Cultural pundits have argued for years that we're transforming into a country of victims, in which every affront is now considered a cause for legal action.
That attitude has seeped into the financial marketplace, where a single poor earnings report or surprising negative announcement seems to be sufficient justification for a class action lawsuit. For example, Daktronics (NASDAQ:DAKT) was just served with a packet of lawsuits because it lowered full-year revenue guidance. Former Motley Fool Hidden Gems recommendation Flamel Technologies (NASDAQ:FLML) got hit with a class action lawsuit last year, because its extended-release formula for heart failure treatment Coreg didn't obtain the clinical results that were expected.
None of this comes as any big shock. Investors were just trying to recoup in the courtroom the money they couldn't win in the stock market. But often, corporations spend as much money fighting a lawsuit as they would to settle it. And the idea that some trial attorneys have been gaming the system really shouldn't surprise anyone.
Heads I win, tails … ?
Yet there's a large constituency within the financial system that bears just about zero risk in its investing. Stock options have been a particularly ripe playground for those who want to change the system from one that forces executives to work toward success, to one where huge pay packages are guaranteed. The backdating scandal was merely the first rung on the ladder, in which executives changed the dates on previously granted options to ensure that they would be in the money.
The next step was repricing those option. Many companies are seeking to change the prices of already-granted options that have now slipped underwater. Advanced Micro Devices (NYSE:AMD) wants to reprice 99% of its outstanding options, because with shares of the chip maker trading at a quarter of their year-ago value, the options are essentially worthless at this point. Plenty of other companies are doing so, or planning to.
This isn't a new practice. Back in 2001, many tech firms, including Apple (NASDAQ:AAPL), Adobe (NASDAQ:ADBE), and Oracle (NASDAQ:ORCL), gave employees the right to trade in their options for new options, cash, or stock -- leaving outside shareholders bearing the full pain of depressed share prices.
Do-over on taxes
The latest scheme to guarantee rewards gives option holders the chance to avoid the taxes normally due when those options are exercised. Squirreled away in the huge Wall Street bailout bill was a little provision that eliminates those taxes, at a cost of $2.3 billion.
A report in the Wall Street Journal notes how a Cisco Systems (NASDAQ:CSCO) employee had exercised 100,000 options at $0.10 each when the stock was trading at $64 a share, a cool gain of nearly $6.4 million. A year later, the stock was at $18, but he still owed $2.8 million in taxes, based on the higher price.
In response, the employee mobilized a bipartisan coalition of legislators to exempt him and other similarly situated individuals from having to pay the tax. While part of the problem is the hated alternative minimum tax, it's ironic that those with millions in options wealth get relief, while ordinary taxpayers across the country continue to suffer.
As investors, we must all remain aware of the risk of insiders trying to make off with profits that are due to shareholders. There's nothing wrong with rewarding executives who do good work -- as long as we hold them accountable, both legally and financially, when they fail.
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