Sunday, July 16, 2006

Making Money The Old-Fashioned Way

Just like placing a bet after you know who won. Bloomberg (07.16.06):
"More than 2,200 U.S. companies may have manipulated the timing of stock option grants to executives between 1996 and 2005, said a study by researchers whose work set off the current wave of federal investigations. The study, released Saturday, found that 23% of all option grants from 1996 to Aug. 29, 2002, when the U.S. Securities and Exchange Commission tightened reporting regulations, were backdated or timed to coincide with low share prices." Option Timing Involved 2,200 Companies, Study Says
"The study was conducted by Randall Heron at the Kelley School of Business at Indiana University, and Erik Lie of the Henry B. Tippie College of Business at the University of Iowa." Here's a very, very nice summary from the good Dr. Lie. Why is this such a big deal? It creates a "built-in profit on options." We give you an option when our stock is at $10. We set the effective date of the option to a date when our stock was selling at $5. Voila!! You have an automatic $5 profit. Good work if you can get it, eh? Because the company pays the difference, the shareholders end up taking it in the shorts. Or, more bluntly, these noble titans of industry, these vigilant guardians of capitalism, are sticking it to you and your 401(k). Happy now? "The findings might expand the biggest U.S. investigation of corporate wrongdoing since the probe into improper mutual-fund trading three years ago resulted in $4.3 billion in penalties." Ahhhh, the internets. Institutional Shareholder Services has an info center up and running. For those of you who want to start keeping score at home (h/t to Dr. Lie), start with this. Some history. DesMoines Register (05.25.06):
"In 2003, [Dr. Lie] began hunting for a correlation between option grant dates and price movements of the underlying shares. Instead, his findings suggest some companies were manipulating the timing of the stock options they granted to top executives. The result pumped up the executives' pay." Study of stock options prompts investigation
"Lie reported his findings to the U.S. Securities and Exchange Commission in mid-2004. Now the agency and the U.S. attorney in New York have asked at least 20 companies to provide details on how they award stock options. And corporate governance experts predict the scandal will spread."


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