CEO Stock Option Grants: The Economic Consequences of Revelation of Backdating and the Confounding Effect of Good-Timing of Earnings Disclosure

Abstract

This paper examines the economic consequences of the revelation of CEO stock option backdating and the confounding effect of the good-timing of earnings disclosure in explaining the pattern in stock returns around option grant dates. First, we investigate 136 firms identified in the Wall Street Journal (WSJ) as of December 2006 as having been implicated in option backdating. Using the CRSP 2006-2007 data, we find that the economic loss upon the revelation of backdating is $129 billion and that it is significantly associated with the potential option expenses. Second, using a full sample from the Thomson Financial Insider Filing Database, we document that backdating and good-timing jointly existed in the full sample before the Sarbanes-Oxley Act of 2002 (SOX). Moreover, our evidence suggests that while the SOX mitigates the backdating problem, the trough pattern in stock returns around option grant dates in the post-SOX period is mainly driven by good-timing.