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"BACKDATING STOCK OPTIONS SO THAT EXECUTIVES ARE ALREADY IN-THE-MONEY AND DISGUISING THE PRACTICE CAN BE COMPARED TO LETTING EXECUTIVES BET ON A GAME WHERE THEY ALREADY KNOW THE FINAL SCORE." —Randall Heron, Indiana University use it. Or, it may have established a learning structure, but fail to evalu- ate its knowledge portfolio quanti- tatively and qualitatively or discover how that portfolio differentiates it from competitors. By integrating all four areas, however, companies can build a complete picture of what they know, how they know it, and how it can help them succeed. The researchers' paper also includes a detailed case study on how the Lafarge Group, a construc- tion materials company based in France, developed its own knowl- edge management strategy and used the Learning Mix as a diagnostic tool. Although Lafarge's strategy is unique to its own operations, Moingeon and Perrin argue that any company can use the Learn- ing Mix model to create their own "communities of practice," which has become an increasingly popular idea in the knowledge management field. The term describes how the members of a firm's community actively share their knowledge, both from the top-down and from the bottom-up. Perrin paraphrases researcher Leif Edvinsson to describe his and Moingeon's approach to their research. "Like Edvinsson, we strongly believe that people learn as long as they live, whereas com- panies live as long as they learn," Perrin says. "We hope that our research will provide some food for thought, as well as some actionable knowledge for companies striving to design and implement knowl- edge management strategies." To read "Knowledge Manage- ment: A Learning Mix Perspective" in its entirety, visit www.hec.fr/hec/ fr/professeurs_recherche/upload/ cahiers/CR836.pdf. B-School Professors Uncover Fraud Many management professors want their research to have an impact on busi- ness, but few can claim that their research resulted in a federal investi- gation. Randall Heron, an associate professor of finance at Indiana Uni- versity's Kelley School of Business in Indianapolis, and Erik Lie, associate professor of finance at the University of Iowa's Tippie College of Business in Iowa City, recently conducted a study that did just that. In a study slated to appear in the Journal of Financial Economics, Heron and Lie examined the stock price behavior that surrounded the issuance of executive stock option grants both before and after the Sarbanes-Oxley Act of 2002 went into effect. In addition to its other requirements, Sarbanes-Oxley (SOX) also changed the reporting requirements for stock options. Prior to the regulatory change, options given to executives did not have to be reported until 45 days after the close of the company's fis- cal year. Since the implementation of SOX, options must be reported to the Securities and Exchange Commission (SEC) within two days of the grant decision. Heron and Lie discovered that a typical stock price pattern disap- peared just after the act was put into effect. They explain that the market usually sees significant stock price declines leading up to execu- tive option grants; those declines are then followed by significant stock price increases. This pattern, say the researchers, encourages many companies to backdate their stock options so that executives can purchase stock at a lower price and then realize the benefits of the stock's subsequent rise. After SOX, no such pattern appeared for firms that filed their option grants with the SEC within one day of the grant decision. At the same time, the researchers also found that roughly one-fifth of the option grants made since the regu- latory change were not reported to the SEC within the two-day requirement. Those late filings caught the researchers' attention. On average, these late filers saw the value of their stock decline by more than 3 percent in the 30 days prior to their option grants, and rise more than 7 percent in the 30 days following the declared option grant date. The re-emergence of the familiar and favorable stock price pattern for late filers suggested to Heron and Lie that, even after SOX, many companies continued the practice of backdating option grant dates for executives to boost the value of their stock options. The practice of backdating is not illegal, the researchers explain, but companies must include the spread between the declined price and the increased price in their financial reports. Reporting that spread usu- ally lowers the company's reported earnings. Investigators suspect that some of the companies that missed the two-day window did so to shield BizEd SEPTEMBER/OCTOBER 2006 49