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Former Nortel chief executive Frank Dunn, shown leaving court last month, is one three former executives accused of manipulating Nortel’s financial reserves to push the company into profitability. (Kevin Van Paassen/The Globe and Mail/Kevin Van Paassen/The Globe and Mail)
Former Nortel chief executive Frank Dunn, shown leaving court last month, is one three former executives accused of manipulating Nortel’s financial reserves to push the company into profitability. (Kevin Van Paassen/The Globe and Mail/Kevin Van Paassen/The Globe and Mail)

Nortel accountant testifies about 'tense' meeting Add to ...

Former Nortel Networks Corp. accountant Susan Shaw grew increasingly frustrated with the volume of unsupported accounting reserves being held on the company’s books in 2003, and decided the issue needed to be addressed by senior executives.

In testimony Tuesday at the Toronto fraud trial of three former Nortel executives, Ms. Shaw recalled her mounting worries about the treatment of the company’s reserves, and testified that the issue blew up at a heated meeting in April, 2003, when the company’s external auditors asked for documentation and backup to support the reserves.

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“I recall being tense and it being uncomfortable for me – and for everyone in the room,” Ms. Shaw testified.

“I think the atmosphere was quite tense, because it was apparent we did not have what they where requesting, so that made it confrontational.”

Her testimony came at the trial of former Nortel chief executive officer Frank Dunn, former chief financial officer Douglas Beatty and former controller Michael Gollogly. The men are accused of manipulating Nortel’s financial reserves to push the company into profitability in the first two quarters of 2003, triggering large “return to profitability” bonuses for themselves.

Ms. Shaw, Nortel’s former manager of consolidations, testified that she first began analyzing the company’s head office, non-operating reserves in August, 2002, and grew increasingly convinced that a large amount of the reserves had no apparent support to justify keeping them on the books.

By October, 2002, her analysis showed Nortel had $66-million (U.S.) of non-operating reserves that were no longer needed and “available for release.” She testified that the company released just $20-million of reserves that quarter, and none in the fourth quarter that year.

By the end of the year, her list of “releasable provisions” for non-operating matters had grown to $189-million, she said. They were all matters for which she could find no supporting or backup material.

The reserves all related to various provisions the company had set aside in prior years for anticipated future costs, such as provisions for payouts in lawsuits. The money had never been used, however, and accounting rules said they should not be kept on the books when no longer justified. However, the amounts were supposed to be reversed when there was an appropriate business “trigger,” and there was no current trigger to support unwinding them, either, she said.

In February, 2003, Ms. Shaw said she briefed her new manager, Brian Harrison, about her concerns.

“I was trying to inform him as my manager that I’m uncomfortable with them, and I don’t have backup for them, and I was trying to escalate him as my manager to deal with them.”

She said “escalate” meant taking the matter to senior executives at the company.

By late March, she was told the company planned to unwind $80-million of the $189-million of unsupported reserves she had identified, recording the amount as income for the quarter. Controversially, the release of the reserves would trigger an internal “pro forma” profit for the quarter, triggering the payout of large bonuses to executives.

That decision led to a meeting at Nortel’s offices with auditors from Deloitte & Touche in mid-April to discuss the reserves. Among those present at the meeting were Mr. Gollogly, she testified, as well as the two senior audit partners overseeing Nortel’s audit at Deloitte & Touche, John Cawthorne and Don Hathway.

She said the auditors were unhappy that Nortel could not identify any business “trigger” to justify releasing the reserves in the first quarter. They also questioned why just $80-million from a list of $189-million of unsupported reserves were being released if they were all “releasable” amounts.

All she could point to, she said, were basic explanations she had written about why the reserves were initially created and how they now appeared to no longer be needed.

“They were asking for backups and for triggering events, and these explanations were all that was available,” Ms. Shaw said.

At one point, the auditors asked Nortel staff sharp questions about whether they understood what a “trigger” was, and if they knew what GAAP (generally accepted accounting principles) was, she said.

As the meeting deteriorated, most of the staff were asked to leave, including herself, she said. The two senior audit partners remained behind with Mr. Gollogly and deputy controller Linda Mezon, she said.

“There wasn’t any point in just hammering away,” she explained.

Ms. Shaw said the $80-million was ultimately booked in the quarter – in fact, it had already been booked in the company’s accounting system before the meeting was held with the auditors. Ms. Shaw said she assumed the concerns had been resolved, but she was not told anything more about it.

Mr. Justice Frank Marrocco of the Ontario Superior Court asked Ms. Shaw Tuesday if the provisions still could have been reversed after the meeting with the auditors.

They could have been, because the financial statements were not completed yet, she replied.

In late 2003, Nortel announced a sweeping restatement of its books, including restating almost $1-billion of accounting reserves it had recorded improperly in the past.

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