Apple settles backdating stock options fraud lawsuit for $20.5mn

The Cupertino, California-based maker of the Mac computers and iPhone, Apple, has agreed to pay $16.5-million in a class action settlement against the company for alleged securities fraud relating to backdating of stock options.

The New York City Employees’ Retirement System brought suit against the company initially in 2006 in a class action, alleging the company unfairly exercised call options that were backdated.

Strike prices are set up to be out of the money, in order for executives to work hard to drive the company stock price up, at which point they could be hugely compensated with the stock options given they could increase shareholder value sufficiently within their term.

Backdating is a type of securities fraud were usually top level executives cooperate in a scheme to change an original call option strike price to a lower exercise price in order to increase their profits when the option is exercised.

Even a marginal decline in the strike price could net significant increases in profits for executives as they likely hold thousands of contracts (each contract has 100 shares).

For example, hypothetically, if one call option is given (with standard 100 shares) to an executive, with an exercise price of $10, and the current share price of the company is $6, if the stock price moves up over time, say to $20, the total profit from exercising that single option is $1,000 = today’s price of $20 – strike price $10 = $10 profit per contract that has 100 shares each = $1,000 profit per contract. Now, even changing the original strike price by a few dollars could deliver significant profits, especially with original call options that are set up to be closer at-the-money and the company stock significantly surpasses the strike. Considering Apple, given the explosive growth of the stock price, even marginal changes could bring significant profits.

This type of fraud comes entirely to the expense of shareholders.

Under the Apple settlement, $14-million would be distributed to shareholders, and $2.5-million would go to two universities, including Stanford Law School, towards programs relating to ethics and governance. The company also agreed to pay $4-million towards litigation fees, bringing the total settlement to $20.5-million.

The suit also forces the company to evaluate internal controls related to insider-trading, among other compensation provisions.

The Apple stock (NASDAQ:AAPL) is trading nearly at par from its opening price in mid-day trading at $289 per share.

Last February, executives from the maker of the popular BlackBerry smartphone, Research In Motion (RIM), including co-founder Jim Balsillie, also settled a suit that alleged backdating securities fraud, for $68-million without conceding any wrongdoing.


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Peggy holds a Bachelor Arts degree with honors in Economics from York University in Toronto, Canada. She is a Certified Management Accountant (CMA). She has also passed Level I of the Chartered Financial Analyst (CFA) Program. She is also a realtor. Write to peggy@business2press.com
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  • Dan_meye

    I think u meant “stock” prices not Strike?

    • http://business2press.com Hercules K

      Hi!

      Could you please tell me which part, since the word appears a few times. Thanks.

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