Option Backdating and Its Implications

This post is from Jesse Fried of Harvard Law School. The blog featured earlier posts on the option backdating and its corporate governance implications by Larry Ribstein here, by Ted Mirvis and Paul Rowe here, and by Lucian Bebchuk here, here, here, here, and here.

I have just posted on SSRN a paper that analyzes three forms of secret option backdating used by public firms and their significance for various corporate governance debates: Option Backdating and Its Implications. The current draft is available on SSRN here.

The three forms of option backdating analyzed are: (1) the backdating of executives’ option grants; (2) the backdating of non-executive employees’ option grants; and (3) the backdating of executives’ option exercises. The paper shows that each type of backdating less likely reflects arm’s-length contracting than a desire to inflate and camouflage executive pay. Secret backdating thus provides further evidence that pay arrangements have been shaped by executives’ influence over their boards. The fact that thousands of firms continued to secretly backdate after the Sarbanes Oxley Act, in blatant violation of its reporting requirements, suggests recent reforms may have failed to adequately curb such managerial power.

As I am continuing to work on this paper and a number of related projects, any comments would be most welcome.

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  1. save_the_rustbelt
    Posted Tuesday, April 22, 2008 at 11:18 am | Permalink

    Many years ago in my audit training I was taught that backdated documents were an indicator of fraud, if not absolute proof of fraud.

    I really do not see how that has changed.

    The a transaction date must be falsified would seem to indicate ill intent, at the very least.

    Perhaps lawyers have a different view,they often do.

  2. David Grace
    Posted Tuesday, April 22, 2008 at 7:28 pm | Permalink

    The debate on backdating options is interesting. As a company director and corporate lawyer in Australia I have always looked for one thing in assessing the integrity of a company. It is that the CEO tells the truth.And I don’t have the difficutly of Pontious Pilate in “What is truth”. When it comes to back dating it is pretence that something happened at a certain time when it did not. So if a CEO is prepared to engage in lieing about the date options were granted to gain an advantage for himself or herself, what else will the CEO do that may bring the company into disrepute.
    If a person cannot be trusted in matters of truth and honesty , how can a corporate Board retain the serviecs of such a person? Is the Board always told the truth?
    How can a Board have confidence in its fulfillment of its oversite responsibilities when the chief officer through which much if not all the information comes to it is not a person it can trust?
    If the Board allows such a person to run the company, it certainly runs a substantial risk of being held accountable to shareholders for breach its duty to them.
    If directors allow such events to occur and fail to disclose that to its D&O insurer, might not that be a material event upon which an insurer might rely to seek avoidance of liability to indemnify directors for damages awarded to aggrieved shareholders?
    To raise a somewhat old but nonetheless truism, “honesty is the best policy”.
    Perhaps some Boards should dust off and review their policies.