Peregrine Trial – Week 11
Comments by Bob Grimes
June 19, 2007 – 8:30 a.m. to 3:30 p.m.
This was the seventh full day of testimony by Steve Gardner. At this point, the lawyers are bringing out points (sometimes subtle points) that they feel are necessary to clarify for their individual clients. Gardner appears even more subdued as the case goes on, and at times today his voice was barely audible. However, he is still alert and capable of answering questions in considerable detail. His demeanor is not argumentative, and he openly accepts his own responsibility. He also describes in great detail the actions of the principal co-conspirators, Farley, Gless, Powanda, and Cahill. His testimony regarding the defendants in this case provides the basis for arguments on behalf of the Government, but also provides facts that can be argued by the Defense.
Attorney Gene Iredale continued his cross-examination of Gardner from 8:30 a.m. to 10:45 a.m. He put into evidence a number of documents, including revenue forecasts, that had not been sent to Joe Reichner. Many of these had been sent to Gary Lenz, and at the conclusion of testimony today this topic was being addressed by Attorney Tom Bienert.
Attorney Mike Attanasio cross-examined Gardner on behalf of Dan Stulac. On direct examination Gardner had testified that in August of 2000 Stulac had asked to be considered for the position of CFO. On cross-examination Attanasio established that Gardner never considered Stulac a serious contender for the position of CFO. With Gardner’s support, Matt Gless became CFO, and performed the job much as David Farley had done. Gless worked very hard, had an impressive knowledge of the accounting rules, and helped advance the legitimate purposes of Peregrine. He was also willing to go along with Gardner when Gardner felt it was necessary to recognize revenue improperly or to conceal accounts receivable. Attanasio put into evidence the grand jury testimony of Matthew Gless, in which Gless stated that to manage the audit risks it was necessary to manage and sometimes mislead the auditors. Gardner admitted that he and Gless had provided false financial information to Arthur Andersen, and in essence defrauded Arthur Andersen, to cause Arthur Andersen to approve the Peregrine books.
Patrick Towle’s attorney, Kate Leff, cross-examined Gardner regarding the chain of command on the financial side of Peregrine. CFO Matt Gless had the ultimate word on revenue recognition and other financial issues. Controller BJ Rassam was directly under Gless. When asked if he had ever interacted with Patrick Towle, Gardner stated “not that I recall.”
Attorney Tom Bienert questioned Gardner regarding the illegal acts that occurred prior to Gary Lenz (or Joe Reichner) coming to work at Peregrine in June of 2000. Most of the direct testimony of Gardner related to the period from June through December of 2000, describing meetings attended by Lenz and/or Reichner, or information provided to them. Bienert asked Gardner about improper revenue recognition and channel stuffing that had occurred in the quarter ending September 30, 1999, as well as the quarter ending December 31, 1999. In his direct testimony, Gardner testified that in early July of 2000 he had been physically sick and felt horrible when he learned that the revenue projections for the quarter ending June 30, 2000 had fallen through, and that he was going to be required to engage in secret channel stuffing to make his numbers. Bienert argued with Gardner at some length on this topic, pointing out that Gardner had been involved with very similar improper accounting practices previously. Bienert’s position is that Gardner is emphasizing the period beginning July of 2000 to try to make his testimony more incriminating against Lenz. Gardner acknowledged previous wrongdoings, but argued that the situation with which he was suddenly confronted in early July of 2000 was much worse than had ever been encountered before.
Cross-examination will continue tomorrow at 8:30 a.m.
June 20, 2007 – 8:30 a.m. to 3:15 p.m.
WITNESS STEPHEN GARDNER (continued)
Steve Gardner testified that he slowly became aware of the fraudulent practices at Peregrine around March 1999. Gardner says he can remember two specific instances of fraud at Peregrine that he knew about in 1999. Gardner testified that he was aware of a backdated contract in a deal with Barnhill, and he was aware that a material concession was made to Barnhill in that deal, yet Peregrine booked the revenue.
Attorney Tom Bienert introduced an e-mail exchange between Gardner and Powanda, in August of 2000. This e-mail exchange illustrated that Powanda and Gardner conspired with each other to enter into a second deal with CI solely to cover up the accounts receivable left on Peregrine’s books from a prior deal with CI. Gardner admitted that his involvement in this second CI deal was fraudulent.
Bienert asked Gardner questions to demonstrate that Gardner was in the habit of lying about Peregrine to the board of directors, some employees, the public, and the SEC at the time that Gardner approached Lenz about coming to work at Peregrine. Gardner admitted that he misrepresented Peregrine’s financial status to Gary Lenz, and that he never mentioned the illegal activities that were going on at Peregrine to Lenz during the hiring process.
Steve Gardner testified that Gary Lenz had been hired by Peregrine with the express intention of making him COO. Gardner said that as COO, Lenz would manage the day to day operations of Peregrine; overseeing the hiring of employees, and monitoring sales, marketing, and customer services.
Attorney Bienert asked Gardner why he hired Lenz for the COO position considering that Lenz had no background in the software industry, had never worked at a publicly held company, and had always worked in the service industry as opposed to at a company like Peregrine that sells things. Bienert implied that it was ridiculous to think that Lenz could carry out the duties of COO at Peregrine given his lack of experience. Gardner insisted that Lenz “knew all about infrastructure management” from his work experience at AA.
Bienert asked Gardner if Lenz was actually hired by Peregrine because Peregrine hoped to eliminate some of the build up of Peregrine product channel stuffing. Bienert displayed an e-mail written in July 2000, from Farley (the CFO at that time), in which Farley writes, “I keep coming back to Lenz’s connections to the consulting community.” In this e-mail, Farley discusses the idea that Lenz may be able to help Peregrine sign deals with some AA clients. Lenz worked at AA for many years as one of their top executives, earning around $1 million annually at the time Peregrine hired him. An e-mail, from Matt Gless to Gardner, states that the AA fraternity could get a lot of business for Peregrine. Gardner conceded that Lenz’s contacts at AA were one reason he was hired by Peregrine but he denied that it was the main reason.
Lenz began to work at Peregrine on June 5, 2000 as Executive VP. Attorney Bienert introduced a Peregrine business calendar into evidence that illustrated that Gardner was gone for part of June and most of the month of July. Gardner recommended Lenz for the position of COO on July 10, 2000. Bienert implied that Gardner did not have sufficient time to evaluate whether Gary Lenz was suited for the move from Executive VP to COO.
Gardner was extremely upset in the first week of July 2000 because Peregrine failed to meet the previous quarter’s forecasts. He characterized this time period as the worst week of his life in earlier testimony. Gardner told his top Peregrine sales executives that he wanted the forecasts to be more accurate and reliable, and he wanted Peregrine to start doing things the right way. Gardner called for a rejuvenation of his sales force at the Peregrine Bermuda conference held in July 2000. Attorney Bienert noted that one week after Gardner’s vow of rejuvenation, he and Powanda entered into an illegal scheme with the second CI deal.
Gardner testified that in July 2000, at the Peregrine Bermuda conference, he and Lenz discussed the idea that Lenz would contact an AA employee who had connections high up in the executive chain at AVNET to help facilitate the faltering Peregrine/AVNET deal. Bienert put a September 20, 2000 e-mail exchange between Shane Eliason and Gardner into evidence. This e-mail discussed the AVNET deal, yet Bienert noted that Lenz was not in the e-mail chain nor was he copied. Bienert noted that Lenz was copied in a January 4, 2001 e-mail regarding the AVNET deal. Bienert asked Gardner why it would take Lenz six months to get involved with AVNET, if Gardner asked him to help out back in July 2000 in Bermuda. Gardner had no explanation. Bienert asked Gardner if he lied about asking Lenz to get involved with AVNET at the Bermuda conference just to help the Government implicate Lenz in the AVNET deal. Gardner denied this.
June 21, 2007 – 8:30 a.m. to 1:30 p.m.
WITNESS ALEX JOHNS
Mr. Johns is a former U.S. Marine who served in Iraq. He invested in Peregrine stock, in several different transactions which added up to an investment of approximately $8,300. Alex Johns never sold any of his Peregrine stock because he believed in the company and he ended up losing his entire investment when Peregrine stock lost all value.
WITNESS STEPHEN GARDNER (continued)
Attorney Bienert introduced an e-mail exchange between Gless, Gardner and Farley dated August 4, 2000, that contained an attachment showing channel payments owed to Peregrine by various channel partners at that time. In order to access the channel payment report, one needed a password. Gless gave the password, which was “sacred”, to Gardner and Farley in the e-mail.
Another e-mail on August 17, 2000, between Gardner, Crook, and Cahill, discussed both Peregrine’s aging reports and Peregrine’s channel payment reports. Bienert noted that Lenz was not included in this e-mail exchange. Attorney Bienert asked Gardner questions to illustrate that aging reports and channel payment reports were closely guarded information at Peregrine.
Bienert asked Gardner about the Fujitsu/ICL deal that has been the focus of a great deal of testimony in this trial. The Fujitsu deal was signed on October 3, 2000 but was backdated to September 28, 2000. The Fujitsu deal was completed after Lenz’s first full quarter as COO at Peregrine, after he joined the company in June of 2000. Gary Lenz was involved in the negotiation of this contract. Bienert pointed out that a 30-day out clause appeared on the face of the contract, and the contract was openly backdated to September 28, 2000. Gardner testified that late in September, Lenz informed Gardner that the Fujitsu executives wished to have a ceremonial signing on October 3, 2000. Gardner testified that he told Lenz to be sure the contract was dated in September. Gardner testified that is all he said to Lenz on this topic. Gardner testified that he never explained to Lenz that there would be anything improper about backdating the Fujitsu contract.
It is Gardner’s testimony that it was wrong to backdate the contract, even though the terms of the deal between Peregrine and Fujitsu were finalized in September. Gardner testified that he never used words (written or spoken) to Gary Lenz, while they both worked at Peregrine, that clearly indicated there were any wrongful acts being perpetrated at Peregrine.
A September 18, 2000 Peregrine sales forecast report was sent to Lenz and 12 other Peregrine employees as an e-mail attachment. Bienert pointed out that the only deal Gary Lenz was involved in that was listed in the forecast report was Fujitsu/ICL. Gardner agreed with Bienert’s assertion.
Gardner testified that to the best of his recollection, Lenz was present at many forecast meetings. One forecast meeting that Gardner believed that Lenz attended occurred on October 3, 2000. Bienert refreshed Gardner’s recollection of the day’s events. On October 3, 2000, Lenz met with Fujitsu executives in the late morning at Peregrine, attended the ceremonial signing at Peregrine, played golf with the Fujitsu executives and finally took the Fujitsu executives out to dinner. Gardner changed his mind on the witness stand and said that he was wrong about Gary Lenz attending the October 3, 2000 forecast meeting. Bienert implied that Gardner was mistaken about Lenz’s attendance at other forecast meetings as well.
Attorney Bienert displayed an e-mail stream between CFO Farley and Gardner written in September 2000. Farley, who died of a heart attack about one month later, writes to Gardner “Promise me if we get IBM no more of these wacky deals.” Gardner replies “That is an easy promise to make. I am as sick of this as you are.” Farley replies “I take that to be a yes.” Gardner writes “How else could you take it? YES.” Peregrine did not get the IBM contract and Peregrine entered into another shaky deal about one week after this poignant e-mail exchange. Gardner testified that the “wacky deals” caused business problems for Peregrine. Gardner said he did not believe that he and Farley were discussing the problem of the moral dilemma that the “wacky deals” caused.
June 22, 2007 – 8:30 a.m. to 1:30 p.m.
WITNESS STEPHEN GARDNER (continued)
Today was the end of the eleventh week of testimony, and also the end of the cross-examination of former CEO Steve Gardner.
Attorney Tom Bienert continued to cross-examine Gardner on communications between conspiracy insiders including Gardner, Gless, Powanda and Cahill that were not sent to Lenz, even though Lenz was the COO and supposedly the number two executive at Peregrine at this time. One such e-mail was from Gardner to Cahill on September 7, 2000, saying that they might need more rabbits and more hats to keep making quarters. Bienert also asked more questions about Gardner’s cooperation agreement with the Government, and the fact that Gardner fought the case with everything he had until March of this year, just before trial. He also asked questions about Lenz’s lack of previous experience in the software industry.
AUSA Eric Beste (who was supported today by AUSA Bill Narus and Special Agent Bridgid Cook) responded on re-direct with testimony from Gardner that Lenz attended meetings, including quarterly forecast meetings of senior officers, where activities such as keeping the quarter open and channel stuffing were discussed. Gardner mentioned a number of specific deals, with end users including AVNET, Boeing, and Chevron, where he told Lenz that Peregrine had to close deals where the revenue had previously been booked as if the deal had been already closed.
Beste asked Gardner about his agreement to provide truthful testimony, and Gardner said that the Government has not tried to tell him how to testify at trial. Beste asked Gardner why he lied while he was the CEO at Peregrine. Gardner said that it was a slippery slope, and that one lie led to another and then another.
On re-cross, Gene Iredale got Gardner to agree that in some circumstances, there could be persuasive evidence of an agreement (which could allow revenue to be recognized) even if the contract had not been signed. Gardner added that in many circumstances the lack of a written contract would make it very difficult to enforce an agreement.
Kate Leff asked Gardner to confirm that if revenue is booked in one quarter instead of the following quarter, there is no loss to the company. Gardner agreed with this point, although he reiterated that they were focused on meeting their quarterly projections for revenue and growth. This point could be quite important. It is improper accounting to book revenue that comes in a few days after the end of a quarter into the previous quarter. This occurred frequently at Peregrine. However, it probably did not have much to do with the collapse of Peregrine. The heart of the fraud was the recognition of revenue where there was no realistic chance that Peregrine would ever be paid, and then the covering up of the continually growing accounts receivable through fraudulent accounting practices, including improperly claiming acquisition related expenses.
SUMMARY OF THE CASE AFTER 11 WEEKS OF TRIAL
This case is certainly not over yet, but most of the major witnesses have testified and most of the primary exhibits appear to have been received.
DOCUMENTARY EVIDENCE – Over a million documents (including over 500,000 e-mails) were searched and organized and stored in preparation of this case. It seems like they all have been displayed on the screen in court, but the number of exhibits introduced into evidence at this point is only around 1,100 or 1,200.
Judge Whelan has an impressive ability to keep very good track of the exhibits, as well as the testimony, so that he can make the proper legal rulings. The technical support for both sides is superb, and documents are quickly found and displayed on the screen, with the most relevant portions blown up and/or underlined. This technical support is crucial for a case like this, but it has been overused. Cross-examination has, at times, gone on too long. Every witness is examined on every point, whether earth shattering or miniscule, with endless documents. The e-mails come in chains, which invariably leads to a lengthy examination about the chain of e-mails.
When this trial began, there were three alternates to replace any of the 12 trial jurors. Two of the original jurors have already been lost for medical reasons, and it looked for a while like one additional juror might be lost. It is hoped that the trial can be concluded before another couple of jurors are lost. I don’t think that anyone wants to start trying this case all over again.
WHAT WENT WRONG AT PEREGRINE – In answer to the question from AUSA Eric Beste, “Why did you lie?,” Gardner said that it was a slippery slope, and one lie led to another.
Gardner was a high powered, big time CEO. His resume was impressive. Film clips have been played demonstrating how convincing he was when he addressed Wall Street analysts, investors, and employees. Part of his strength was that he believed in Peregrine. It appears that he sincerely believed that the legitimate growth of this dynamic company would more than make up for the fraudulent practices that he engaged in. He was borrowing from the future, robbing Peter to pay Paul. Like a bank cashier who embezzles a little bit one week and a little more the next week, he thought he could pay it back (with legitimate growth) before the theft was discovered. He was not content merely to have Peregrine grow and be a successful company. He was obsessed with meeting or beating the quarterly forecasts, and being a star. In some of his presentations to the Peregrine employees, he goes on stage accompanied by music and lights, and receives standing ovations from employees who we now know he was misleading. He was chosen as the top executive in San Diego, and had a nationwide reputation as a brilliant CEO. It was not just about the money.
Several high-level sales people, including Doug Powanda and Andy Cahill, were instrumental in the fraud. Gardner admits that he knowingly conspired with these sales people, but he also allocates considerable blame to them for misleading him with their forecasts. He testified that he felt betrayed, even physically ill, when he learned how far off some of their forecasts were. He then lied by saying that he had met the forecasts.
According to testimony, David Farley was a key part of the origin of the fraud. A close friend of Gardner, as well as the CFO before Matt Gless, Farley went along with recognizing channel deals that really were not collectable. This caused Farley anger (at the sales people responsible for the misleading forecasts) and considerable stress. He had already decided to leave Peregrine when he had his fatal heart attack in 2000.
Young Matt Gless had worked under Farley, and Gardner supported him as the new CFO. Gless was talented and experienced for his age. However, Gardner testified that one of the reasons that he supported Gless was that Gardner knew that Gless would help him with fraudulent accounting practices. The collusive fraud continued. Gless’ testimony in front of the grand jury was read into evidence in this case, and Gless testified that he had worked on misleading the auditors. Previous witnesses with strong auditing expertise have testified that a fraud which involved both the CEO and the CFO is extremely hard to detect.
This was a massive fraud. The victims, primarily investors and employees of Peregrine, lost billions of dollars.
The Assistant United States Attorneys and FBI agents, who have been working on this case for four or five years, have already won a major victory on behalf of the victims. Eleven people, including at least the top four people in the conspiracy (CEO Gardner, CFO Gless, and top sales people Doug Powanda and Andy Cahill) have pled guilty, and will go to prison. The Government believes that the remaining defendants, although at a lower level, also bear criminal responsibility.
The lawyers for the four defendants agree that a massive fraud occurred, but believe that the Government has cast too broad a net. The lawyers for former executives Lenz and Reichner point out that both Lenz and Reichner were hired at Peregrine after the conspiracy was well underway, and that both were fired before the conspiracy ended. Patrick Towle, who worked on the financial side, and Arthur Andersen engagement partner Dan Stulac, also have substancial arguments that they were victims of the collusive fraud, not conspirators in it.
I really appreciate the many comments that I have received on this blog, and I continue to encourage you to let me know if you have any corrections or comments.