Options Backdating: Life Inside The Fraud Triangle

This is the third in our 5-part series on the most common types of financial fraud—Ponzi Schemes & Manipulation, Backdating Stocks, Insider Trading, Short Selling, Pump and Dump Schemes—and how due diligence investigators can protect your company’s assets and investments by tracking down fraudsters.

Last month, the U.S. Department of Justice filed criminal charges against Autonomy’s former CEO Mike Lynch and its former VP of Finance, Stephen Chamberlain, including one count of conspiracy and 13 counts of wire fraud. The alleged crimes are tied to HP’s $11 billion acquisition of the British firm in 2011, which, a year later took an $8.8 billion write-down—a huge loss to shareholders and a major fork in HP’s entrée into the software industry.

According to Courthouse News, the alleged crimes include:

“backdating agreements to record revenue in prior periods, making false and misleading statements to Autonomy’s independent auditor and regulators about the company’s revenue transactions and financial statements, and intimidating and paying off employees who complained about its accounting practices.”

While the jury is still out on whether Lynch and Chamberlain are guilty of the alleged charges, this type of financial fraud carries steep penalties, including up to 20 years in prison, $250K fine and restitution.

In April, Autonomy’s former CFO Sushovan Hussain was convicted by a U.S. jury for wire fraud and conspiracy in the acquisition. Hussain is seeking an appeal.

What exactly is backdating? 

Backdating is dating any document earlier than the one on which the document was originally drawn up. Backdating can be legal and illegal.

If illegal, it culminates within what Steve Albrecht calls “The Fraud Triangle”:

  1. Perceived Pressure (financial needs or peer pressure)
  2. Rationalization (personal integrity)
  3. Perceived Opportunity (weak or lax controls)

Albrecht noted that these three elements are found in all fraud:

“Neither the pressure nor the opportunity has to be real. An observer may look at a fraud and say … you didn’t have the kinds of pressures to do something like that and you should have known you would get caught. However, it doesn’t matter what the observer or anyone else besides the perpetrator thinks. If he perceives a pressure and an opportunity and can rationalize his behavior, he is likely to commit fraud.”

For example, a person commits financial fraud by backdating stock options to land on the date when the stock was at its lowest value, allowing for the highest return when it is sold. Fraudulent backdating also includes dating a transaction from one year to a previous year in order to receive tax benefits or to make it appear that revenues occurred earlier than they in fact had.

Many corporations lure executives with stock options. To land him or her, they may be tempted to backdate the stock options to a date when the value of the stock was at its lowest to maximize the potential profit. Corporate backdating of stock options came under the scrutiny of the Security Exchange Commission in 2006. Nearly 300 companies were found guilty of this fraudulent behavior, including officers of UnitedHealth Group, Apple, Monster Worldwide, Inc., and Broadcom. As an anti-fraud measure, the SEC requires that corporations report options offerings within two business days.

Cynthia Hetherington, MLS, MSM, CFE, CII is the founder and president of Hetherington Group, a consulting, publishing, and training firm that leads in due diligence, corporate intelligence, and cyber investigations by keeping pace with the latest security threats and assessments. She has authored three books on how to conduct investigations, is the publisher of the newsletter, Data2know: Internet and Online Intelligence, and annually trains thousands of investigators, security professionals, attorneys, accountants, auditors, military intelligence professionals, and federal, state, and local agencies on best practices in the public and private sectors.

2018-12-19T15:25:01+00:00 December 26, 2018|Tags: , , , , , |