Feds Turn Up Backdating Heat

SAN FRANCISCO -- Federal regulators are making it clear that they are taking the stock-options backdating issue very seriously.

On Thursday, they filed criminal and civil charges against several former executives at Brocade(BRCD Quote), including former CEO Gregory Reyes. The cases allege that the executives defrauded investors by falsifying documents and knowingly releasing misleading income statements.

While the charges were the first of their kind in the broader backdating scandal, government officials said they wouldn't be the last. The Securities and Exchange Commission, for instance, is now investigating backdating allegations at more than 80 companies, said Chairman Christopher Cox at a press conference here. The commission expects to file additional enforcement actions in the "coming weeks and months," he said.

Backdating "goes to the heart of the relationship between a corporation and its shareholders," Cox said, adding that the practice "deceives investors and the market as a whole."

"We're using the full weight of the federal government to stamp out fraudulent stock options backdating," he added.

Stock options give employees and executives the right to buy their company's stock at a pre-set price. Under most company stock plans, that exercise price is supposed to be the market price of the stock on the date the options are granted.

But companies caught up in the backdating scandal are accused of granting options that carried exercise prices from dates days or weeks prior to the actual grant date. In many cases, these exercise prices corresponded to short-term lows in the companies' stocks. Essentially, companies are alleged to have given employees and executives options that were already in the money by the time they were handed out.

The legality of backdating itself is questionable. The key issues for federal regulators are whether companies properly disclosed that the options were backdated and whether they properly accounted for those options. Under accounting rules that were recently phased out, companies only had to recognize an expense for employee stock options if they had a nominal value when they were handed out; in other words, if they were in the money.