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National Association of Corporate Directors

National Association of Corporate Directors. October 5, 2006 Paul Berkowitz Shareholder Greenberg Traurig, P.A. Dead People Can Vote in Chicago and, Evidently Receive Options in Bethpage, NY. Setting the Stage.

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National Association of Corporate Directors

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  1. National Association of Corporate Directors October 5, 2006 Paul BerkowitzShareholder Greenberg Traurig, P.A.

  2. Dead People Can Vote in Chicago and, Evidently Receive Options in Bethpage, NY.

  3. Setting the Stage • Over 100 companies are currently under federal investigation for backdating or otherwise manipulating stock option grants. • Between 1990 and 2003 the average number of shares set aside for equity grants increased from 8% to over 17% of outstanding shares. • The annual burn rate grew from under 1% to more than 2.5%. • The dotcoms exceeded these standards.

  4. A New Vernacular • Backdating – retroactively moving back the date of grant. • Bullet-Dogging – granting options immediately following the release of bad news. • Discounted Options – issuing below fair market value. • Exercised Backdating – retroactively moving the date of exercise to an earlier or later date with a lower stock price. • Spring-Loading – granting options shortly before good news is announced.

  5. The Problems • Restatements • Prior Disclosures may be incorrect • Civil Litigation • Tax Problems – 162(m); ISOs; 409A

  6. Letter of September 19, 2006 from Conrad Hewitt, Chief Accountant, Securities and Exchange Commission to Committee on Corporate Reporting, Financials Executive International and American Institute of Certified Public Accountants • Under Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” the relevant determination is the “measurement date” which is defined as “the first date on which are known both (1) the number of shares that an individual employee is entitled to receive and (2) the option or purchase price, if any.” • Short delays in completing the administrative procedures to finalize a grant do not result in an accounting consequence.

  7. Delegation Issues • Obtaining oral authorization and subsequently completing the documents evidencing the award at a later date, or • Delegation of authority to a member of the Compensation Committee or management within specific parameters. • What was the Company’s pattern; for example, did it retract awards when the price dropped or did the Company treat grants as fixed and unchangeable? • Is it a valid grant – for example, the plan may preclude grants that are in-the-money.

  8. Authorizing an aggregate number of shares and leaving to management allocations to individuals- pursuant to paragraph 10(b) of Opinion 25, no measurement date occurs until “the number of shares that an individual employee is entitled to received” is known. • One solution is to fix the number of options based on levels of employment within the organization.

  9. Changes in the list of recipients were the number of options allocated to each recipient requires a conclusion that either: • The list that was prepared on the award date did not constitute a grant in which case the measurement date for the entire award will be delayed until a final list has been determined; or • The list that was prepared on the award approval date constituted a grant, in which case any subsequent changes to the list would be evaluated to determine whether a modification (such as a re-pricing) or cancellation has occurred.

  10. Down side protection results in variable accounting. • Granting of Options prior to commencement of employment – the measurement date is delayed until the commencement of employment. • Incomplete or missing documentation – the message is do the documentation contemporaneously and preserve it carefully.

  11. Materiality = Restatement (even non-material, but intentional actions require restatements) • The restatements are required for all of the effective years. • The Compensation Discussion and Analysis would require disclosure of a “program, plan or practice to select option grant dates for executive officers and coordination with the release of material non-public information”

  12. One solution • Systematized Grant Practices • Use a Single Annual Grant Date • Make the Grant Date within a window period.

  13. Paul Berkowitz Shareholder Greenberg Traurig, P.A. 1221 Brickell Avenue Miami, FL 33131 U.S.A. berkowitzp@gtlaw.com 305-579-0685

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