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U.S. Securities and Exchange Commission

Litigation Release No. 18919 / October 6, 2004

Accounting and Auditing Enforcement Release No. 2120 / October 6, 2004

Securities and Exchange Commission v. Stephen P. Gardner, et al., Civil Action No. 04 CV 2002 JAH (RBB) (S.D. Cal.) (October 5, 2004)

SEC Files Civil Fraud Charges Against Six Former Senior Officers of Peregrine Who Orchestrated Massive Accounting Fraud

Former Outside Auditor and Two Customers Who Knowingly Assisted in the Fraud Also Charged

On October 5, 2004, the Securities and Exchange Commission filed civil fraud and related charges against six former senior officers of San Diego-based Peregrine Systems, Inc. who orchestrated and attempted to cover up a massive accounting fraud at the company.

According to the Commission's complaint filed in the United States District Court in San Diego, the Peregrine defendants fraudulently inflated the product revenue Peregrine reported in its filings with the Commission and elsewhere. The defendants employed deception and lies to portray Peregrine as a company with constantly growing sales while covering up Peregrine's persistent failure to fulfill revenue forecasts. At the same time, some of the Peregrine defendants unloaded Peregrine stock into an unsuspecting market, enriching themselves, in some instances by millions of dollars, at the expense of the investing public.

In February 2003, Peregrine restated its financial results for eleven quarters during fiscal years 2000, 2001 and 2002, reducing previously-reported revenue of $1.34 billion by more than $507 million.

The Commission's complaint names: Stephen P. Gardner, Peregrine's former Chairman and Chief Executive Officer; Gary L. Lenz, the former President and Chief Operating Officer; Douglas S. Powanda, the former Executive Vice President of Sales; Berdj J. Rassam, the former Controller; Joseph G. Reichner, the former Senior Vice President for Alliances and Business Development; and Peter J. O'Brien, the former Director of Strategic Alliances.

The Commission also charged Daniel F. Stulac, a certified public accountant and former Arthur Andersen LLP engagement partner on the Peregrine audit, with fraud, and Larry A. Rodda and Michael D. Whitt, former principals of two Peregrine channel partners (customers), with aiding and abetting Peregrine's fraud.

According to the Commission's complaint, the heart of Peregrine's fraud was the recording of millions of dollars in revenue on the improper basis of non-binding arrangements with resellers ("channel partners") - companies that purchased software from Peregrine for resale to end-users. Peregrine's senior management would determine near the ends of quarters how much additional revenue the company needed to meet or exceed analyst expectations. They would then enter into sham deals with channel partners (including backdated contracts and contracts made contingent by oral or written side agreements). Peregrine executives arranged a number of these fraudulent deals with defendants Rodda and Whitt.

Peregrine improperly recorded the resulting "revenue" in order to mislead investors into believing that Peregrine's financial condition was significantly better than it was and to inflate artificially Peregrine's stock price. Gardner, the former CEO who was actively involved in the fraud, and Powanda, the former Executive VP of Sales who devised many of the sham deals, sold over $11 million and $24 million worth of Peregrine stock, respectively, during the fraud, resulting in millions of dollars in profits.

The complaint further alleges that, as the uncollected receivables from the fake channel sales swelled on Peregrine's balance sheet, senior officers at the company devised a temporary solution to make it appear that Peregrine was collecting cash on a timely basis. Uncollectible receivables were purportedly sold to banks and removed from Peregrine's balance sheet. These receivable financing transactions, however, were in reality loans and not sales because, under the terms of the deals, the banks had recourse against Peregrine if the customers did not pay. Peregrine's removal of the receivables from its balance sheet was therefore fraudulent.

According to the complaint, to prevent the banks from discovering that some of the channel "sales" underlying the receivables were bogus, Peregrine often repurchased the receivables from the banks. To remove the uncollectible receivables from Peregrine's books, Peregrine executives, including former Controller Rassam, with the knowledge of outside engagement partner Stulac, then improperly wrote off millions of dollars of the repurchased receivables (and other unpaid receivables) as acquisition costs, even though the receivables were wholly unrelated to acquisitions. The complaint also alleges that outside auditor Stulac permitted Peregrine to record revenue improperly. Stulac knew, or was reckless in not knowing, that Peregrine's fiscal 2001 financial statements were materially false and misleading. Despite Stulac's knowledge or reckless disregard of this improper accounting, he caused Arthur Andersen to issue an unqualified opinion attesting to the accuracy and completeness of Peregrine's fiscal 2001 financial statements.

Based on this conduct, the Commission's complaint alleges the following:

  • Defendants Gardner, Powanda, Lenz, Rassam and O'Brien violated Section 17(a) of the Securities Act of 1933 (Securities Act).

  • Defendants Gardner, Powanda, Lenz, Rassam, Reichner and O'Brien violated Sections 13(b)(5) and 10(b) of the Securities Exchange Act of 1934 (Exchange Act) and Exchange Act Rules 13b2-1 and 10b-5 and aided and abetted violations of Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B) and Exchange Act Rules 12b-20, 13a-1 and 13a-13.

  • Defendants Gardner and Lenz violated Exchange Act Rule 13b2-2.

  • Defendant Stulac violated Exchange Act Section 10(b) and Exchange Act Rule 10b-5 and aided and abetted violations of Exchange Act Section 13(a) and Exchange Act Rules 13a-1 and 13a-13.

  • Defendants Rodda and Whitt aided and abetted violations of Exchange Act Section 10(b) and Exchange Act Rule 10b-5.

This is the fifth civil fraud action the Commission has filed in this investigation. In November 2002, the Commission filed a civil injunctive action against Ilse Cappel, the former Senior Treasury Manager at Peregrine (Litigation Release No. 17859A). In April 2003, the Commission filed a civil injunctive action against Matthew C. Gless, Peregrine's former Chief Financial Officer (Litigation Release No. 18093). In June 2003, the Commission filed a civil injunctive action against Steven S. Spitzer, a former Vice President of sales at Peregrine (Litigation Release No. 18191), and a partially-settled civil injunctive action against the company (Litigation Release No. 18205A). In August of 2003, the Commission announced that it had fully settled its case against Peregrine and that the United States District Court in San Diego had entered final judgment (Litigation Release No. 18290).

The United States Attorney's Office for the Southern District of California also announced criminal charges against the nine individuals named in the Commission's complaint, and others who participated in Peregrine's financial fraud.

The Commission's investigation of the financial fraud is continuing. Former Peregrine officers and others are cooperating with the investigations.

The Commission thanks the United States Attorney's Office for the Southern District of California and the Federal Bureau of Investigation for their cooperation in this matter.

SEC Complaint in this matter



Modified: 10/06/2004