Options Backdating Heats Up

From AAO Weblog

Winter freeze or not, the options backdating investigations are heating up.

On Tuesday, the SEC announced the filing of civil suits against both the former CFO Gary C. Gerhardt, and former controller Steven J. Landmann, of Engineered Support Systems, Inc. for their roles in a backdating scheme that spanned more than six years. The suits allege that the pair granted undisclosed, in-the-money stock options to themselves along with other officers, employees, and directors. The group is believed to have benefited from the transactions to the tune of $20 million, of which $15 million went to top executives and directors. The two former financial officers benefited personally by over $2.4 million; former controller Landmann has already agreed to settle the suit.

Allegedly, between 1997 and 2002, Gerhardt ordered Landmann to backdate option grants at the firm’s historically low closing stock prices. Because the options vest immediately, it was almost as good as receiving cash. The company’s stock options vested at the time of grant, allowing the option recipients to obtain immediate cash profits. Keep that truck backed up, please: the pair also canceled out-of-the-money options and replaced them with fresh new backdated grant dates and exercise prices, making them valuable.

Because these activities weren’t reported properly, the pair caused the 10-K and proxy filings misrepresented reality to shareholders. By ignoring the proper GAAP treatment, Engineered Support overstated pretax operating income by approximately $26 million, or 21%, for fiscal years 1997 through 2002. Hardly inconsequential.

Gerhardt’s strategy remains to be seen. Meanwhile, it sounds as if there are more on the way according to the Associated Press last Friday.

http://www.accountingobserver.com/blog/