... stock options as a form of management compensation. The payoff for option holders and equity holders is not the same. Option holders have unlimited upside potential if stock prices rise, but very limited downside risk. Their "free" options simply expire worthless. This rewards unwarranted risk taking and discourages dividend payments. Further, if the options are issued "out of the money" they don't have to be treated as expenses on the income statement. 5. Investor and sell side analyst emphasis on beating short-term earnings expectations led to considerable pressure on managers to manipulate earnings, in some cases committing outright fraud. Many firms present investors with pro forma "Operating Earnings" (referred to by cynics as "earnings before bad stuff"). The Sarbanes-Oxley Act, it's the name of a piece of U.S. compliance legislation, with global implications, which was signed off in 2002. A key section, Section 404, went live on Nov. 15. It's ...

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