The morning after the backdating scandal

First the journalistic scandal, the breathless headlines, the political demands that the government do something. Now the SEC faces the messy task of figuring out whether backdating was actually a problem.

Today's WSJ discusses the SEC's pending decision on Brocade's proposed $7 million fine, which will set a template for the 140 or so other potential backdating cases. As in other fraud cases, the SEC must consider how much and whether to punish shareholders for the company's fraud when they've already suffered the costs of terminating valuable executives, disruptive investigations and lawsuits, and any market punishment for the conduct.

But the article discusses an additional sticky point in the backdating cases -- whether the backdating actually hurt anybody:

Were executives compensated differently than shareholders believed? Is there a value to the company of using backdated options to attract and retain employees? Did a stock decline triggered by the disclosure of backdated options reflect damage done to the company by the backdating -- or was it caused by fear of litigation or potential impact on corporate officers? Do investors consider restatements involving options, which don't involve an expenditure of cash, relevant?

Now they tell us. Actually, I've been discussing these issues for months. For two of many posts, including these on materiality and the business reasons for backdating.

The WSJ article points out that while Brocade's shares fell when it announced backdating, they closed yesterday higher than the price just before its first options announcement. As the Journal says, "that could raise another question -- how important was the backdating to Brocade if the stock recovered?"

Maybe the Journal's Pulitzer-hounds could take a few moments off from their shameless pandering to read this story.

Comments

[M. Hodak]

The idea that one could discern from a change in the stock price the economic effect of some announcement is bad enough when looking at periods longer than about 15 seconds; and even within 15 seconds, the announcement better be much cleaner than 90 percent of what is released on the market these days.

In the context of tracking a company's stock price over nearly a year, a comment like "how important was the backdating to Brocade if the stock recovered?" sounds pretty ignorant.

I know this comment happens to argue in favor of the point Larry is making, one with which I generally agree, but I would not hang any part of my case on things like the stock price movement over a year in discussing potential damage to the shareholders.

[Larry E. Ribstein]

I completely agree. My point was just that the damage isn't obvious, at least not to the SEC.

[JLM]

Pulitzer on the way...

http://www.editorandpublisher.com/eandp/news/article_display.jsp?vnu_content_id=1003556011