Former Silicon Valley execs face stock option fraud charges

Bay City News Service

July 20, 2006

SAN FRANCISCO (BCN) - Two former top executives of Brocade Communications Systems Inc., a San Jose-based computer networking company, were charged with criminal securities fraud today in the first criminal charges brought in the nationwide uproar over options backdating.

The Securities and Exchange Commission and U.S. attorney's officials said Gregory Reyes, 43, of Saratoga, Brocade's former chief executive, and Stephanie Jensen, 48, of Los Altos, the company's former vice president of human resources, also face a civil action charging them with several violations of federal securities laws.

The civil action also charges Antonio Canova, 44, of Los Altos Hills, Brocade's former chief financial officer, who is accused of learning of the alleged backdating scheme after joining Brocade.

The maximum sentence for securities fraud is 20 years in federal prison and a fine of $5 million, plus restitution.

Reyes and Jensen are scheduled to appear before Magistrate Judge Joseph Spero in federal court in San Francisco on Aug. 2.

Backdating is a practice in which companies grant certain employees options that are postdated to a time when the company's stock price was lower than the period when the options are granted. The employees can then cash in the options for an immediate profit. Today's action was considered significant enough that SEC Chairman Christopher Cox flew to San Francisco from Washington, D.C. today to join U.S. Attorney for Northern California Kevin Ryan to announce the charges.

Cox said, "We're coordinating our efforts to show that the full weight of the federal government is involved in stamping out backdating."

Cox said, "Unfortunately, this isn't the only backdating case" and said federal officials are investigating more than 80 companies across the nation.

Cox said backdating "goes to the heart of the relationship between corporations and their shareholders, strikes at the heart of investor confidence in financial statements and is poisonous to an efficient marketplace."

Arthur Balizan, acting special agent in charge for the FBI, said the illegal backdating of options gave a false portrait of Brocade's financial condition and gave it an unfair advantage over its competitors.

Reyes' attorney, Richard Marmaro, said in a statement, "Greg Reyes is innocent, and we will prove his innocence in a court of law."

Marmaro said, "Financial gain is always the motive in securities fraud cases, and here there was none. There is not even an allegation of self-enrichment, or self-dealing."

Marmaro also said there isn't any evidence of an intent to misstate the financial statements of the company.

"All he did was what his board authorized him to do," Marmaro said.

Marmaro said, "This is a sad day for justice" and alleged that federal authorities "have acted, not based on the facts or the merits of this case, but on some perceived need to show quick action in response to the stock option issues being discussed in the media."

Marmaro said of Reyes, "All he did was what his board authorized him to do."

Ryan said that was the problem.

He said Reyes acted like "a committee of one" because Brocade's board of directors granted him sole authority to grant stock options to all employees except for certain officers and directors.

In an affidavit, FBI special agent Joseph Schadler said Brocade used stock options to recruit and retain qualified personnel because, like other companies in the Silicon Valley, it faced significant competition in luring employees.

According to the criminal and civil complaints filed today, Brocade gave employees "in the-money," or backdated, stock options without having to recognize compensation expenses as required by accounting rules.

Ryan said, "It is integral to the public trust in our financial markets that books and records are maintained honestly and that the true financial condition of public companies is disclosed accurately."

The complaints say that when the stock option abuses surfaced in January 2005, Brocade, which went public in May 1999, was required to restate and revise its financial statements for fiscal years 1999 through 2004.

The restatements resulted in Brocade's company declining by a total of $304 million between 1999 and 2001.

The company's net loss increased from $136 million to $147 million in 2003 and from $2 million to $32 million in 2004.

However, Brocade's net income increased by $60 million to a total of $126 million in 2002.

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