Keeping its promise to crack down on improperly dated grants of stock options, the Securities and Exchange Commission has filed new backdating charges against former executives of a defense contractor, even as rumors swirled that the Commission is closed to generating some sort of formula to determine penalties for companies caught in such cases.
The SEC last week filed civil charges against Gary Gerhardt and Steven Landmann, the former chief financial officer and controller, respectively, of Engineered Support Systems. The agency says the two participated in a six-year scheme to manipulate the timing of stock option grants at the St. Louis company, where they granted undisclosed, in-the-money stock options to themselves and to other Engineered Support officers, employees, and directors.
According to the SEC complaints, Engineered Support employees and directors received roughly $20 million in unauthorized compensation as a result of the backdating, $15 million of it going to top executives and directors. Gerhardt and Landmann reaped $1,906,300 and $518,972 respectively. As a result of the scheme, the SEC says that the company overstated pretax operating income by $26 million, or 21 percent, for fiscal years 1997 through 2002.
Landmann agreed to settle the civil action by paying by disgorgement of $518,972, prejudgment interest of $108,099, and a civil penalty of $259,486. He also consented to a permanent injunction and an officer-and-director bar, and to permanent suspension from appearing or practicing before the SEC as an accountant. The case against Gerhardt is still pending.
Thomsen
SEC Enforcement Division Director Linda Thomsen said the actions “demonstrate the Commission’s ongoing commitment to addressing fraudulent stock-option practices and ensuring full and fair disclosure of executive compensation.” So far, hundreds of companies have been subject to some sort of probe into possible backdating—either by the SEC, the Justice Department, or internal investigators at the companies themselves—but enforcement actions are still a rarity. The SEC has moved against only two other companies so far, so any indicator of the Commission’s thinking on enforcement actions receives enormous scrutiny as a possible benchmark for future actions against other companies.
Indeed, Corporate America is also gossiping about a potential settlement in the SEC’s first backdating case, brought last year against Brocade Communications Systems. Brocade was charged with violating securities laws based on its alleged stock option pricing scheme. In the first quarter of fiscal year 2006, the company reserved $7 million for a proposed settlement with the SEC, which Brocade said was based on an offer it made to the SEC staff.
The Financial Times reported last week that the settlement deal ran into trouble because the commissioners couldn’t agree on how large of a penalty to impose. People familiar with the matter say the SEC’s Office of Economic Analysis is trying to determine whether or not Brocade realized an economic benefit from the alleged improper backdating.
In the past, the commissioners have been divided on the issue of financial penalties. During former chairman William Donaldson’s tenure—which was marked by sky-high penalties against several companies—Donaldson, a Republican, sometimes sided with Democratic commissioners Roel Campos and Harvey Goldschmid in favoring fines. Republican commissioners Cynthia Glassman and Paul Atkins generally opposed them, arguing that they hurt shareholders. To address the issues, the SEC issued a statement in January 2006 on its framework for determining whether, and to what extent, to impose civil penalties against a corporation. See related coverage, above right.
NASD Amends Filing Fees For WKSIs
The NASD has filed a rule change with the SEC to amend its filing fees for well-known seasoned issuers under Rule 2710, with a maximum fee of $75,500 for each such filing. While the rule is effective immediately, the implementation date is Feb. 26, 2007.
“WKSIs”—large issuers that generally must have either more than $700 million of worldwide equity market capitalization or an aggregate of $1 billion of non-convertible securities issued within the past three years—are permitted to file automatically effective shelf-registration statements without specifying the amount or value of the securities that may be offered off the registration statement for up to three years.
While most WKSIs are exempt from filing shelf offerings with the NASD, the fee will apply for those WKSIs with a conflict of interest as defined under Rule 2720, which does make them obligated to file shelf registration statements with the NASD.
NASD bylaws provide that the fee imposed for filing documents is based on the proposed maximum aggregate offering price or other value of all securities registered on an SEC registration statement or included on any other type of offering document. The NASD said in its filing that assessing the fee has been “problematic,” because WKSIs aren’t required to specify in the registration statement what that proposed maximum offering value is. The NASD noted that most WKSIs provided a value of securities that will be offered at or above $750 million, corresponding with the maximum filing fee.
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