Pennsylvania Litigation Lawyer & Attorney : Barley Snyder Law Firm : Serving Lancaster, Reading, York, Chambersburg

A month or so ago, Kendra discussed the class action bar's increasing interest in options backdating.  I suggested, a bit facetiously, that the next significant backdating case may arise in connection with Apple's backdating of options granted Steve Jobs.  So much for facetious.  Bloomberg reports today that the SEC is likely to sue Apple's former General Counsel, Nancy Heinan, in connection with the backdated options:

The securities regulator will likely sue Heinen this week for allegedly backdating an Oct. 19, 2001, stock option grant to Jobs for 7.5 million shares, and an earlier grant made to Jobs' executive team members, including Heinen, on Jan. 17, 2001, her attorney Miles Ehrlich said.

The Justice Department also is investigating stock option awards at Apple, maker of the Macintosh computer and iPod music player, though ``there would be no basis for the filing of criminal charges'' against Heinen, said another defense attorney, Cristina Arguedas, of Arguedas, Cassman & Headley in Berkeley, California.

Apple, based in Cupertino, California, would be the largest company with current or former executives sued by the SEC over claims they helped fake stock-option grant dates. The company said in December that 6,428 option grants from 1997 to 2002 were backdated, including one to Jobs marked as approved at a fictional board meeting.

Heinen's attorneys (naturally) deny any wrongdoing.

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In the wake of the Enron/Worldcom/Tyco/etc. fiascos, Congress got about the work of reforming the regulation of corporate accounting and reporting practices.  The result is the now well-known Sarbanes-Oxley Act (full text .pdf) (here's a summary).  By way of example only, Sarbanes-Oxley requires:

• [T]hat public companies evaluate and disclose the effectiveness of their internal controls as they relate to financial reporting, and that independent auditors for such companies "attest" (i.e., agree, or qualify) to such disclosure
• Certification of financial reports by chief executive officers and chief financial officers
• Independence, including outright bans on certain types of work for audit clients and pre-certification by the company's Audit Committee of all other non-audit work
• [T]hat companies listed on stock exchanges have fully independent audit committees that oversee the relationship between the company and its auditor

How financially onerous are the requirements?  Well, what better way to answer that question than by resort to anecdotal evidence?  According to DealBreaker, Warren Buffet reports: 

Berkshire-Hathaway spent $24 million on auditing this year, a figure he says would have been closer to $10 million without Sarbanes-Oxley.

Based on Buffett's experience, then, Sarbanes-Oxley imposes a roughly 150% increase in auditing costs.  Granted, Berkshire Hathaway is hardly representative of most other public companies and its substantial investment operations may contribute to its enormous auditing-related compliance cost.  Nevertheless, if a public company -- no matter its size -- hasn't experienced a significant uptick in auditing costs under the Sarbanes-Oxley regime, the company might question whether it is employing best practices when it comes to the nitty gritty of compliance.  With substantial civil and criminal penalties available for violators, Sarbanes-Oxley is not to be trifled with.

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Class action cases are being filed to stop the practice of stock option backdating. Backdating allows a stock option exercise price to be set using hindsight, by reporting the market price from a previous date. In most cases of backdating, a date on which the stock price was very low is chosen. Currently, there are over a dozen securities fraud cases in federal court and an unknown number of derivative actions in state courts related to the practice. It reportedly has hit hardest in the technology and telecommunications industries. Backdating is not expressly forbidden by statute but rather is being postured as a violation of SEC disclosure regs (SEC Rule 10b-5). With the recent US Supreme Court ruling in Dura Pharmaceuticals (requiring a casual connection between a company's misrepresentation and the plaintiff's economic loss), it appears that there will be proof issues in the cases that have been filed.

Eric adds™ -- Perhaps the next significant options backdating ruling will be rendered in the forthcoming U.S. v. Jobs matter.  Although I don't know about doctors, it sure doesn't look like an Apple a day repels the SEC . . .

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