Four of five guilty in Enterasys trial

Four of five former executives of Enterasys Networks were found guilty this afternoon in their securities fraud trial.

Jurors hearing the case in U.S. District Court in Concord found all but Jerry Shanahan, former chief operating officer of the firm, guilty of most of the charges they faced. Shanahan was acquitted outright on one count, and the jury couldn’t reach a decision on five others.

Found guilty were:

• Robert Gagalis, former chief financial officer

• Bruce Kay of Yarmouth, Maine, former vice president of finance

• Robert Barber of Durham, a former Cabletron official who was part of the Enterasys investment team

• David Boey of Atlanta, Ga., who headed Enterasys’s Asia Pacific Division.

In the month leading up to the verdict, the government put on more than a dozen witness and entered thousands of documents as evidence in an attempt to show that the defendants conspired to lie to auditors and defraud the stockholders in the crucial quarter in 2001 when Enterasys was spun off from Cabletron Systems, the Rochester-based firm that was once the state largest employer.

The three-attorney prosecution team alleged that the defendants inflated revenue to meet a $240 million target by using two accounting gimmicks – entering into secret side agreements to hide terms that would prevent revenue recognition and hiding from auditors the fact that investment cash to third party companies was recycled to purchase products through distributors, known as “three- corner deals.”

Much of the prosecution’s key testimony came from four former Enterasys officials, including former CEO Enrique “Henry” Fiallo. who had pleaded guilty to securities fraud charge, as well as two auditors and officials from three companies that participated in the three-corner deals.

The nine defense attorneys in the courtroom, without putting on a witness, said that such a disparate group of defendants not only didn’t conspire, but didn’t even like each other. Making their case only through cross-examination and closing statements, they argued that the charges stemmed from the actions of overzealous auditors and regulators or the defendants themselves simply misunderstood complex accounting rules.

Missing from the witness stand was Craig Benson, a co-founder of Cabletron and former New Hampshire governor.

Benson was never an Enterasys employee, but he was the biggest individual stockholder at the time in question and headed the board’s audit committee.

It was the audit committee that was informed in February 2002 by Fiallo and former Chief Financial Officer Robert Gagalis about a backdated contract and side letter involving the firm’s Asian Pacific Division and Ariel International. The committee and the full board then told the Securities and Exchange Commission, which launched the investigation that eventually led to the indictment and trial. What Benson said during that February meeting was never revealed in the courtroom.

Other top Cabletron officials also were not involved in the trial, including Benson’s successor, Piyush Patel. They were on the defense team’s potential witness list but were never called.

Defense attorneys drew blood early in the trial, attacking the credibility of the government’s first witness. Prosecutors not only had to endure hours of cross examination on the matter, they also ended up having to read a stipulation to the jury that they were wrong.

The prosecution settled down and presented its case, though not without being challenged every step of the way by the defense. But when the prosecution rested, so did the defense, claiming that prosecutors were unable to marshal enough evidence to convict their clients.

Perhaps the biggest impact made by the defense on the jury was in the selection process. Attorneys successfully argued that the judge should question potential jurors not only on whether they were familiar with Cabletron, but whether they followed any case of corporate fraud, or even whether they lost money in the stock market. The more savvy jurors who survived that process were usually eliminated through peremptory challenges. — BOB SANDERS