Option-grant timing raises eyebrows

NEW YORK — Just because a rule change in 2002 made it hard to backdate options in a way that enriches executives doesn't mean the funny business with timing awards hasn't continued.

The widening hunt for companies in which the timing of options grants might appear unusually lucky for the recipients has centered largely on the days before mid-2002, when the Sarbanes-Oxley Act imposed speedier disclosure rules for the awards.

Where it was once possible to see a lag of months or even a year before a company disclosed an options grant to executives, Sarbanes-Oxley shrank that window to two days in most cases. That made it extremely hard to monkey with grant dates and exercise prices by choosing a point in the past when a stock might have been lower.

Stock options give an employee the right to buy a company's shares at an "exercise" price usually equal to the market price on the date they're issued. Federal regulators and prosecutors are investigating whether pre-Sarbanes-Oxley grants were backdated to give them a lower exercise price, instantly boosting the value of such options.

But even if Sarbanes-Oxley abruptly closed one window for finagling, it may turn out that questionable options practices have continued to this day, albeit using more old-fashioned forms of choreography such as timing the release of good and bad news.

And according to Gradient Analytics, an investigative-accounting firm, it appears some companies that look to have engaged in improper options dating simply changed gears when Sarbanes-Oxley made that particular form of manipulation impossible.

As with the back-dating controversy, which has sent analysts and investors trolling far and wide through old corporate filings for suspicious activity, it's best to avoid a witch-hunt mentality that could treat coincidence as crime. Still, it's hard not to raise an eyebrow at the uncanny timing of some post-Sarbanes-Oxley grants.

K-Swiss, the maker of trendy tennis sneakers, showered its CEO and other senior managers with stock options at opportune moments in both 2003 and 2004, regulatory filings show. The company, based in Westlake Village, Calif., did not respond to phone calls and e-mails seeking comment.

In 2004, Chief Executive Steven Nichols and Chief Financial Office George Powlick received options awards in August and September, respectively. That was when K-Swiss shares were languishing near a low point for the year.

It was also before a better-than 50 percent rally over the final three months of 2004 that boosted the value of Nichols' options by more than half a million dollars and made Powlick's grant $400,000 more valuable.

Those grants to Nichols and Powlick also happened to have been issued between two sudden swings in the company's fortunes.

In May of that year, K-Swiss warned that its second-quarter and full-year results would be well below analyst forecasts due to a decrease in orders from retailer Foot Locker.

The stock promptly tanked to the level near where the grants were made. Then, in October, K-Swiss topped Wall Street expectations for the third quarter, with CEO Nichols boasting the year would be the company's best ever.

The timing of grants to K-Swiss top brass also was fortuitous in 2003. Deborah Mitchell, vice president for marketing, received one grant in January and a second in March. Both awards roughly coincided with 2003's low point, and preceded a steady advance from April to December that doubled the stock and boosted the value of her options by more than $700,000.

In mid-2003 — during a lull in the rally, but in time to capture half the year's big advance — K-Swiss gave options to CFO Powlick, a third award to Mitchell, and a grant to David Nichols, the CEO's son and an executive vice president.

The ensuing rally gave Powlick and the younger Nichols a quick paper gain of a quarter million each on their options and added about $50,000 to Mitchell's awards for the year.

Even if this pattern is coincidental, there's a key shortcoming in the company's approach to options grants that invites suspicion, according to Gradient Analytics, which first flagged K-Swiss' practices in a report last year.

Many companies issue options at a set point such as once a quarter or once a year. By contrast, K-Swiss gives its compensation committee the discretion to award options when it sees fit — a practice that's common among many of the companies that have acknowledged problems in the back-dating investigation.

While a set schedule for options awards could minimize the latitude available for gaming grants, academic studies suggest such an approach is open to manipulations too. Knowing the dates on which awards will be made, the CEO can delay the release of good news so the options capture the likely stock gain to follow.

A CEO with bad news would be inclined to publish it before the predetermined grant date so the options will be awarded with a lower strike price.