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Stock option windfalls rouse Congress

As lawmakers examine recent controversies over alleged backdating, one senator calls some companies' programs "rigged."

By ASSOCIATED PRESS
Published September 7, 2006

WASHINGTON - As Congress examines the suspicious timing of stock options granted to some executives, the government says it is aggressively investigating a practice that infuriates shareholders.

Shareholders and employees have been "ripped off by senior executives who rigged stock option programs ... to further enrich themselves," the chairman of the Senate Finance Committee said at a hearing Wednesday.

The tax-writing committed, led by GOP Sen. Charles Grassley of Iowa, is considering reducing or eliminating a deduction that encourages companies to award executives stock options. This kind of compensation is linked to a company's stock prices and by, extension, performance.

The Securities and Exchange Commission chairman expressed support for the idea.

Companies are required to pay taxes on compensation that exceeds $1-million a year received by each executive. There is an exception for pay tied to a company's financial performance; all of this can be deducted. This requirement has led companies to dole out stock options.

SEC chief Christopher Cox told the Senate Banking Committee that this rule "deserves pride of place in the Museum of Unintended Consequences." He said the $1-million threshold was "an unworkable price control."

At least 78 public companies, including Jabil Circuit of St. Petersburg, UnitedHealth Group Inc., Home Depot Inc., Intuit Inc. and Barnes & Noble Inc., are under scrutiny by the Justice Department or the SEC, or both, for possible fraudulent reporting of stock option grants.

The Internal Revenue Service is conducting its own investigation for possible tax-law violations in option grants.

"We will apply our resources to this area with full rigor," IRS Commissioner Mark Everson said in testimony at the hearing.

Cox and the SEC's enforcement director, Linda Thomsen, said the agency is investigating more than 100 companies.

At issue in many investigations is a practice known as backdating: Stock options are issued retroactively to coincide with low points in a company's share price. This can fatten profits for options recipients when they sell their shares at higher market prices.

Backdating options can be legal as long as the practice is disclosed properly to investors and approved by the company's board. In some cases, however, the practice can run afoul of federal accounting and tax laws.

It can outrage company shareholders and the public when they see lavish compensation for executives, unrelated to their performance, even as companies stumble and lay off employees.

More companies - many of them in the technology sector - are the subjects of government or internal inquiries into whether corporate insiders rigged options, without the proper disclosure or accounting, to ensure larger windfalls. The fallout: Shareholders have sued and some companies say they may have to restate earnings because past option grants may have distorted the company's financial results.

IPod maker Apple Computer Inc. and other companies say they have been warned that their shares could be stripped from trading on the Nasdaq Stock Market because reviews of options grants made the companies late in filing periodic financial reports. Apple undertook a review of its stock option grants last spring after finding what it said were "irregularities."

This summer, the Justice Department and the SEC charged former officials of two technology companies, Brocade Communications Systems Inc. and Comverse Technology Inc.

The SEC is focusing on cases of serious fraud, with elements such as deliberately lying, forging documents or deceiving directors or investors. In addition, the agency this summer adopted rules for what public companies must disclose regarding the dating of stock option grants to executives.

Possible tax issues in the IRS inquiry include whether deductions were taken correctly by companies regarding options that were backdated and whether executives who received options accurately reported their sale profits.

Everson also said the IRS' examination of compensation paid to executives of charities, begun in late 2004, has found problems with compensation reporting and loans made to executives and other officials.

[Last modified September 6, 2006, 23:13:11]