SEC Brings Financial Fraud Charges Against Executives at Three Northern California Software Companies
FOR IMMEDIATE RELEASE
Washington, D.C., May 20, 2002 -- The Securities and Exchange Commission today announced charges in separate cases against former executives at three northern California software companies for perpetrating financial accounting frauds at those companies. Among those named were the former chief executive officer of Quintus Corp., the former chief executive and chief financial officers of Unify Corp., and former senior sales executives of Legato Systems, Inc. Also today, the U.S. Attorney's Office for the Northern District of California announced criminal charges against former officers at Quintus and Unify for their roles in the frauds.
"Two of these cases involve CEOs who engaged in conduct that can only be described as shocking, including forging contracts, purchase orders and other documents, or entering into undisclosed side letters to falsely boost a company's revenue," said Helane L. Morrison, District Administrator for the Commission's San Francisco District Office. "Today's actions emphasize the Commission's commitment to hold such executives responsible for the choices they make and the enormous harm they cause, including by depriving them of compensation they received as a result of their fraud."
Charles D. Niemeier, Chief Accountant in the Commission's Division of Enforcement, said, "Unify is significant as an example in the software industry of the use of 'roundtrip' transactions to create a false impression of business activity and revenue." Niemeier continued, "Unify engaged in `roundtripping' by repeatedly providing funds to customers so that they could purchase product from the company, with no reasonable expectation that the customers would ever repay the funds. These transactions produced no economic benefit to shareholders, and were done solely to inflate Unify's reported revenue, in order to deceive investors."
The Commission filed complaints in each of the actions in U.S. District Court for the Northern District of California in San Francisco. The complaints allege the following misconduct.
The Commission brought fraud charges against former Quintus CEO Alan K. Anderson, 40, of Walnut Creek, Calif. Quintus was a Dublin, Calif. based developer of customer relationship management software. According to the complaint, from December 1999 through October 2000 Anderson personally forged contracts, e-mails, purchase orders, letters, and an audit confirmation in order to boost Quintus' financial results. Anderson created three fake transactions that ranged in value from $2 million to $7 million, for a total of $13.7 million in nonexistent sales. In addition, Anderson caused Quintus to recognize improperly $3 million in revenue on a barter transaction, which was contingent on Quintus' agreement to purchase $4 million of product from its customer. In each case, Anderson caused Quintus to recognize revenue in violation of generally accepted accounting principles (GAAP).
In one instance, Anderson altered a $1.5 million purchase order to make it appear that the customer had actually ordered $6 million worth of Quintus products and services. In another, Anderson forged a contract and a purchase letter to make it appear that the a reseller had agreed to pay Quintus $7 million up-front, rather than the truth-that the reseller would pay Quintus only if the reseller was able to sell Quintus product to end users.
As a result of Anderson's fraud, Quintus overstated its revenue in three fiscal quarters in amounts ranging from 37% to 60% per quarter. In February 2001, NASDAQ delisted Quintus' stock, and the company is now being liquidated through bankruptcy proceedings.
The complaint charges Anderson with violations of the antifraud provisions of the federal securities laws and with lying to Quintus' outside auditors. The complaint also seeks an injunction against future violations, disgorgement of bonuses Anderson received based on the company's fraudulent financial performance, monetary penalties and an order barring Anderson from serving as an officer or director of any publicly traded company.
In addition, the U.S. Attorney's Office for the Northern District of California today announced that it has charged Anderson with one count of securities fraud, based on the fraud at Quintus.
The Commission brought fraud charges against former Unify CEO Gholamreza (Reza) Mikailli, 49, of Saratoga, Calif., and former CFO Gary L. Pado, 38, of Sacramento, Calif. Sacramento based Unify develops and sells database management software. The complaint alleges that from May 1999 through May 2000, Mikailli and Pado caused Unify to recognize revenue fraudulently on transactions that they knew were subject to contingencies (including rights of return or cancellation), or involved barter transactions. Under GAAP, it was improper for Unify to recognize revenue on contingent transactions so long as the contingencies existed and, thus, could nullify or impair the sale. Also under GAAP, it was improper for Unify to recognize revenue on barter transactions because Unify's revenue was contingent on Unify's performance of its obligation to the customer.
In several instances Mikailli and Pado engaged in "roundtripping," by causing Unify to provide funds its customers needed to buy Unify products, with no reasonable expectation that the customers would ever repay the funds. In some instances, Unify made an investment in another company, which then used most or all of the invested funds to purchase Unify product. In others, Unify contracted for services from other companies through so-called Funded Development Agreements. However, the companies provided no such services, and simply used funds from Unify to buy Unify product.
As a result of the fraud, Unify overstated its revenue over four fiscal quarters in amounts ranging from 61% to 150% per quarter. During the course of the fraud, Mikailli sold all of his shares of Unify stock and received gross proceeds of approximately $8.2 million. Mikailli illegally failed to file any reports with the Commission during this period disclosing his stock sales.
The complaint charges Mikailli and Pado with violating the antifraud, corporate reporting and bookkeeping provisions of the federal securities laws and with lying to Unify's outside auditors. It also charges Mikailli with insider trading and failing to file required reports relating to sales of shares by insiders. The complaint seeks injunctions, monetary penalties and officer and director bars against Mikailli and Pado. In addition, the complaint seeks disgorgement from Mikailli of all amounts he received as a result of the fraud, including losses avoided by his stock sales, sales commissions he received on fraudulent transactions, and bonuses.
Also named in the complaint was Unify, for violations of the corporate reporting and bookkeeping provisions of the federal securities laws. The complaint seeks a permanent injunction against future violations.
In addition, the U.S. Attorney's Office for the Northern District of California today announced that it has charged Mikailli and Pado with criminal securities fraud, based on the fraud at Unify.
The Commission brought fraud charges against former Legato executive vice president of worldwide sales David Malmstedt, 46, of Manhattan Beach, Calif., and former vice president of North American sales Mark Huetteman, 39, of Hinsdale, Illinois. Legato, based in Mountain View, Calif., develops and sells software for managing the data storage functions of computer networks. The complaint alleges that from May 1999 through December 2000, Malmstedt and Huetteman caused Legato fraudulently to record millions of dollars in revenue on orders that were contingent on resellers' ability to sell the product to an end customer, or on customers' rights of exchange, return or cancellation. As a result of the fraud, Legato overstated its revenue over three fiscal quarters in amounts ranging from 6% to 20% per quarter.
In one instance, Malmstedt and Huetteman caused Legato to recognize revenue on a $7 million purchase order that was contingent on further successful negotiations between the parties. Pursuant to this arrangement, if the negotiations broke down, the customer had the right to cancel the purchase order. The cancellation right was set forth in a separate side letter, drafted by Huetteman, which stated in part: "This contingency may not be expressly stated in the order letter, because of the impact on revenue recognition. However, you have my assurance that in the event that we can not [sic] reach terms we will not hold you to the commitment to pay referenced in the order letter."
The complaint charges Malmstedt and Huetteman with violating the antifraud, corporate reporting and bookkeeping provisions of the federal securities laws, and seeks injunctions, disgorgement of losses avoided on sales of Legato stock by Malmstedt and Huetteman during the course of the fraud, and monetary penalties.
In a related matter, the Commission issued an order instituting and simultaneously settling cease-and-desist proceedings against Legato and its former CFO, Steven Wise, 47, of Mountain View, Calif. Legato and Wise consented to the issuance of the Commission order without admitting or denying any of its findings. The order found that Legato violated the corporate reporting, bookkeeping and internal controls provisions of the federal securities laws. In addition, the order found that Wise caused Legato's violations of these provisions, and that Wise knowingly failed to implement adequate internal accounting controls at the company. The order requires Legato and Wise to cease and desist from future violations of these provisions.
The Commission acknowledges the assistance of the U.S. Attorney's Office for the Northern District of California and the Federal Bureau of Investigation.
For further information contact:
Helane L. Morrison
San Francisco District Office
Robert L. Mitchell
Assistant District Administrator
San Francisco District Office