Risk Management

Facing Backdating Claims: Pick Your Strategy

UnitedHealth ex-CEO McGuire fights, while Brocade and Analog settle their civil stock-option-related cases.
Stephen Taub and Roy HarrisJune 3, 2008

Three cases. Three different strategies for dealing with stock-option backdating allegations.

While Brocade Communications Systems has said it will pay $160 million to plaintiffs to settle its class-action lawsuit, and Analog Devices Inc. and its CEO have signed seven-figure settlements in the face of backdating-related charges by the Securities and Exchange Commission, former UnitedHealth chairman and CEO William McGuire is fighting. He has chosen an “I know nothing” defense in his backdating-related case, according to a report in the Star Tribune in Minneapolis.

McGuire’s attorneys are arguing that since he was not an accountant, McGuire was unable to try to defraud investors by backdating stock options, according to the Associated Press. Rather, his attorneys plan to argue in court later this month that McGuire relied on others to determine the legality of backdated stock options given to top executives and new hires, the reports say. As a result, McGuire believes all allegations against him in a shareholder’s lawsuit should be dropped, according to the paper, citing documents filed in court by McGuire late last week.

In the wake of its backdating scandal, UnitedHealth wound up revising downward earnings by $1.56 billion over 12 years. In a separate class-action case against the company, McGuire last December agreed to pay more than $600 million to settle claims with federal regulators and his former employer over the company’s illegal backdating of stock options. However, the current lawsuit also had been filed personally against McGuire, who resigned from the health insurer in October 2006 after an internal report found evidence that options awarded to him and others had been backdated. And it is for that case that his defense is now being prepared.

“Is there sufficient evidence that Dr. McGuire knew that UnitedHealth’s accounting for and disclosures regarding the stock option grants were wrong? The answer — after nearly 60 depositions and millions of pages of document production — is no,” McGuire’s lawyers say in a brief, according to the Star Tribune. “Dr. McGuire has no formal training or degrees in finance, accounting or law. His only professional training is as a medical doctor with a specialty in pulmonology.”

McGuire’s motion is reportedly in support of a summary judgment motion filed by UnitedHealth to get the lawsuit thrown out before the trial begins, according to the published report.

Brocade’s high-profile $160-million settlement, meanwhile, appears to resolve one of the earlier cases in the nationwide stock-option backdating scandal. Its class-action lawsuit was filed in May 2005 against the company and certain former directors and officers. The suit related to the company’s restatement of certain financial results in 2005 due to stock-based compensation accounting issues, the company noted. In May 2005, the networking storage company announced it would restate its financials by between $31 million and $52 million for fiscal years 2001 through 2004 because it understated charges related to stock-option expenses.

Meanwhile, last week, Analog Devices and CEO Jerald Fishman settled SEC charges of reporting false compensation and submitting related financial information to investors in the backdating of stock-option grants to officers, directors, and employees. Without admitting to, or denying the SEC’s findings, Analog and Fishman agreed to settle charges against them by consenting to the entry of an administrative cease-and-desist order. Analog agreed to pay a $3 million civil penalty and Fishman agreed to pay a $1 million civil penalty. Fishman also agreed to pay disgorgement of $450,000, plus prejudgment interest of $42,110, which represents the in-the-money benefit that he obtained from selling stock obtained from the exercise of the 1998 backdated option grant that he exercised.

“Today’s enforcement action holds Analog and its CEO accountable for misleading shareholders through the backdating of executive and employee stock option grants,” said Christopher Conte, associate director of the SEC’s Enforcement Division.

According to the SEC, from at least 1998 through 2002 Analog and Fishman engaged in improper conduct involving backdating three stock option grants that operated as a fraud on Analog’s shareholders and resulted in Fishman and other executives, directors and employees of Analog receiving undisclosed compensation.

The SEC alleged that in-the-money option grants made to Analog’s officers and employees resulted in $30.7 million in compensation costs that the company failed to properly expense in its financial statements. The order also said that the company and Fishman had failed to disclose the practice in three years of proxy statements and related annual reports, and instead made false and misleading statements and omissions concerning the option grants and the benefits they provided to Analog’s top officers, directors and employees.

Analog and Fishman agreed to cease and desist from law violations. And Analog also agreed to re-price two of the three option grants awarded to Fishman that he has not yet exercised in order to eliminate the benefit of the lower exercise prices that resulted from backdating the options.