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HR Chief Goes on Trial in Brocade Backdating Case

December 3, 2007
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The criminal fraud trial of Stephanie Jensen, the former head of human resources at Brocade Communications, got under way last week in San Francisco.

The case, brought last summer, alleges that Jensen, former Brocade CEO Gregory Reyes and CFO Antonio Canova orchestrated a scheme to backdate stock options and then falsified board compensation committee minutes to “create the appearance” that the options were granted under lower stock prices. As the first backdating case filed by the Securities and Exchange Commission, it has been at the forefront of the backdating scandal.

Jensen’s attorneys quickly have tried to make the case as much a battle over which department—HR or finance—ought to shoulder the blame for what amounts to a compensation and accounting scheme as over Jensen’s personal role in the fraud.

In her opening statement, Jensen’s defense attorney, Jan Nielsen Little of San Francisco-based Keker & Van Nest, described her client as little more than a corporate house mother whose job as the head of human resources at Brocade was merely “the care and feeding of employees.”

Jensen, 48, studied psychology at the University of California at Davis and in 1979 began her career as a personal assistant at Apple Computer, where she worked for 18 years. It was the start of a lifelong career devoted to HR, Little added, arguing that Jensen only got roped into the complexities of stock options and finance-related matters after she joined Brocade in 1999. She left in 2004.

“The government will make you believe that [Stephanie Jensen] sat around and falsified documents all day, but that’s actually not true. … Ms. Jensen had never been involved in stock option pricing before she got to Brocade. And she had learned the process from [Michael] Byrd, the [former] chief financial officer.”

It was people in Brocade’s “finance department who took care of the actual mechanics,” Little argued.

Jensen’s is the second such trial to take place in the matter of stock option backdating—the now-scorned practice of retroactively dating a stock option grant to immediately enhance its intrinsic value to the bearer—which was once common practice at hundreds of publicly traded companies. It’s also the second trial with a Brocade employee as the defendant.

No officer of Brocade’s finance department has been criminally charged in the backdating investigations of the company. But in August, prosecutors won a surprisingly sweeping victory in their inaugural backdating case against Jensen’s former boss, ex-CEO Gregory L. Reyes.

A 12-member jury convicted Reyes of 10 felonies for his role in the illegal granting of employee stock options at Brocade.

The government is arguing that Jensen, in her role as chief of human resources, actively managed the option granting process that Brocade used mainly as a recruiting tool. She has been charged with one felony count of conspiring to establish the “backdating scheme” with Reyes, and one count of falsifying books and records for her role in altering dates on grant forms that were subsequently approved by Brocade’s board of directors.

Critics of the Justice Department’s backdating task force have questioned the merits of prosecuting a comparatively low-level executive when the charges are rooted in violations of accounting rules. Artificially dating a corporate document is not in and of itself illegal. It is so in the case of stock option grants, the government argues, because it was being done to avoid accounting charges—resulting in securities fraud violations.

Backdating an option grant from, say, November to a day in October, when the underlying stock was trading below the option’s strike price, allowed companies to give their workers lucrative options without triggering the accounting charge that would have applied to a standard “in the money” option grant offered and dated to November.

In his opening statement, Assistant U.S. Attorney Adam R. Reeves—one of two prosecutors who also tried Reyes—made the rationale for the government’s case very plain: “Stephanie Jensen was the key person who ensured that the details of this fraud were carried out as they were, [and] this conduct was unacceptable.”

Not everyone agrees with the distinction that the defense is trying to make regarding the responsibility for Brocade’s reporting.

“This is not a matter of corporate governance. It’s a question of whether she committed an act,” says Michael Klausner, an expert in corporate governance at Stanford Law School. “When someone has done something directly in violation of the law, on their own, where they are the actors, it’s no longer an issue of governance.”

Other experts agree.

“Prosecutors don’t redline company organizational charts or focus on certain levels of executives or departments and disregard others,” says Jonathan Halpern, a white-collar criminal defense attorney with the New York-based firm Bracewell & Giuliani. Halpern is a former federal prosecutor from New York.

But the bad news doesn’t end there. Regardless of her lack of knowledge of or responsibility for the accounting and other things finance-related in Brocade’s option backdating scheme, prosecutors put on some devastating testimony last week that suggests Jensen may have tried, at a minimum, to keep under wraps the activity her lawyer claims she believed was perfectly legal.

Stephen Beyer, a former employee in Brocade’s HR department who helped administer the stock option granting process, testified that Jensen asked him to “refrain from discussing this in e-mail,” referring to the granting process. When Reeves asked Beyer why he thought Jensen had instructed him to communicate with her only verbally on the topic, he responded: “My understanding was that it was because e-mail leaves a trail.”

That, prosecutors argue, reveals Jensen’s knowledge of wrongdoing and builds a case for her culpability for the alleged fraud, regardless of her job title.

“That’s really strong evidence that you did know that something was meant to be kept from someone. It’s devastating stuff,” says a San Francisco-based former prosecutor with knowledge of the case, who asked not to be named. “A jury sitting there will think, ‘Now why would you say that if you thought it was legal?’ That just kills her.”

Filed by Carleen Hawn of Financial Week, a sister publication of Workforce Management. To comment, e-mail editors@workforce.com.

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