Apple's Options Overdose

The computer giant often granted options at or near key events in its tumultuous history

by Arik Hesseldahl

In 1997, Apple Computer was in turmoil. That year also happens to mark the beginning of a period during which the company says it found "irregularities" with the granting of stock options to executives. Since options values are so closely tied to stock movements, I thought it would be useful to look at that period to recall the events that appear to have whipsawed Apple's shares that fateful year.

Let's start with what we know. Apple (AAPL) has disclosed that it has unearthed unspecified "irregularities" with options granted starting in fiscal 1997 and ending in fiscal 2001. That corresponds to a calendar-year period beginning in late 1996 and ending in September, 2001. Apple has also said that it will have to restate earnings for somewhere in the range of fiscal years 2003 to 2005. Additionally, the company hasn't filed its quarterly financial report to the Securities & Exchange Commission for its most recent quarter. We also know, as the Los Angeles Times reported last week, that Nancy Heinen, Apple's former general counsel, has retained two defense attorneys in regard to this situation. (I tried to reach Heinen and her lawyers but haven't heard back.)

There's a lot that remains unclear. First, Apple hasn't disclosed the nature of the "irregularities" that its independent counsel is investigating. Some companies are being probed for a practice called backdating, which can occur when the grant date of the options is set in such a way that the employee receives the grant at a low strike price. That means the recipient would make a bigger profit when the options are exercised, and backdating can result in the misstatement of employee compensation costs. In the most egregious cases, criminal charges against executives can result.

TIMING IS EVERYTHING.

Ideally, stock options are supposed to be granted at a strike price that is equal to the closing market price on the day the grant is approved. And beginning this calendar year, the rules about reporting options as an expense have tightened. But before Sarbanes-Oxley and other new accounting rules went into effect, the environment for granting options was generally much looser. If a company granted options, it might be months before it was required to disclose that fact to the SEC. Now that report has to be filed within days of the grant.

Apple is refraining from making further comment on the matter until the results of its internal investigation are known. So until then, we have to go on the press releases, regulatory filings, and media reports of the time. And while little is certain yet, I can observe that in some key cases, options were granted at or very near some of the pivotal events in Apple's history.

The beginning of the period of Apple's "irregularities" coincides with the acquisition of software maker Next and the return of Steve Jobs to the firm in December, 1996. Apple was, you'll remember, in pretty deep trouble in those days. We all know the story: Steve stepped in, replacing Gilbert Amelio; Microsoft (MSFT) invested $150 million; the iMac debuted. All this occurred within a dizzying 19 months.

TEN YEARS AGO.

One interesting tidbit I found from press coverage at the time concerned a leaked Apple memo (something we never see from Apple anymore) from August 1997, about a month after Amelio's ouster. It said stock options instead of cash would be the primary method for paying employee bonuses. This gives some rare insight into what was being discussed internally at Apple at the time.

It's also interesting because several large stock-option grants were approved in the weeks before that memo emerged. For example: Several Apple executives were granted options on July 11, two days after Amelio's departure was announced. So began Jobs' term as interim CEO, the earliest phases of which were marked by substantial uncertainty, rumors of buyouts, and questions concerning Apple's long-term viability.