Former Nortel Networks chief financial officer Douglas Beatty. Mr. Harrison testified he had a conversation with Mr. Beatty, who told him Nortel would get no credit from investors for reporting a single quarter of profit.The Globe and Mail
Top executives of Nortel Networks Corp. were surprised to discover the company had posted a rare profit in the fourth quarter of 2002, and told an accounting employee to call divisions around the world to find new provisions they could use to transform the gains to a loss in line with earlier forecasts.
A Toronto courtroom heard Tuesday from Brian Harrison, Nortel's former director of planning and analysis, who testified he prepared preliminary financial statements on Jan. 6, 2003, several days after Nortel's 2002 year-end, that unexpectedly showed the company would post an internal pro forma profit of $73-million (U.S.) for the fourth quarter, just weeks after the board of directors was told it expected to lose $100-million.
Asked by Crown attorney Robert Hubbard how the senior executives of the company reacted to the news, Mr. Harrison said they were surprised. "I would say there was surprise, and a sense that it didn't make sense," he testified.
"The sense was having just gone through the last eight quarters of [operating]losses, we're still dealing with a lot of business issues … to all of a sudden show a profit seemed out of context."
Mr. Harrison completed his third day of testimony at the fraud trial of former Nortel chief executive officer Frank Dunn, former chief financial officer Douglas Beatty, and former controller Michael Gollogly. The three are accused of manipulating Nortel's financial statements in 2002 and 2003 to trigger a special "return to profitability" bonus for executives.
The trial focused Tuesday on an unusual period in Nortel's history when the Crown alleges the telecom giant's top executives discovered Nortel had turned a profit in the final quarter of 2002, six months ahead of its public forecasts and after losing billions of dollars in 13 prior quarters.
Mr. Hubbard has alleged the three accused made a decision to arbitrarily reverse and hide the profit because they felt it would be discounted by investors as a "blip" that could not be duplicated in the first quarter of 2003, and because it would not help trigger full executive bonuses under the return to profitability plan.
Mr. Harrison testified he had previously had a conversation with Mr. Beatty, who told him Nortel would get no credit from investors for reporting a single quarter of profit in the middle of losses.
"It was simply the idea that the Street would not reward us for one quarter of positive earnings, so to have sort of a blip wouldn't be satisfying for investors," Mr. Harrison said. "We had to get to consistently positive."
Mr. Harrison testified that he was told to talk to finance officials in divisions around the world to see if they had any new accounting provisions that could be recorded for the fourth quarter to reduce the profit to a loss in line with forecasts.
He said he believes Mr. Gollogly asked him to make the calls, but he could not specifically remember if he gave him the orders. He added he had never previously been told to do anything like that.
Within a day, he had a list of $176-million in new provisions that could be recorded to reduce Nortel's internal pro forma profit to a loss.
The list included $137-million of non-operating, head office accounting reserves, which means they did not involve specific operational matters under the company's core business units. Mr. Harrison said Mr. Gollogly was responsible for decisions about non-operating reserves.
Under cross-examination by Mr. Dunn's lawyer, David Porter, Mr. Harrison said he was never asked by any of the accused to make false or misleading accounting entries, and said he assumed there were valid reasons for recording reserves.
"Nobody ever said to you, 'I'm just going to make up a number?'" Mr. Porter asked.
"No," Mr. Harrison replied.
Mr. Harrison also agreed with Mr. Porter's comments that the three former executives "acted with integrity" and never did anything he considered dishonest.
In his main testimony, Mr. Harrison said ordinary Nortel employees would have been eligible to get a return to profitability bonus if the company had reported an internal pro forma profit in the fourth quarter of 2002.
But he said executives had different bonus terms and would only get 20 per cent of their bonus for achieving one quarter of profitability. They could get a further 40 per cent if there were two consecutive quarters of profit, and a further 40 per cent if there were four uninterrupted quarters of profitability.
However, in early January of 2003, the company's internal forecasts did not predict a profit in the first quarter of 2003, he said. That suggested it was unlikely the 40-per-cent bonus tranche would be triggered with a profit in the fourth quarter of 2002.
Mr. Harrison's cross-examination will continue Wednesday.
Janet McFarland