By backdating options, and misconstruing the exercise price (stating the price as at the money rather than accurately as "in the money" (that is, below the market price of the shares on the grant date)), a company may have understated its compensation-related expenses in its financial statements and other public disclosures.
Under APB 25, this expense would be recognised over the vesting period.
Therefore, a company could be liable for the amount of the income tax and FICA that it failed to withhold and report on the exercise of the backdated option, in addition to interest and potential penalties.
That amount could be significant, depending on the number of backdated options subject to improper tax treatment.
The new rules provide guidance and require detailed disclosure in table form and text.
Importantly, any information relating to a company practice setting the strike price based on a date other than the actual grant date must be disclosed.
The finding demonstrated a well-timed coincidence that triggered a number of further investigations by the SEC and the DOJ. It replaced the long-standing Accounting Principles Board Opinion No.
25 (APB 25), under which companies were only required to account for options which had an exercise price that was below the market price of the shares on the "measurement date".
Under SOX, these companies and officers must make quarterly and annual certifications in which they state that (Any executive who knowingly and willingly signs a false certification may be subject to personal civil and criminal liability.
Additionally, section 304 of SOX has a "clawback" provision which requires that a company restate its financial reports due to material non-compliance with financial reporting requirements and the CEO and CFO must personally reimburse the company for any bonus or incentive-based or equity-based compensation received within 12 months following the issuance of the financial statements.
Because backdating and related accounting treatment could result in inaccurate statements in public disclosures and financial documents, the practice may expose companies and executives to claims for liability under federal and state securities laws.
The following laws may be of relevance: Schedule 14A also provides that when proxies are solicited for corporate action related to the granting of share options, the proxy statement must include a summary compensation table which identifies the compensation of the CEO and the other four most highly compensated officers for the previous three fiscal years.
Although these developments have occurred since 2002, the prevalence of backdating was not discovered until 2005.