Options Backdating: It’s "Blame the Gatekeeper" Time
In an earlier post (here) entitled "Options Backdating: Sue the Gatekeeper," I discussed a recent case where a company had sued its former accountant for the accountant’s options timing advice. It now appears, in addition to "sue the gatekeeper," that "blame the gatekeeper" has emerged as a part of options backdating litigation. A May 30, 2007 Law.com article entitled "On Judge’s Advice, Brocade Drops Wilson Sonsini" (here) discusses a number of cases in which companies and individuals who are defending themselves against allegations of options-related misconduct have attempted to blame alleged improprieties on outside lawyers and accountants.
The case discussed most prominently is the article involves Brocade Communications, whose ex-CEO George Reyes is facing criminal charges related to backdating at the company. According to the article, Reyes blames Wilson Sonsini partner (and former Brocade director) Larry Sonsini "for recommending that Reyes be allowed to aware options with little oversight." In light of Reyes’s defense, and apparently at the suggestion of the trial judge, Brocade has dropped Wilson Sonsini as its counsel on its own options-related lawsuit. According to a prior San Jose Business Journal article (here) discussing the hearing at which the judge questioned Wilson Sonsini's involvment in connection with the proposed settlement of the Brocade derivative case; the Business Journal article reports that the judge asked the Wilson Sonsini attorney at the hearing: "There is evidence out there that Mr. Sonsini was involved in the mechanism ... which officers utilized in granting backdated options. Is it appropriate for you as the law firm to negotiate the settlement?"
Another company mentioned in the Law.com article is KLA Tencor, for whom Sonsini also apparently acted as outside counsel. The article quotes a November 1998 email from KLA Tencor’s general counsel to Sonsini, in which the general counsel tells Sonsini that PricewaterhouseCoopers accountants had approved a process by which the company’s stock options committee could meet "during the 30 days following August 31 and set the price for repricing at that time in order to maximize the value for employees." KLA Tencor apparently has acknowledged that the August grant was backdated and has repriced those options.
The article suggests that the difficulty and complexity of relevant options accounting rules put management in a position where they had to rely on outside lawyers and accountants for guidance. The defendants will argue that that their interactions with lawyer and accountants show that they did not intend to commit a crime. The difficulty for defendants trying to use this as a defense is that they will have to show that the attorneys or accountants were explicitly informed of the defendants’ behavior. Moreover, as Mark Fagel, the head of enforcement in the SEC’s San Francisco office, puts it in the article, "I’m skeptical of the claim that someone didn’t understand that there was an accounting issue when they created a false document."
In an earlier post (here) entitled "Is Backdating Criminal?" I discuss an op-ed piece written by Reyes’s criminal defense lawyers in which they contend that "most backdating cases" are "not fraud, but books and records errors." In the post, I contend that the "authors’ theme that backdating is essentially innocent gets weaker the more a particular set of circumstances involves personal benefit, document falsification, and the greater the impact the activity had on the company’s reported financial condition."
To Woo Rather Than Scourge: When he was New York’s Attorney General, Eliot Spitzer made his name, and paved his way to the New York governor’s mansion, by taking on Wall Street and major insurance companies. Now that he is governor, he has decided to try New York financial services companies now need his help in order to remain competitive in the global market place.
In a May 29, 2007 Executive Order (here), Spitzer formed the New York Commission to Modernize the Regulation of Financial Services. A press release accompanying the order (here) states that the purpose of the Commission will be to "identify ways in which regulatory powers could be integrated, rationalize and changed in order to promote economic innovation and protect the consumer."
Spitzer’s Executive Order follows the recent tradition established by other leading New York politicians in their release of the Bloomberg-Schumer report (here), also designed to suggest ways to address the competitiveness of the New York financial markets. According to a May 30, 2007 New York Times article entitiled "Now, Spitzer Is Warming to Wall St." (here), the Bloomberg/Schumer report "focused on the patchwork of federal and state regulation," whereas Spitzer’s Commission will be "focused, at least initially, on trying to rationalize outdated state regulations."
New York currently has four departments responsible for regulating financial service in New York. The Commission will seek to rationalize the structure. The Commission will produce a report by the end of June 2008, but will try to put changes into place before then, including in particular a new principles-based system of insurance regulation.
The Commission will be chaired by Eric Dinallo, the New York State Insurance Commissioner, and will include leaders from Insurance, Securities, Banking, Business, Law and Government. The full list of Commission members can be found here.
This story brims with irony, particularly in the fact that among the insurance leaders that Spitzer has appointed to the Commission is AIG CEO Martin Sullivan. I am sure that most readers will recall that on March 15, 2005 (refer here), Sullivan’s predecessor, Maurice "Hank" Greenberg, resigned under pressure from Spitzer while Spitzer was New York Attorney General. As summarized in Wikipedia (here), Spitzer later filed a complaint against Greenberg and others alleging fraudulent business practices, securities fraud, common law fraud, and other violations. All criminal charges were later dropped and Greenberg was not held responsible for any crimes. Some civil charges remain (refer here). An interesting commentary on Spitzer's criminal nonprosecution of Greenberg can be found here.
Spitzer appears to have decided that his current political interests are better served by ingratiating himself with business leaders, rather than suing them (which served him so well in the past). I think most of us would understand if it took Sullivan a while to get comfortable in his new Commission seat.
I wonder, is it an inate human instinct to suspect zealous converts, particularly where the conversion is still recent and has an unmistakable air of calculation about it?
Hat tip to the FEI Financial Reporting Blog (here) for the link to the Executive Order and the Press Release.
Is Lerach Going to Retire?: According to a post yesterday on the Legal Pad blog (here), Bill Lerach of the Lerach Couglin law firm may be getting ready to retire:
At the same time, there are also rumors circulating (refer here) that former Milberg Weiss partner David Bershad is in plea talks in connection with the ongoing Milberg Weiss criminal investigation and prosecution.
The case discussed most prominently is the article involves Brocade Communications, whose ex-CEO George Reyes is facing criminal charges related to backdating at the company. According to the article, Reyes blames Wilson Sonsini partner (and former Brocade director) Larry Sonsini "for recommending that Reyes be allowed to aware options with little oversight." In light of Reyes’s defense, and apparently at the suggestion of the trial judge, Brocade has dropped Wilson Sonsini as its counsel on its own options-related lawsuit. According to a prior San Jose Business Journal article (here) discussing the hearing at which the judge questioned Wilson Sonsini's involvment in connection with the proposed settlement of the Brocade derivative case; the Business Journal article reports that the judge asked the Wilson Sonsini attorney at the hearing: "There is evidence out there that Mr. Sonsini was involved in the mechanism ... which officers utilized in granting backdated options. Is it appropriate for you as the law firm to negotiate the settlement?"
Another company mentioned in the Law.com article is KLA Tencor, for whom Sonsini also apparently acted as outside counsel. The article quotes a November 1998 email from KLA Tencor’s general counsel to Sonsini, in which the general counsel tells Sonsini that PricewaterhouseCoopers accountants had approved a process by which the company’s stock options committee could meet "during the 30 days following August 31 and set the price for repricing at that time in order to maximize the value for employees." KLA Tencor apparently has acknowledged that the August grant was backdated and has repriced those options.
The article suggests that the difficulty and complexity of relevant options accounting rules put management in a position where they had to rely on outside lawyers and accountants for guidance. The defendants will argue that that their interactions with lawyer and accountants show that they did not intend to commit a crime. The difficulty for defendants trying to use this as a defense is that they will have to show that the attorneys or accountants were explicitly informed of the defendants’ behavior. Moreover, as Mark Fagel, the head of enforcement in the SEC’s San Francisco office, puts it in the article, "I’m skeptical of the claim that someone didn’t understand that there was an accounting issue when they created a false document."
In an earlier post (here) entitled "Is Backdating Criminal?" I discuss an op-ed piece written by Reyes’s criminal defense lawyers in which they contend that "most backdating cases" are "not fraud, but books and records errors." In the post, I contend that the "authors’ theme that backdating is essentially innocent gets weaker the more a particular set of circumstances involves personal benefit, document falsification, and the greater the impact the activity had on the company’s reported financial condition."
To Woo Rather Than Scourge: When he was New York’s Attorney General, Eliot Spitzer made his name, and paved his way to the New York governor’s mansion, by taking on Wall Street and major insurance companies. Now that he is governor, he has decided to try New York financial services companies now need his help in order to remain competitive in the global market place.
In a May 29, 2007 Executive Order (here), Spitzer formed the New York Commission to Modernize the Regulation of Financial Services. A press release accompanying the order (here) states that the purpose of the Commission will be to "identify ways in which regulatory powers could be integrated, rationalize and changed in order to promote economic innovation and protect the consumer."
Spitzer’s Executive Order follows the recent tradition established by other leading New York politicians in their release of the Bloomberg-Schumer report (here), also designed to suggest ways to address the competitiveness of the New York financial markets. According to a May 30, 2007 New York Times article entitiled "Now, Spitzer Is Warming to Wall St." (here), the Bloomberg/Schumer report "focused on the patchwork of federal and state regulation," whereas Spitzer’s Commission will be "focused, at least initially, on trying to rationalize outdated state regulations."
New York currently has four departments responsible for regulating financial service in New York. The Commission will seek to rationalize the structure. The Commission will produce a report by the end of June 2008, but will try to put changes into place before then, including in particular a new principles-based system of insurance regulation.
The Commission will be chaired by Eric Dinallo, the New York State Insurance Commissioner, and will include leaders from Insurance, Securities, Banking, Business, Law and Government. The full list of Commission members can be found here.
This story brims with irony, particularly in the fact that among the insurance leaders that Spitzer has appointed to the Commission is AIG CEO Martin Sullivan. I am sure that most readers will recall that on March 15, 2005 (refer here), Sullivan’s predecessor, Maurice "Hank" Greenberg, resigned under pressure from Spitzer while Spitzer was New York Attorney General. As summarized in Wikipedia (here), Spitzer later filed a complaint against Greenberg and others alleging fraudulent business practices, securities fraud, common law fraud, and other violations. All criminal charges were later dropped and Greenberg was not held responsible for any crimes. Some civil charges remain (refer here). An interesting commentary on Spitzer's criminal nonprosecution of Greenberg can be found here.
Spitzer appears to have decided that his current political interests are better served by ingratiating himself with business leaders, rather than suing them (which served him so well in the past). I think most of us would understand if it took Sullivan a while to get comfortable in his new Commission seat.
I wonder, is it an inate human instinct to suspect zealous converts, particularly where the conversion is still recent and has an unmistakable air of calculation about it?
Hat tip to the FEI Financial Reporting Blog (here) for the link to the Executive Order and the Press Release.
Is Lerach Going to Retire?: According to a post yesterday on the Legal Pad blog (here), Bill Lerach of the Lerach Couglin law firm may be getting ready to retire:
Special thanks to a loyal reader for the link to the Legal Pad blog.The nation's preeminent class action lawyer, Bill Lerach, 61, informed at least one major client this week that he would be retiring imminently from his firm, Fortune has learned.
There have been multiple hearsay accounts all day to the effect that Lerach also informed his partners at San Diego-based Lerach Coughlin Stoia Geller Rudman & Robbins at a meeting last night, but Fortune has been unable to confirm those accounts with any one actually present.
At the same time, there are also rumors circulating (refer here) that former Milberg Weiss partner David Bershad is in plea talks in connection with the ongoing Milberg Weiss criminal investigation and prosecution.
posted by Kevin LaCroix at 9:34 PM
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