UnitedHealth's McGuire Get Same Options Twice?
By Charles Forelle and James Bandler
The Wall Street Journal
Friday, October 20, 2006
Investors and the public heaped scorn on William McGuire this
week for his role in apparent stock-options backdating at
UnitedHealth Group Inc. But his thorniest legal problems could
stem from a 1999 transaction in which backdating played only a
In the transaction, according to a report prepared by outside
lawyers commissioned by UnitedHealth directors, Dr. McGuire and
other employees were able to effectively get the same options
twice, at favorable prices, while skirting disclosure
requirements and potentially violating accounting rules. For
Dr. McGuire alone, the extra options are now valued at $250
million. Just as troublesome for Dr. McGuire, the report
concluded that it's unclear whether directors ever intended to
give Dr. McGuire such a generous deal.
Dr. McGuire's role in implementing the transaction is amply
documented. The lawyers probing UnitedHealth found a 1999 memo
from Dr. McGuire to directors in which he initiated the
arrangement. He also told the investigators that it was
structured as it was in part to avoid having to reprice the
options, which would have unpleasant accounting consequences,
according to a person familiar with the matter. That would
cause a drag on earnings.
But UnitedHealth's outside lawyers believe that the accounting
treatment was nonetheless improper. That will likely require
UnitedHealth to take substantial charges, and it may expose Dr.
McGuire or others to allegations of accounting misdeeds.
Dr. McGuire, the longtime chief executive of UnitedHealth,
stepped down as chairman of the giant Minnetonka, Minn.-based
insurer Sunday, and he will leave his post as chief executive by
Dec. 1. The moves follow an internal investigation by the law
firm of Wilmer Cutler Pickering Hale & Dorr, released in a
report on Sunday, that found rampant backdating of stock options
at the company, and attributed a substantial portion of the
blame to Dr. McGuire.
"If I were at the SEC, I think I would have plenty from the
WilmerHale report that would motivate me to look very hard at
Dr. McGuire's conduct," said Donald C. Langevoort, a law
professor at the Georgetown University Law Center. The 1999
options-swap transaction, he added, "is a perfect example of a
major compensation decision not being presented clearly and
plainly to the investing public until well after the fact."
Dr. McGuire's lawyer, David M. Brodsky, said, "Dr. McGuire is an
expert in health care but not the legal and accounting issues
concerning options. For that, he sought advice from others and
relied on their advice." He said he doesn't know who gave Dr.
McGuire the guidance.
In late 1999, according to the WilmerHale report, Dr. McGuire
was concerned that some stock options issued in the prior five
years were "underwater" -- that is, carrying exercise prices
above the stock's current market value. Because options give
recipients the ability to buy stock at a fixed exercise price,
that meant the options couldn't immediately be cashed in for a
On Oct. 22, 1999, Dr. McGuire wrote a memo to the board's
compensation committee proposing an unusual maneuver. He
suggested that more than two million options held by him and
others be "suspended," and that new ones be issued in their
place with a lower exercise price.
The motivation for such a swap appears to be avoiding the
deleterious accounting consequences of a straight "repricing" --
whereby options are simply given a new exercise price.
Accounting rules adopted in 1998 required repriced options to be
recorded on a company's books under so-called variable
accounting, a punishing method that requires assessing an option
every quarter between vesting and expiration to determine if it
gained in value, and recording any gain as an expense. By
contrast, the usual method of accounting for options that were
issued at market value at the time of grant involved no expense
In any event, directors approved the swap, giving Dr. McGuire
and others roughly the same number of new options at
substantially lower exercise prices. As it happens, the
WilmerHale report concluded the new options likely were
backdated to Oct. 13, 1999, the low point that year for
UnitedHealth's stock, giving the recipients a running start to
make a profit on their replacement options.
Dr. McGuire's actions were likely in vain, though. The
WilmerHale report said the 1999 replacement grant "was
effectively a repricing for accounting purposes." Though
UnitedHealth itself hasn't come to a conclusion about how to
account for the grant, it is likely the company will conclude
that its past financial statements didn't record adequate
compensation expenses -- meaning the company's earnings looked
better to investors than they should have.
Charles Mulford, an accounting professor at Georgia Institute of
Technology, said, "I would argue, in substance, this was a
repricing and should have been accounted for as such."
In August 2000, the suspended options were reactivated. That
meant that Dr. McGuire and other employees got the best of both
worlds -- owning both the original options, which were now "in
the money" because the stock price had surpassed the exercise
price, and the purported replacements.
The WilmerHale report said Dr. McGuire's 750,000 options were
reactivated with an average strike price of $47.21, at a time
when shares were changing hands at $81.81 -- an instant gain of
$26 million for Dr. McGuire alone.
Though the reactivation was apparently approved by directors,
the WilmerHale report suggested they may not have fully
understood what they were doing. The report cited missing or
nonexistent documents, and said that minutes from the August
2000 board meeting don't even mention the reactivation.
Two directors "recalled that there was a discussion of the
reactivation at [the August 2000] meeting," the report said.
But "no member of the Compensation Committee in 2000
specifically recalled that Dr. McGuire was the intended
recipient of such a large grant of options."
Legal experts said the Securities and Exchange Commission will
want to determine whether directors were, in effect,
bamboozled. "To the extent that the commission decides that Dr.
McGuire or anyone else in senior management was not candid with
the board and let them operate in the dark, I think the
commission could turn that into the basis for an enforcement
action," Prof. Langevoort said.
A person close to Dr. McGuire said the August 2000 reactivation
was not a surreptitious pay grab. Indeed, this person said, it
was decided at a compensation-committee meeting and at a full
board meeting. This person added that employees with suspended
options were sent a memo shortly after the meeting noting that
the suspension had been lifted, and that such lifting didn't
affect the 1999 supplemental grant.
In any case, the WilmerHale lawyers determined, the August 2000
reactivation should have been treated as a new grant altogether,
requiring UnitedHealth to take a substantial charge against its
Dr. McGuire and UnitedHealth are negotiating the financial terms
of his departure. The question of whether he should be allowed
to keep the now-disputed reactivated grant is likely to be a key
element in those discussions.
--Mark Maremont contributed
to this article
Write to Charles Forelle at
email@example.com and James Bandler at