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If you're confused about the specifics of the stock options scandal, Fortune's Justin Rose provides some good background on how all this got started. It goes back to 1992 when the Securities and Exchange Commission mandated that companies list in their proxy statements the exact dates that they gave stock options to top executives. The dates had been disclosed before but only in filings that no one ever looked at.
To corporate America, the new rule was a minor hassle; to a first-year New York University finance professor named David Yermack, it was a new source of interesting data. Yermack began examining stock prices before and after options grants, and found the eerily consistent pattern displayed (in updated form) in the chart on this page: The average company's stock price dropped in the days before its CEO was given a bushel of options, and rose afterward.
Two accounting professors, David Aboody of UCLA and Ron Kasznik of Stanford, found a similar price pattern. Their theory: Companies time releases of bad and good news to depress prices before the grants and boost them afterward.
And then, suddenly, absolutely nothing happened. Nobody off campus paid any attention - until 2004, when finance professor Erik Lie of the University of Iowa noted that many options grants were timed to exploit marketwide price movements that no CEO could predict. "At least some of the official grant dates must have been set retroactively," Lie suggested in a paper. Fiddling with options grant dates retroactively and lying about it in corporate financial reports is clearly illegal. So Lie sent a copy of his paper to the SEC and the agency began sniffing around. The resulting backdating scandal has so far led to criminal charges at two companies and a paroxysm of what Stanford law professor and former SEC commissioner Joseph Grundfest calls "Maoist-style self-criticism" at many others, with more than 40 high-level executives losing their jobs.
Rose quips that we should pay more attention to number-crunching business school professors. "Want to know what the next big corporate scandal will be?" he writes. "Get yourself a subscription to The Journal of Finance."
Mark Lacter created the LA Biz Observed blog in 2006. He posted
until the day before his death on Nov. 13, 2013.