Ex-Enterasys CEO sentenced to four years

A federal judge Monday sentenced the former chief executive of Enterasys Networks to serve four years in prison for securities fraud.

Enrique “Henry” Fiallo, who pleaded guilty three years ago in exchange for a maximum five-year sentence, will be serving much less time than three of the four executives he helped convict, all of whom are now serving sentences ranging from eight to 11-1/2 years. He will, however, serve more time then other cooperating witnesses who had pleaded guilty.

All of the former Enterasys executives were charged with using a variety of accounting tricks to inflate revenue in 2001, when the Rochester-based Cabletron Systems was spinning off Enterasys.

Prosecutors argued that Fiallo should be given a three-year sentence, saying his cooperation was essential and that, although he was CEO of the firm, he wasn’t really in complete charge of the company and was influenced by former Cabletron executives.

Thomas Hoopes, Fiallo’s defense attorney, echoed that point and argued that Fiallo was only chief information officer at Cabletron before then-Cabletron CEO Piyush Patel appointed him to head the Enterasys spinoff , a position that he wasn’t even sure he was qualified for.

Hoopes also recounted some 57 letters of support noting his client’s “good works” dating back to his days with Ryder Trucks to his current position at CorePlus, a pathology laboratory company in Florida.

Fiallo apologized for his conduct.

“I’m sorry for what I did, to the customers, the shareholders, and the heartache I caused my family,” he said.

But U.S. District Judge Steven J. McAuliffe said that the five-year cap was “pretty generous as it is,” given the fact that Fiallo was CEO of the company there was a $97 million loss to shareholders caused by the fraud. Any further reduction in the sentence “undermines the deterrence effect,” said McAuliffe.

Still, “against his better judgment,” he reduced the sentence by a year under the cap, with two years probation and 200 hours of community service, starting on Jan. 4. He recommended that Fiallo serve his sentence in Florida, where Fiallo moved to from Hampton to live with his current wife.

It is a big fall for Fiallo, whose “crowning moment” came as he rang the bell to open Wall Street trading on Aug. 6, 2001, the first day that Enterasys began trading as public company.

Fiallo admitted that he was aware of the accounting tricks that were used to inflate revenue. Those tricks included three-corner investment deals, in which Enterasys would invest in shaky startup companies through third-party distributors in exchange for that company buying Enterasys products, and counting those sales as revenue, even though it was questionable that they would ever be paid for.

For three days during the trial, he testified about those complex deals, which he described as “buying revenue.” He testified that the former chief financial officer, Robert Gagalis, warned that the company was becoming “addicted” to such deals, comparing them to cocaine, but Fiallo allowed them to continue anyway.

He also dictated a secret side letter on one $2 million deal that enabled the company to conceal deals that would have prevented it from recognizing revenue. But the scheme unraveled before that particular deal was included in the company’s revenue.

Fiallo freely admitted he was driven by greed and increasing the value of his stock options. At one point, defense attorneys pointed to an e-mail saying that he wanted to be “f … ing rich” and be called the “f …ing Enterasys emperor.”

During the trial last year, U.S. District Court Judge Paul Barbadoro, who presided over the trial, said that Fiallo was the most culpable of the criminally indicted defendants, and was “troubled” that those working under his command would receive a much harsher sentence than he would. He also questioned whether his testimony was really needed.

But both prosecutors and defense attorneys said that Fiallo’s testimony was crucial, and they argued that despite his title, he was not really in charge.

During the sentencing hearing, Hoopes, for the defense, specifically referred to three executives who have since been charged civilly in engaging in a much broader conspiracy to increase revenue dating back to Cabletron: former Cabletron CEO Patel, former Cabletron CFO David J. Kirkpatrick and Eric Jaeger, former senior vice president of corporate affairs. The three “manipulated” Fiallo’s dream of success, said Hopes

Assistant U.S. Attorney Bill Morse, however, wrote in his sentencing memo that “Fiallo and Enterasys both were to some degree still under the influence or control of large shareholders who previously were senior executives at Cabletron. The evidence further indicated that some of those individuals were aware of or involved in the illegal accounting practices at Enterasys.”

Morse declined to elaborate, or confirm whether he was referring to Patel, Kirkpatrick or Jaeger.

The largest individual Enterasys shareholder at the time of the alleged fraud was Craig Benson, Patel’s predecessor as CEO and co-founder of Cabletron, who was on Enterasys’s audit committee at the time of the fraud. Benson, who later went on to serve a term as New Hampshire governor, was never charged or implicated in either criminal or civil securities fraud conspiracy. – BOB SANDERS/NEW HAMPSHIRE BUSINESS REVIEW