This is my first blog and it deals with some complicated accounting matters, but I will try to make it understandable. As young accountant, having recently passed the CPA exam, I have taken interest in the latest
scandals involving
stock option backdating. I will try to explain how the influence of money in Washington has affected and perhaps encouraged these scandals as well as point out how Senator Lieberman has been at the center of the battle to prevent the regulation stock options.
What are stock option and backdating?
For those who are unfamiliar with backdating and stock options, a recent article the San Francisco Chronicle does a good job of summarizing what they are:
Options give a recipient the right to buy stock in the future at a certain price, usually the stock price on the day they were issued. By backdating options to a day when the stock price was lower, companies gave recipients a chance to rack up even bigger profits.
But there was a big catch.
If a company handed out options when its stock was $25 per share, but backdated them to a week before when it was $20 per share, that extra $5 times the thousands or millions of options granted had to be disclosed and reported as a compensation expense.
Many companies -- perhaps more than 2,000, by one estimate -- failed to do so.
Companies that backdated options without properly accounting for them now must restate their financial results, lopping millions of dollars off their profits for those years. They could be hit with back taxes and penalties from the IRS, and may face civil charges from the SEC and criminal charges from the Justice Department.
The article further explains that companies were eager to give out copious amounts of stock options to attract top executive talent.
In a related matter, our government has interfering with the Financial Accounting Standards Board, an authoritative body on accounting regulation, each time they try to implement regulations that would expense stock options no mater when they were dated. By keeping options off the of the income statement, executive and employee compensation was hidden from investors and the general public. As a result, executives experienced huge pressure to inflate company stock and even to commit securities fraud, contributed to the Internet bubble and a following recession.
Executives and employees who were paid with stock options in lieu of cash became instant millionaires when the company made its initial public offering; many invested their new wealth into yet more dot-coms.
Ironically, in its attempt to protect corporate profits by preventing accountability, our government may have destroyed many companies and created the recession.
Senator Lieberman's Involvement
At the forefront of the government's effort to hide stock options was none other than the embattled Senator from Connecticut, Joseph Lieberman:
In 1993, the Financial Accounting Standards Board (FASB) proposed closing an accounting loophole that allowed companies to avoid recording stock options on their balance sheets. According to a Merrill Lynch study, expensing stock options would have slashed profits among leading high-tech companies by 60 percent on average. Corporate America aligned with the accounting industry to fight the FASB proposal, with the result that in 1994, the Senate, led by Senator Joseph Lieberman (D-Conn.), passed a non-binding resolution condemning the proposal by a vote of 88-to-9.
To be clear, Senator Lieberman has never, as far as I know, encouraged the backdating of stock options. And to be fair Lieberman has a strong record on the environment as well as a record of running against President Bush's tax cuts. However, Sarah Teslik, Executive Director for the Council of Institutional Investors until 2004, in this Frontline interview points out that the Senator stands with his corporate supporters on accounting regulation:
Senator Joe Lieberman sponsored the resolution that overwhelmingly passed in the Senate to oppose the expensing of stock options. Why would Lieberman of Connecticut be so desperately interested in this, to take the lead?
The insurance companies are in Connecticut and the accountants are heavily based in Connecticut. FASB is in Connecticut. Both Senator Lieberman and Senator Dodd have historically been very protective of accountants and very protective of executives, even though they talk a good liberal Democratic line. If you look at the votes and you look at the actions, it's not there.
I believe in the principle of accountability and though I am familiar with scandals like Enron and WorldCom, I know we have highly competent and responsible accounting institutions. Our ability to do our jobs as accountants became compromised when our government interfered with responsible accounting practices. As a result, the public's ability to make informed decisions was equally compromised. Corporate executives, on the other hand, realized that they could rely on our government to obstruct corporate accountability. Arthur Levitt, Chairman of the SEC from 1993 through 2001, explains what influenced the Senate's decision in the same Frontline piece:
Now the Senate passed a [resolution]. ... Why did they do it? There was no question in my mind that campaign contributions played the determinative role in that Senate activity. Corporate America waged the most aggressive lobbying campaign I think that they had ever put together on behalf of this issue. And the Congress was responsive to that.
The same resolution that prevented FASB from requiring company to expense stock option probably emboldened executives take advantage of loose backdating regulations. Even if regulations preventing backdating of options were presented, Corporate America had already tested congress and realized that it would step in when properly influenced.
Some aftermath
It was not until after the stock market crash of 2002 that the Sarbanes-Oxley Act put an end to backdating by required executives to report stock option grants within two days of receiving them. Nevertheless, congress continued to threaten FASB not to expense stock options until finally, in 2005, regulations were put into affect. For instance, in 2004 Congress voted in favor of blocking the FASB's decision to expense options 312-111:
Silicon Valley lobbyists applauded the vote. "The Republicans and Democrats alike who have joined forces on this critical issue in such a bipartisan fashion deserve our applause and gratitude," said Rick White, CEO of TechNet and chairman of the International Employee Stock Options Coalition.
To be fair, prominent Senators other than Joe Lieberman have also opposed the expensing of stock options. In a letter to President Bush, Senator Boxer stated:
You recently spoke about your vision for creating an "ownership society." Expensing stock options, as the FASB has proposed, directly threatens rank-and-file worker opportunities to participate in the ownership of the fruits of their labor. In an interview with the Wall Street Journal in April 2002, you said that stock options should not be treated as a corporate expense. Instead, you argued, "they ought to be dilutive in [a company's] earnings per share calculations.
Unfortunately, while corporate profits and executive compensation have increased, employee compensation continues to lag.
When our representatives step out of line we are the last line of accountability. Our Government has the power to regulate or deregulate our markets, but we hold our representatives accountable on Election Day. Sometime our representative will act irresponsibly thinking that no one will pay attention or they will not have access to information. It is our duty as citizens and our responsibility to those we love to participate in government and make informed decision; otherwise, the very institutions that bring us together may be use to tear us apart.