Judge Declines to Dismiss Siebel Suit

April 11, 2003 (PLANSPONSOR.com) - A lawsuit against Siebel Systems will go to trial October 6, after a San Mateo, California federal judge declined to dismiss the case.

The lawsuit, filed by the Teachers’ Retirement System of Louisiana, alleges the software maker overstated its earnings by obfuscating stock option grants to chairman and chief executive officer Thomas Siebel.   This action constituted a violation of the company’s own rules for granting options, by both exceeding a cap set on the number of options it was allowed to grant, and, in some cases, issuing options at below market value without expensing the difference in price, according to a Reuters report.

Originally filed September 23, 2002, the lawsuit was amended in November (See  Louisiana Fund Lobs More Allegiations at Siebel ).   Following the addendum, the suit further alleged the improperly issued stock options led to improper accounting that Siebel was aware of when he filed financial statements under the Sarbanes-Oxley Act.

“In today’s proceedings, the court did not review or rule on the merits of this case in any respect, they merely reviewed narrow technical and procedural issues,” Siebel spokeswoman Nitsa Zuppas said in the Reuters report. “Any allegations in the suit that Siebel has not properly accounted for its stock option grants or has filed inaccurate certifications with the [US Securities and Exchange Commission] SEC are absurd and without basis in fact,” Zuppas said.

The accounting firm KPMG, which audited Siebel’s books and signed off on its accounting of stock options, is named as a co-defendant in the lawsuit.

Taking Stock

In January, Siebel’s chairman voluntarily canceled all of the stock options he received since 1998.      Siebel’s cancellation, covering 25.95 million stock options the company chairman possessed, was approved by the SEC following a review of the company’s accounting for the change.  With the cancellation, Siebel’s ownership stake in the company he founded has been reduced to 10.7% from 13.5% (See  CEO Siebel Cancels Stock Options ).

The move by the chairman was one in a long line of moves the San Mateo, California based company took to restructure its compensation and options programs. Previous steps included Siebel lowering his salary to $1 in each of the past two years and the company allowing employees to swap approximately 28 million out-of-the-money stock options for cash or restricted stock in September (See  Siebel Offers Rank & File Option Swap ).

Brouhaha Building

The case against Siebel comes at a time when companies across the country – particularly high-tech companies – are coming under increased scrutiny for the practice of awarding executives grants of stock options without expensing them as compensation.  These companies contend they have long relied on options as a way to supplement the cash salaries they pay and argue that it would be impossible to attract top talent without the incentive.   However, critics of the practice, say   that options need to be recorded as income paid, otherwise earnings are falsely inflated.

Like its techno-peers, Siebel relies heavily on stock options as a form of compensation, using the intrinsic value method to account for the value of the options.  Under this method, options are accounted for by taking the difference between the market price of the stock and the exercise price at which the employee may buy that stock.

Current US guidelines allow companies to choose between subtracting the expense of stock options from their income statements and disclosing their theoretical value in the footnotes of their financial statements.  With the exception of a handful of early volunteers and the approximately 130 recent coverts, most companies have opted to record the expenses in their footnotes (See  Fewer Companies Volunteer Stock Option Expenses ).

Siebel said in its 2001 annual report that the $255 million profit it reported that year would have been a $467 million loss had it been required to expense the cost of the options.