Backdating pay

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However, in late 2005 and early 2006, the issue of stock options backdating gained a wider audience.

Numerous financial analysts replicated and expanded upon the prior academic research, developing lists of companies whose stock price performance immediately after options grants to senior management (the purported dates of which can be ascertained by inspecting a company's Form 4 filings, generally available online at the SEC's website) was suspicious.

The problem with this practice, according to the SEC, was that stock option backdating, while difficult to prove, could be considered a criminal act.

One of the larger backdating scandals occurred at Brocade Communications, a data storage company.

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.

The SEC’s opinions regarding backdating and fraud were primarily due to the various tax rules that apply when issuing “in the money” stock options versus the much different – and more financially beneficial – tax rules that apply when issuing “at the money” or "out of the money" stock options.

Additionally, companies can use backdating to produce greater executive incomes without having to report higher expenses to their shareholders, which can lower company earnings and/or cause the company to fall short of earnings predictions and public expectations.

Options backdating may still occur under the new reporting regulations, but Sarbanes-Oxley compliant backdating is far less likely to be used for dishonest reasons due to the short time frame that is allowed for reporting.

As a result, numerous companies are conducting internal investigations to determine if, when, and how backdating occurred, and are filing amended earnings statements and tax forms to show the issuance of “in the money” options in place of the “at the money” options that were previously reported.

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