SEC charges four ex-Nortel execs with fraud

SEC charges four ex-Nortel execs with fraud

VPs allegedly carried out accounting fraud orders on behalf of company management

The Securities and Exchange Commission this week charged four more former Nortel executives with engaging in a 2003 accounting fraud by manipulating reserves to manage Nortel's earnings.

The SEC added Douglas A. Hamilton, Craig A. Johnson, James B. Kinney and Kenneth R.W. Taylor, who were the former vice presidents of finance for Nortel's Optical, Wireline, Wireless and Enterprise business units, as defendants to its SEC vs. Dunn case, which is pending in the U.S. District Court for the Southern District of New York. The case charged three former corporate officers of Nortel -- CEO Frank Dunn, CFO Douglas Beatty and Controller Michael Gollogly -- with directing the earnings management fraud to meet earnings targets, fabricate profits and pay performance-related bonuses.

The fraud forced Nortel to restate years of earnings. Nortel fired Dunn, Beatty and Gollogly in 2004.

"The defendants charged today participated with Nortel's former top executives to improperly maintain, establish and release reserves in order to manipulate earnings and fabricate Nortel's return to profitability in the first quarter of 2003," said Christopher Conte, an associate director of the SEC's Division of Enforcement, in a statement. "Nortel's earnings management fraud could not have happened without their efforts. These defendants all received significant compensation while they were falsifying Nortel's financial results."

The amended complaint alleges that Hamilton, Johnson, Kinney and Taylor did not immediately release tens of millions of dollars in excess reserves as required under U.S. Generally Accepted Accounting Principles (GAAP), but instead maintained them for earnings management purposes. The complaint also alleges that in early January 2003, during the 2002 year-end closing process, the four executives acted on orders received from Dunn, Beatty and Gollogly to improperly established more than US$44 million (AU$52.7 million) in additional excess reserves in order to lower Nortel's consolidated earnings and bring it in line with internal and market expectations.

Their efforts helped erase Nortel's pro forma profit for the fourth quarter of 2002 and caused it to report a loss instead, the SEC alleges.

The amended compliant also alleges that in the first and second quarters of 2003, Dunn, Beatty and Gollogly directed the improper company-wide release of approximately US$500 million of excess reserves specifically to inflate earnings and pay bonuses. These efforts turned Nortel's first quarter 2003 loss into a reported profit under U.S. GAAP, largely erased Nortel's second quarter loss and generated a pro forma profit in the second quarter, according to the SEC.

The efforts of Hamilton, Johnson, Kinney and Taylor were essential to creating these false results because the four vice presidents improperly released approximately US$154 million in reserves in the first quarter of 2003, and approximately US$191 million in reserves in the second quarter, the complaint alleges.

The amended complaint charges the four former Nortel vice presidents with violating and/or aiding and abetting violations of the antifraud, reporting, books and records, and internal controls provisions of the federal securities laws. The SEC is seeking a permanent injunction, a civil monetary penalty, an officer and director bar, and disgorgement with prejudgment interest against each of these defendants.

In its original complaint, filed on March 12, 2007, the SEC alleged that Dunn, Beatty and Gollogly learned that the company was carrying massive amounts of excess reserves and then directed the alleged reserve manipulations to meet earnings targets, fabricate profits and pay performance-related bonuses; and that Dunn, Beatty and former Assistant Controller MaryAnne Pahapill altered Nortel's revenue recognition policies from late 2000 through January 2001 to accelerate revenue to meet publicly announced revenue targets.

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