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Former Nortel Networks chief financial officer Douglas Beatty arrives at the University Avenue court house in Toronto this week. (Fernando Morales/The Globe and Mail)
Former Nortel Networks chief financial officer Douglas Beatty arrives at the University Avenue court house in Toronto this week. (Fernando Morales/The Globe and Mail)

No business reason to release Nortel reserves, court told Add to ...

There appeared to be no business reason to trigger the release of $80-million of accounting reserves at Nortel Networks Corp. in the first quarter of 2003 that helped transform the company’s losses into a profit, a former staff member testified Friday at the fraud trial of three former Nortel executives.

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Brian Harrison, former director of planning and analysis at Nortel, told a Toronto court he met early in 2003 with another finance staff member, Sue Shaw, who showed him a list she had prepared of $189-million in accounting reserves she believed could be unwound because they were no longer needed.

Mr. Harrison said the $189-million of reserves all related to non-operating or head office provisions, which included items such as anticipated expenses for the settlement of lawsuits. If more money had been set aside for provisions than was ultimately required, the extra amount could be released as income for the company.

But Mr. Harrison, a certified management accountant, said he could see no “trigger” to justify unwinding the provisions in the first quarter that year, which is required under accounting rules for releasing reserves.

“It didn’t make sense that we had a reason to release them in this particular quarter,” Mr. Harrison said.

Unsure how to deal with the reserves, he testified he suggested to Ms. Shaw that perhaps the company could simply release half of them in the first quarter and half in the second quarter of 2003 as an “elegant” way to handle the issue. He told the court that might not have been good accounting, however.

Mr. Harrison was testifying at the trial of former Nortel chief executive officer Frank Dunn, former chief financial officer Douglas Beatty and former controller Michael Gollogly, who are charged with fraud for allegedly manipulating Nortel’s financial statements to earn bonuses for themselves.

The men have denied the charges.

Ultimately Nortel decided to release $80-million of the reserves in the first quarter. Mr. Harrison said Mr. Gollogly was responsible for deciding how and when to release non-operating reserves.

The release of the $80-million in provisions made the difference between Nortel posting a loss for the quarter versus a profit, he testified, and allowed employees to receive more than $70-million under a special “return-to-profitability” bonus that had been set up to reward the return to even a single quarter of profitability.

Mr. Harrison also testified he prepared internal forecasts called “outlooks” for Mr. Beatty, which were used internally and not given to auditors or to the board. He said the numbers in the outlooks tended to be more positive than the numbers given to the board of directors because there was a practice to be conservative in forecasting results to the board.

For example, an internal outlook Mr. Harrison prepared Feb. 26, 2003, predicted a “pro forma” operating loss of $20-million in the first quarter that year, while the board was told the next day the company was forecasting a pro forma loss of $50-million.

Mr. Harrison testified he was also asked by Mr. Dunn during the first quarter to “model” numbers that would show a net profit by the second quarter of the year and a smaller loss for the first quarter. The document he prepared showed Nortel needed to use significant reserves to reach the targets.

Mr. Harrison said he also prepared documents showing how the outlooks would trigger payouts under the company’s return-to-profitability bonus plan and share unit plan.

Prior to Nortel’s release of its first-quarter financial results in April, 2003, Mr. Harrison testified he attended a meeting with Nortel’s auditors from Deloitte & Touche, along with a number of other Nortel employees including Ms. Shaw.

He said the meeting was called because the auditors were questioning the proposal to release accounting reserves in the first quarter and they wanted to know the justification for the specific reserves chosen for release.

“It wasn’t smooth,” Mr. Harrison said when asked by Crown attorney Robert Hubbard about the tone of the meeting.

“I think Deloittes was a little bit challenging [and]upset … They were just challenging why some [provisions]were being released and why some were being retained.”

In his opening arguments on Thursday, defence lawyer David Porter, who is representing Mr. Dunn, said the fact auditors reviewed and allowed the release of reserves at Nortel proved the decisions were not fraudulent.

Nortel restated its financial results in late 2003 and again in January, 2005, and shifted some of its release of reserves to other periods when they were deemed to have been triggered under accounting rules.

Mr. Dunn, Mr. Beatty and Mr. Gollogly were fired in April, 2004, after the board became concerned about accounting practices at the company.

The trial has adjourned until Jan. 30.

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