!
Did someone invent a time machine when I wasn’t looking??

Why not simply require that options be granted at the closing price the day AFTER issuance and that all grants be publicly filed to the SEC before that time.

I thought that Attorney General Alberto Gonzales had backdated his lack of intelligence to match that of dry well George. As a retired CFP no longer able to use that designation after some 20 years, I’d like to back date my advice to clients who failed to take the good stuff.

Once again, we have a writer that doesn’t get it. I’ll explain it to you like you’re five yrs. old. A board approves a package of options to be issued by management. They can choose whatever strike price they want to. They decide to set the strike price equal to one of the lower closing prices over the next quarter. This makes it likely that the options will be “in the money”. In the money options have the greatest incentive which is what option grants are all about. The board watches the stock performance for a quarter and chooses to tie the strike price to a closing price that occurred in the first month of the quarter. Thus, they put that date on the option grants. Remember, these option grants were approved before the start of the quarter. The only question was which closing price to use as the strike price. It’s not really backdating and there is absolutely nothing improper about the practice. It’s quite common.

Backdating options was though of in the same way as postdating checks. Sure, today’s date is usually the most appropriate date, but there are situations where it’s ok (not illegal) to put a different date.

Stock options are complicated and stock prices are volatile. Instead of using dates, they should simply use the strike price, which is what most people really care about. You can consider this “backdating” as well, but if you just leave the date part out of the discussion and just use strike price, who cares? Oh, the accountants? Well, let them do their job!

Its pretty simple. SEC should come up with regulations that prevents people from giving old dates for granting options. If you fry a crab and ask a Fox to guard it – definitely it will taste it at least if not eat it in full.