What is Options Backdating?
Options backdating refers to the practice of granting an employee stock option (ESO) that is dated prior to its actual issuance. This effectively allows the exercise (strike) price of the option to be set at a lower level than the company’s stock price at the moment of the grant. As a result, the option becomes “in the money” (ITM), significantly increasing its value for the holder.
Historically, backdating options has been labeled as unethical and faced legal scrutiny, leading to its significant decline in recent times.
Key Takeaways
- Enhanced Value: Options backdating involves manipulating the grant date to set a lower exercise price, thereby increasing the option’s value.
- Ethical Concerns: It has been considered unethical or illegal, particularly under modern regulatory standards post-Sarbanes-Oxley Act 2002.
- Regulation Enforcement: Post-2002, corporations are mandated to report option grants to the SEC within two business days, severely limiting the feasibility of backdating.
Explanation of Options Backdating
The prevalence of options backdating emerged during a period when companies were only required to report stock option grants to the SEC within two months of the issuance date. This allowed companies to retroactively select an earlier date when the stock was priced lower. Such backdating positioned the option “in the money” from the outset.
Post-2002 regulatory changes, specifically the Sarbanes-Oxley Act, required companies to report these grants within two business days. This reduced window has significantly curtailed options backdating.
Legal and Regulatory Actions
Despite new regulations, the SEC uncovered instances of ongoing options backdating—often citing disorganized reporting as a rationale. Cases have shown ongoing violations well beyond the legislative changes.
For instance, in 2010, the SEC brought a civil lawsuit against Trident Microsystems and its former executives for backdating violations extending from 1993 to 2006. Among the SEC’s accusations: manipulating stock option documents to mislead stakeholders on the timing of option distributions, thereby benefiting company executives without proper disclosure. Trident Microsystems ultimately settled without admitting or denying the allegations.
Related Terms: strike price, employee stock option, stock option grant, Sarbanes-Oxley Act, SEC reporting.
References
- U.S. Securities and Exchange Commission. “SEC v. Trident Microsystems, Inc., Frank C. Lin, and Peter Y. Jen, Civil Action No. 1:10-CV-01202 (JDB)(D.D.C.)”.
