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Tech's Backdating Blues

The options-backdating scandal hasn't exactly been good news for the beleaguered tech sector.

But things could get worse -- potentially, a lot worse.

In coming weeks and months, the number of companies accused of backdating options for their executives or allowing them to game the system in other, similar ways will likely continue to grow, analysts say. And because the tech industry has been one of the most prolific users of the compensation scheme, it wouldn't be surprising if the bulk of those are tech firms.

"I worry every day that one of the names I own will come out and say 'We have an issue,' " says a portfolio manager who asked to remain anonymous. "This is already a big cloud. A portfolio manager would have to be kidding you if he said he wasn't worried about this."

Further revelations will, of course, be especially bad for those companies named. But the steady trickle of disclosures so far has already weighed on the sector as a whole, and will likely continue to do so. "This is a breach of trust to shareholders," says Charles Elson, chairman of the Weinberg Center for Corporate Governance at the University of Delaware. "It's bad news all the way around."

The scandal centers on how certain companies priced options granted to their executives. Employee stock options typically carry a strike price equivalent to the market price of the stock on the day they are granted.

But about a dozen companies so far have been identified as having suspiciously granted options on what turned out to be their stock's near-term or 52-week low. The accusation is that the companies set the strike price for the options long after they were actually granted, i.e., when the stock's movement was known. The value of an option is determined by the difference between the market price of the stock and the exercise price of the option, meaning the lower the exercise price, the greater the payout.
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