Peregrine Trial – Week 8
Comments by Bob Grimes
May 30, 2007 – 8:30 a.m. to 3:15 p.m.
WITNESS ROSS BALDWIN (continued)
Attorney Attanasio asked Mr. Baldwin questions designed to illustrate that auditors depend greatly on company management in the course of their audit. Mr. Baldwin testified that the more people there are in a conspiracy to commit financial fraud, the more difficult it is for an auditor to detect the fraud.
Ross Baldwin explained many aspects of accounting principles including how an audit is actually conducted. Mr. Baldwin testified that in the software industry most significant contracts require significant judgment regarding whether or not the revenue should be recognized. The witness testified about an audit committee meeting where Baldwin challenged the revenue recognition of six or seven Peregrine transactions. Mr. Baldwin said that Matt Gless was so persuasive that he convinced the Arthur Andersen auditors that Peregrine’s revenue recognition was correct in every case.
Ross Baldwin testified that he had concerns about accounting practices at Peregrine in the Spring of 2002. Baldwin said that AA agreed to proceed with their March 31, 2002 audit (without filing a dispute statement) if Peregrine would agree to two main conditions: Peregrine would put more detail in their P & L line item “acquisitions” and Peregrine would conduct more testing of cut-off at each quarter’s end. Arthur Andersen also required Peregrine to agree to hire a new senior software manager to supervise Nevanna Sacks and required that Peregrine allow Ross Baldwin to continue as the engagement partner. Peregrine agreed to all of these conditions.
Mr. Baldwin also testified that his superior at Arthur Andersen had instructed him to watch over Mr. Stulac because Dan Stulac was known to have a drinking problem. On re-direct AUSA Bhandari made the point that it took Ross Baldwin only six months to discover the major accounting problems at Peregrine. Mr. Bhandari remarked on the fact that Dan Stulac did not uncover the problems in all the years he worked as an auditor at Peregrine. AUSA Bhandari also suggested that Dan Stulac must have known about the fact that Peregrine had bought back some non-recourse accounts receivable from banks. Baldwin said that it is his belief that Stulac would have understood that this was a significant accounting issue and Stulac should have told Baldwin about it but he did not.
Earlier in his testimony, the witness had characterized Dan Stulac as a “team player”. AUSA Bhandari repeatedly suggested that Dan Stulac’s actions were not those of a team player. For example, Bhandari would say: Did the team player Dan Stulac tell you about Peregrine buying back non-recourse accounts receivable? Witness Ross Baldwin testified that he told Dan Stulac that he needed to learn how to say “no” to clients.
May 31, 2007 – 8:30 a.m. to 1:30 p.m.
Ross Baldwin, formerly the engagement partner from Arthur Andersen (he followed Dan Stulac in that position), continued his testimony. In re-direct, AUSA Bhandari asked him questions regarding the accounting concept of materiality. The basic concept is that the financial statement should be fair as a whole, so the public is not misled.
In continued re-direct testimony under the questioning of AUSA Bhandari, as well as re-cross examination by Mike Attanasio, Baldwin testified to accounting practices in general, as well as to his observations regarding the accounting at Peregrine. He also testified about Dan Stulac’s accounting style, and the roles of various members of the AA team working on the Peregrine engagement. Most of the points made on re-direct and re-cross were similar to points previously made by both sides during this witness’s testimony on Friday, May 25, and on Wednesday, May 30.
WITNESS WARREN DAVID ROUDEBUSH
At 12:25 p.m., Warren Roudebush was called as a witness by AUSA Bhandari. Roudebush worked at Peregrine from 1999 through approximately March 2003. He worked under Steve Spitzer, dealing with channel partners. He reported to Gary Lenz for a short period of time, and reported to Joe Reichner for approximately 1 ½ years. Roudebush testified that towards the end of 2001, a new software product line, Xanadu, was developed. Everybody at Peregrine had high expectations for this product, and thought it would be a $100 to $200 million product line. By the quarter ending December 31, 2001, there was a great deal of client interest, but no confirmed contracts. Gary Lenz expressed to Roudebush his concern regarding the lack of sales of Xanadu, and said that if you don’t make your numbers, you get fired.
One of the channel partners that was involved in the Xanadu discussions was Denali. Denali told Peregrine that they could not pay for the software if the sales to the end-users did not close. When asked if Lenz knew this, Roudebush responded “we all knew it, but we all believed that we would be paid and that the risk was exceptionally low.” On the Denali deal, Peregrine had responsibility to make the sales to the end-users, which created revenue recognition issues. In an e-mail to Denali (it was actually to another entity related to Denali), Roudebush stated that “you have Gary and my commitment,” apparently referring to a commitment that Peregrine would complete the sales to the end-users. Roudebush testified that “we all agreed” to this side e-mail. He said that he was sure that CFO Matt Gless was the one who instructed them to go forward in this manner, but those on the Xanadu sales team, including Gary Lenz, all knew about it.
Roudebush testified that in the summer or fall of 2001 he had a conversation with Joe Reichner in Reichner’s office. Reichner showed him a list of bad partner deals that he had just received. He said that he had been given this list to see what he could do to clean it up. Roudebush said that this is not uncommon, as he spent a lot of time cleaning up bad contracts. This list of bad deals included contracts with Barnhill, KPMG, and FMI.
Direct examination of Roudebush will continue tomorrow.
June 1, 2007 – 8:30 a.m. to 1:45 p.m.
WITNESS WARREN DAVID ROUDEBUSH (continued)
The Defense informed Judge Whelan that the Government had disclosed to them that Warren Roudebush and four more witnesses have been reading this blog. When witnesses read newspaper articles or other media accounts of a trial in which they are going to testify, there is often a concern that their testimony may be influenced by what they read. The judge scheduled further discussion of this matter for June 11, 2007, 3:00 pm, so that both sides can file legal briefs on this issue. In the meantime, it is presumed that all other witnesses will be instructed not to read this blog.
Mr. Roudebush continued to testify under direct-examination by AUSA Bhandari. The witness described his conversation with Joe Reichner regarding Reichner’s list of bad deals. Roudebush testified that the list consisted of one sheet of paper with U.S. bad deals totaling $120-$130 million on one side, and bad European deals totaling double that amount on the other side. Mr. Roudebush testified that Reichner made it clear that Roudebush was not supposed to have seen the list and that Reichner did not want him talking about it. Roudebush testified that he assumed that Reichner had received the list from Peregrine’s accounting division.
Witness Roudebush testified that Peregrine had a good amount of partner paper with FMI to burn through. Lenz and Reichner thought that some real estate transactions could be used as potential burn for FMI, whether FMI was involved or not. Roudebush said that this is not how burn would normally work. Roudebush stated that the standard procedure to eliminate burn is to credit software sales toward the inventory of a channel partner, reducing that partner’s inventory.
Roudebush said that he had tremendous respect for Joseph Reichner, but while Reichner was at Peregrine, he was viewed as being retired. The witness testified that Reichner would leave early, and often was not around the office. When Reichner arrived at Peregrine, Reichner was ignorant regarding the software industry and did not even know how to send an e-mail.
In April of 2002, Matt Gless told Roudebush that the auditors were looking at partner accounts, and Gless wanted Roudebush to prove that these were good deals on which Peregrine was going to get paid. One of these deals was with Peter Valentine. Warren Roudebush testified that when he called Peter Valentine, Peter said that he was not going to pay because Gary Lenz had told him he would not have to pay.
AUSA Bhandari entered into evidence a letter signed by Joe Reichner dated October 31, 2001 stating that the obligation of Mr. Gib at GMSI had been satisfied. When Roudebush came across this letter at a later date, he called Joe Reichner and asked about this letter because it appeared to be an improper side letter. Reichner told him that Matt Gless had given him the verbiage for the letter.
Attorney Gene Iredale cross-examined Warren Roudebush regarding the list of bad deals that Reichner had wanted to keep confidential. Roudebush said that these were bad deals only in the sense that the customers were not paying money they owed to Peregrine, not because there was anything illegal about the deals. Some of the customers had actually paid on their contracts, even though they were on the bad deal list. Roudebush testified that in their efforts to “clean up” these bad deals, he and Reichner were not trying to do anything illegal. They were simply trying to get Peregrine the money that was owed to the company.
Iredale next inquired about the letter from Reichner to Gib of GMSI. This letter appeared to be a side letter. Iredale showed Roudebush a copy of the GMSI contract. This contract contained a 30-day out clause that gave GMSI a right to terminate the obligation if GMSI was not satisfied with the software for any reason. Such an out clause would normally have to receive special approval from Matt Gless. Roudebush testified that, in view of this out clause, the letter from Reichner to GMSI that appeared to be a side letter was not really a side letter. Joseph Reichner was acknowledging an understanding that was already in the contract by spelling it out in this letter. This was an example of an area of testimony where the Defense was able to neutralize what appeared to be on direct examination damaging testimony. This group of defense lawyers has exceptional trial skills, and they are exceedingly well prepared.
Attorney Tom Bienert cross-examined Roudebush about the contract Lenz negotiated with Denali for the sale of Peregrine’s Xanadu product. On direct exam, Roudebush testified that Lee Kirby, the owner of Denali, said that he did not have the money to pay for the December 31, 2001 contract for Xanadu software. The clear inference was that this was not a valid contract. However, Bienert showed Roudebush an e-mail that he had sent on December 28, 2001 in which Roudebush described Denali as a company with very deep pockets and a very strong Dunn & Bradstreet rating with a proven history of buying Peregrine products.
It appears that Roudebush is honestly testifying to his best recollection of these events, but it is common for witnesses to fail to recall some things that occurred years ago. Mr. Roudebush needed to be shown his e-mail of December 28, 2001 to recall how financially strong Denali appeared to Peregrine at the time that Lenz and Denali signed the contract for Xanadu on December 31, 2001, three days later.
Cross-examination of Warren Roudebush will continue on Tuesday, and probably take most of the day.
Both sides have state of the art document presentation, the best I have ever seen. At any given time there are three or four FBI agents in court to assist the three AUSAs by producing witnesses and locating exhibits. Agent Bridgid Cook is always seated next to the AUSAs, with a computer. When an AUSA asks a witness about any exhibit, Agent Cook is immediately able to pull it up on her screen and then, when it has been admitted into evidence, flash it on the large screen for the jury to see. She can enlarge relevant portions of documents for the jury to view and highlight the most significant words. On at least one occasion, she has produced an exhibit at the request of the defense.
Tom Bienert’s paralegal, Christi Coles, and Debbie Burk, both of whom are in the business of providing trial support to attorneys, handle the Defense’s documents. The Defense has approximately a million documents in their database (most of which was provided to them by the Government in discovery), including perhaps 500,000 e-mails. Within a few seconds, they are able to find and retrieve relevant documents from this massive database.