Ex-Cabletron CFO files SEC response
David Kirkpatrick, chief financial officer of Cabletron Systems for more than a decade, said through his attorneys that civil charges by the Securities and Exchange Commission alleging tthat he engaged in a conspiracy to inflate revenue while Cabletron was being split up into smaller companies should be dismissed.
Kirkpatrick, in a motion filed Tuesday in U.S. District Court in Concord, said that most of the allegations of accounting fraud related to subsidiaries — especially Enterasys Networks, which the Rochester-based Cabletron spun off in August 2001. During that transition period, Cabletron was a parent company and Kirkpatrick was “a captain without a ship,” according to his response.
Kirkpatrick was answering a 51-page complaint filed in February against himself and nine other defendants, including former Cabletron CEO Piyush Patel, who filed his response last Friday. But unlike Patel, who took over as CEO from Cabletron co-founder Craig Benson in 1999, Kirkpatrick dates his employment with the company back to 1990 and served under Benson when the then Rochester-based Cabletron was the state’s largest employer.
Benson – who later went on to serve a term as New Hampshire’s governor – was not named in the complaint. Kirkpatrick went on to become chief operating officer and a board member of Aprisma Management Technologies, which also figured prominently in the complaint. Cabletron spun off Aprisma as a privately held corporation. It is the only spin-off still operating in the state.
The complaint also names four convicted Enterasys executives who were recently sentenced to prison terms for inflating revenue during the spin-off.
Although Kirkpatrick’s response emphasized that, as an executive of a “holding company,” he had little direct knowledge of the financials of the subsidiaries, it also gives the most detailed answer yet to the complaint.
It defends the use of “three-corner deals,” which the SEC describes as arrangements in which Cabletron/Enterasys invested in shaky companies to buy its own product and inflate revenues, and then concealing the relation between the investments and sales from auditors.
But Kirkpatrick’s attorney said this charge was “deserving of little to no weight.”
Cabletron was investing in small high-tech start-ups, the attorney wrote, because it had significant cash on hand.
“This was a well-recognized and well-conceived strategy to increase Cabletron’s market share by investing in companies having a strategic placement in the industry, thereby augmenting the company’s ability to penetrate the market with its products,” according to the filing.
Enterasys continued the practices, even though the companies were shaky, because “the technology investment bubble had yet to burst, a singular successful investment would offset the many that were bad,” the attorney wrote.
The response also countered charges that Kirkpatrick was involved in three particular transactions. In the first — involving SG Cowen, an international investment bank, provided financial services to Enterasys in return for a cash payment and approximately $7 million in product credits – Kirkpatrick signed a memo in April 2000 that alluded to a return policy.
While the SEC complaint said the memo amounted to full return rights not reported to auditors – which would have precluded revenue recognition of some $1.9 million – Kirkpatrick’s attorney responded that the “actual proposal only allowed for the ‘swap’ of products,” which does not preclude revenue recognition. Furthermore, Kirkpatrick sent the memo to 11 people, many of whom deal with the auditors.
“A reasonable person could justifiably conclude that Kirkpatrick drafted a memorandum that accurately set forth the terms of a proposal to Cowen that would allow for revenue recognition upon delivery of goods and that he dutifully informed those in the chain of accounting command at the subsidiaries as to the terms with the expectant understanding that they would comply with the law,” the response said.
Kirkpatrick also countered the charge that he helped put together a deal with Muzicom and Discjockey.com, while knowing that the sales were contingent on Cabletron investments. This allowed Cabletron to inflate revenue in fiscal year 2001 by $457,000 in the case of Muzicom and $2.9 million in the case of Discjockey, according to the complaint.
But Kirkpatrick’s attorney contended that there was nothing necessarily wrong with that.
“Courts have long recognized that it is a common, legitimate, and perhaps useful business practice for one company to invest in the stock of a company in which it is entering into a contract for goods or services,” said the response. “It lacks common sense to think that a company would invest in another company only to watch its investment used to purchase product from a competitor.”
As for signing various financial statements as Cabletron CFO despite side agreements arranged by other defendents, “a nonculpable explanation is that Kirkpatrick — like the company auditors — was not aware of the hidden side agreements.”
A pretrial conference on the suit is scheduled for October. – BOB SANDERS