Expect to see more legal action in the coming months against executives suspected of stock option mischief, federal officials told US senators on Wednesday.
At a hearing here convened by the Senate Finance Committee, top officials from the Securities and Exchange Commission, Internal Revenue Service and Department of Justice's corporate fraud unit said they couldn't be sure how many of the companies suspected of "backdating" stock options for financial gain will face full-blown enforcement proceedings or new charges.
"Like other forms of corporate fraud, the Department of Justice takes stock option backdating seriously, and we will continue to use our best efforts to uncover criminal conduct where it occurs," said Deputy Attorney General Paul McNulty.
The IRS, too, "will follow up on every company and the relevant executives for each case where it is determined that abuses have occurred", said IRS Commissioner Mark Everson.
Currently, more than 100 companies, largely from the technology sector, are under investigation by the SEC for possible fraudulent reporting of stock option grants to their top executives, said Linda Thomsen, director of the SEC's enforcement division. So far, the Justice Department and the SEC have filed civil and criminal charges against former top executives from two technology companies: Brocade Communications Systems and Comverse Technology. Two former Brocade executives pleaded not guilty to those charges last week.
Stock option backdating refers to the practice of retroactively changing the date of a stock option grant to make it appear it was granted on a date when its value was lower, thereby multiplying the payoff when the options are exercised. While not necessarily illegal, the practice could run afoul of tax laws, securities regulations and fraud statutes if concealed from shareholders.
Senate committee leaders voiced disgust at the allegedly fraudulent practices and urged the enforcement officials to advise them if changes in the law are necessary.
"It is behaviour that ignores the concept of an 'honest day's pay' and replaces it with a phrase that we hear all too often today, 'I'll get mine'," said Senator Chuck Grassley, the Iowa Republican who serves as committee chairman.
Montana Senator Max Baucus, the committee's Democratic co-chairman, said the stock option scandal is indicative of a broader problem &mash; overpaid executives. "It is high time that we tried to close the loopholes (in tax laws)," he said.
The senators indicated they were weighing a number of legislative options, including changes to — or even a repeal of — a section of the tax code that puts a $1m cap on the amount of employee compensation that firms can deduct from their income taxes. The measure, enacted in 1993, had been intended to stave off "excessive" executive pay. "But it really hasn't worked", said Grassley, who said he voted against the bill containing that provision. "Companies have found ways to get around it, and frankly it has more holes in it than Swiss cheese."
The federal officials said they didn't see the need for additional congressional action right now. New SEC rules that go into effect next year, for instance, would require more detailed reports of executives' compensation and a broader discussion and analysis of a company's compensation practices, and are designed to foster increased transparency, Thomsen said.
"These issues cannot be reformed by Congress," said the IRS' Everson. "They're going to have to be reformed by American business."
