Release of Nortel reserves "fully aired" to auditors, court hears

TORONTO - External auditors at Nortel Networks approved the release of outdated cash reserves onto earnings statements in early 2003, even though they knew there was no "trigger," a former employee told a Toronto court hearing the fraud trial of three ex-executives Friday.

Brian Harrison, former director of planning and analysis at the fallen technology giant, testified that auditors Deloitte and Touche gave the green light to the release of financial items at that time because there was no longer evidence to support keeping them in reserve.

The issue is key to the fraud trial because the Crown argues that former CEO Frank Dunn and other senior executives fraudulently encouraged the manipulation of numbers to make the company appear profitable at the most advantageous time for them to reap millions of dollars in bonuses.

Harrison said that one of his employees, Susan Shaw, expressed concern in late 2002 about $189 million in so-called accruals — provisions of cash set aside to cover potential liabilities — that were no longer needed and should not be on the company's books.

The problem was, there was also no trigger during the first quarter of 2003 — when the Crown alleges a loss was artificially turned into a profit — that would justify their release.

In the end, $80 million of that reserve money was released during the first quarter.

Harrison agreed with defence lawyer David Porter that he was "comfortable" the release had been "fully aired" to both auditors Deloitte and Touche and former controller Michael Gollogly, one of the three accused men. He said it was clear to the external auditors that there was no trigger for the income in the quarter.

Using a series of emails, Porter illustrated that there were detailed breakdowns giving specific reasonings behind the release of at least $24 million of accruals.

Harrison told Porter that Deloitte was also aware that the company was sitting on the remaining $109 million.

Dunn, Gollogly and former CFO Douglas Beatty are accused of encouraging employees to use a "cookie jar" of cash to manipulate financial statements in late 2002 and early 2003 in order to meet internal targets that would trigger return-to-profitability bonuses for senior executives.

However, Harrison noted, Dunn was not involved in any of the talks on the release of the provisions during the quarter. Dunn's involvement is critical to the Crown's case that he orchestrated a fraud ring.

"You were never asked to prepare a roadmap to trigger payment of the (bonuses)?" Porter asked in one of a series of yes or no questions to Harrison.

"No," Harrison said.

Earlier in the week, Harrison — the first witness for a trial that's expected to last six months — testified that he wrote an email in 2001, explaining that a new expense could be offset using an accounting reserve worth a similar amount from a reserve he referred to as "Doug's cookie jar."

Harrison also testified earlier that he was told to talk to finance officials in global divisions to see if they had any new accruals that could be recorded in the fourth quarter of 2002. The Crown argues that was done in order to turn an unexpected profit that quarter into a loss because one quarter of profit would not trigger the executive bonuses.

The defence argues that the use of reserves was legitimate, and can't have been fraudulent, in part because it was approved by external auditors.

But the Crown contends that the accused men ensured that only $80 million of the $189 million of reserves was released during the quarter, just enough to turn a "pro forma," or pre-tax, loss into a profit, thereby meeting internal targets to trigger their bonuses. The rest was held for later use, prosecutor Robert Hubbard has argued.

Defence lawyers have maintained that there was no reason the accused executives would juggle the finances in the first two quarters of 2003 because even after the company's finances were twice restated for the period, data shows they still would have earned the nearly $10 million in bonuses that year.

All three men have pleaded not guilty to the charges related to manipulating Nortel's books and defrauding the company of $12.8 million in bonus payments.

The company went on to restate its financial statements for the first two quarters of 2003, as well as for the full years of 2002, 2001 and 2000.

Dunn, Beatty and Gollogly were fired over the allegations in 2004.

The defence wrapped up its cross-examination of Harrison Friday, and Susan Shaw, the former consolidations manager who raised concerns about the accruals is expected to take the stand Monday.

She will be the second of 28 witnesses the Crown plans to call. None of the accused men is expected to testify.