U.S. SECURITIES AND EXCHANGE COMMISSION

Litigation Release No. 20193 / July 12, 2007

Accounting and Auditing
Release No. 2633 / July 12, 2007

Securities and Exchange Commission v. Michael F. Shanahan, Sr., et al, United States District Court for the Eastern District of Missouri, Civil Action No. 4:07-cv-1262 (E.D. Mo. July 12, 2007)

SEC Files Actions Against Former CEO and Former Board Member of Engineered Support Systems, Inc. Relating to Options Backdating Scheme

On July 12, 2007, the Securities and Exchange Commission filed a civil injunctive action against Michael F. Shanahan, Sr. ("Shanahan"), the former Chief Executive Officer of Engineered Support Systems, Inc., and his son Michael F. Shanahan, Jr. ("Shanahan Jr."), a former member of Engineered Support's Compensation Committee of its Board of Directors, alleging that they participated in a fraudulent scheme in which they granted undisclosed, in-the-money stock options to themselves and to other Engineered Support officers, employees, and directors. According to the complaint, Engineered Support employees and directors received approximately $20 million in unauthorized and undisclosed compensation as a result of the backdating, $16 million of which was received by top executives and directors. Shanahan personally profited from the backdating scheme by $8,916,562.

The complaint alleges that, from 1997 through 2002, Shanahan and Shanahan Jr. approved the issuance of backdated stock options that coincided with historically low closing prices of Engineered Support's common stock. The company's stock options vested at the time of grant, providing the option recipients with instantly realizable compensation. In addition, the complaint alleges that, on at least two occasions, Shanahan approved the cancellation and reissuance of previously backdated Engineered Support stock options that had fallen out-of-the-money with new backdated grant dates and exercise prices, in order to bring them back in-the-money. The complaint also alleges that Shanahan granted additional Engineered Support stock options to non-employee directors in excess of authorized amounts, from which these directors profited by approximately $6 million. The complaint alleges that Shanahan Jr. profited by $379,738 from the receipt of unauthorized stock options.

As part of the scheme, Shanahan and Shanahan Jr. allegedly caused Engineered Support to misrepresent in its Forms 10-K, proxy statements, and registration statements filed with the Commission that all stock options had been and would be granted at the fair market value of the Company's common stock on the date of the award. The complaint also alleges that Engineered Support failed to report the additional compensation its executives had received through in-the-money option grants, and that the Company failed to disclose the repricing of options that had fallen out-of-the-money, or the granting of stock options to non-employee directors in excess of authorized amounts.

The Commission's complaint alleges that Shanahan and Shanahan Jr. violated Section 17(a) of the Securities Act of 1933 ("Securities Act"), Sections 10(b) and 14(a) of the Securities Exchange Act of 1934 ("Exchange Act"), and Rules 10b-5 and 14a-9 thereunder, and aided and abetted violations of Sections 13(a) and 13(b)(2)(A) of the Exchange Act and Rules 13a-1 and 12b-20 thereunder. The Complaint also alleges that Shanahan violated Section 13(b)(5) and Exchange Act Rules 13b2-1 and 13a-14. The Commission is seeking permanent injunctions, disgorgement of ill-gotten gains, including prejudgment interest, civil penalties, and bars from serving as an officer or director of any public company against Shanahan and Shanahan Jr. The Commission is also seeking from Shanahan reimbursement of certain bonuses, other incentive-based and equity-based compensation, and stock sale profits, pursuant to Section 304 of the Sarbanes-Oxley Act of 2002.

The Commission's investigation in this matter is continuing.

For further information, see Litigation Release No. 19990 (February 6, 2007).

SEC Complaint in this matter