Et Tu, Apple? Options Backdating Hits Cupertino (AAPL)

Wow...I guess I shouldn't be surprised by now, but I was momentarily taken aback by Thursday's news that Apple (AAPL) had discovered "irregularities" in stock options issued between 1997 and 2001. Apple has hired outside counsel to further the investigation and the company has also notified the SEC of the pending investigation.

Apple is just the latest in a slew of companies, mostly technology vendors, that are now undergoing some measure of investigation into options policies. I'm not going to speculate on the culpability of any specific company but it's difficult to defend the industry for what's starting to appear like a fairly pervasive practice.

I've heard some other investors make the contention that "it's no big deal" because "everyone was doing it." I have a real problem with that logic for several reasons:

1) Everyone is NOT doing it. Even if another 200-300 companies come forward in the coming months as having committed some measure of backdating, that's but a small fraction of the overall public equity universe and hardly excuses the practice.

2) Anything that misaligns company interests with that of its outside shareholders IS a big deal. While backdating wasn't technically illegal (as long as it was disclosed to shareholders and properly accounted for), the irregularities we're seeing are, at best, misaligning the motivations of management with outside shareholders and, at worst, far more nefarious. As a public equity investor, there is an implicit fiduciary responsibility that public company executives maintain a fairness to all their constituencies, backdating does not - in any way - do that.

3) It's a blow to the technology industry. It's foolish to think that technology companies are the only ones who committed backdating offenses, but clearly the industry is suffering the brunt of the initial inquiries. Given the aggressive use of options by technology companies (which helped fuel growth), it's as equally foolish to think tech won't be among the most egregious offenders when the dust settles. For an industry that is already struggling to gain relative support by asset allocators, this is a most unwelcome revelation.

Sadly, I think we're going to see a lot more evidence of this kind of practice before it's all said and done. I can't and won't tell other investors how they should treat these announcements, but I can tell you that in aggregate, it's disappointing for those of us who so passionately evangelize technology companies and their investment potential.

Full disclosure: At the time of this writing I, and/or funds I maintain discretionary control over, did not maintain a position (long or short) in AAPL.

Comments

[Tom B]

Clearly, this is highly unethical, and as an APPL holder, I am annoyed. I am hoping the practice was not widespread within the company.

[advocatusdiaboli13]

I share your sentiment, but with one clarification: the term widespread implies across many grants and that would actually be better than if this nefarious and self-dealing practice were limited to just a few key executives. Why? Because they have the greatest fiduciary responsibilities to external shareholders and they are the leaders of the company. In additon, their small number of grants cover the majority of allocated options.