ABOUT THIS SERIES
For the past 10 months, Chronicle
staff writers Reynolds Holding and
William Carlsen investigated
allegations of widespread legal and ethical
misconduct in Silicon Valley.
This five-part series is based
upon thousands of pages of financial
reports, internal company memorandums,
government records and court
documents, as well as scores
of interviews with corporate executives, government
officials, state and federal
prosecutors, judges, lawyers, academicians and
entrepreneurs.
Some of those court documents
were unsealed only as a result of a
court order obtained by The
Chronicle in San Mateo Superior Court
Monday, November 15, 1999:
Phantom Riches: Beneath the glitter of booming Silicon
Valley, executives have been
accused of
lying about products and doctoring their books
Tuesday, November 16, 1999:
Hollow
Words: Federal prosecutors say white-collar crime is a priority, but they
have filed
only a few charges against high-tech executives
Wednesday, November 17, 1999:
Double-Crossed:
Silicon Valley entrepreneurs say they have been betrayed by venture
capitalists
and lawyers, the very people they asked for help
Thursday, November 18, 1999:
Stolen
Secrets: Technological breakthroughs are so valuable in Silicon Valley
that
some company
executives are willing to do almost anything to get them
Friday, November 19, 1999:
Beyond
the Law: As the SEC attempts to crack down on improper accounting, a recent
federal court
ruling threatens future investor lawsuits
Phantom
Riches: Beneath the glitter of booming Silicon Valley, executives have
been
accused of lying about products
and doctoring their books
Silicon Valley is the epicenter for the fastest creation of wealth
in history. But the high-tech
miracle has a dark side: Untold stories of
ruined investors,
betrayed entrepreneurs and regulators who are overmatched and
overwhelmed.
In 1989, Lev Dawson scoured Stanford University's Jackson Library,
searching for a shot at Silicon
Valley gold.
He found it in an unproven idea for making laptop and cell phone
batteries smaller, lighter
and longer-lasting.
With venture capital backing, Dawson created Valence Technology
Inc., and during the next four
years the batterymaker issued more than $167
million in
stock and signed potentially lucrative contracts with Motorola and
Hewlett-Packard.
Unfortunately, the batteries had a few problems. They sparked and
exploded and burned. One burst
into flames so intense that it melted
through the factory's
tile floor and into the concrete foundation. A senior company
engineer said carrying a battery
was like having ``a bomb in your pocket.''
But word of the batteries' failures would not get out for several
years. By then, Dawson was
farming sweet potatoes in northeast Louisiana,
having unloaded
more than 2.4 million shares of his Valence stock for almost $41
million.
Public stockholders, though, were almost wiped out. Relying on
company assurances that all
was well, they bid up the stock to more than
$25 a share before
the truth emerged in 1994, and the price plunged to $3.25.
Jim Varano, a 53-year-old pharmacist living near Boston, believed
Valence's prospects were so
promising that he borrowed money for a $320,000
stake in
the company. After his investment evaporated, he had trouble
sleeping, working and paying
his sons' tuition.
Today, he minces no words: ``They're crooks and swindlers.''
In recent years, Varano and tens of thousands of investors like him
have filed lawsuits accusing
Dawson and other Silicon Valley executives of
securities
fraud, insider trading and legal and ethical misconduct.
The executives -- including Dawson -- deny any wrongdoing.
But officials at scores of high-tech companies, from bedrock
hardware manufacturers to high-flying
dot.coms, have been accused of lying
about revenues
and products to satisfy market expectations, then dumping their
stock for millions of dollars
in illegal profits.
At the same time, lawyers at the valley's most influential firms
have been accused of playing
fast and loose with conflict-of-interest
rules, in some cases
allegedly betraying the clients they were committed to represent.
And some of the industry's most prominent venture capitalists, the
financiers of the high-tech
boom, are alleged to have stolen ideas and
companies from the
entrepreneurs they financed.
But the U.S. Justice Department and the Securities and Exchange
Commission have largely failed
to enforce laws enacted to protect the
markets' integrity.
During the past decade, the agencies have filed only a few criminal
and civil cases in Silicon
Valley, despite warnings that corporate
misconduct is thriving.
``We've seen a dramatic increase in the number of complaints and
investigations -- far more
than three years ago. That's got to reflect a
big increase in
wrongdoing,'' said David Bayless, until June the head of the SEC
office in San Francisco. ``And
it's the same goddamn thing every time:
faked revenues,
35-day months, side agreements, hiding things in warehouses
-- you name it.''
This is a series about the dark side of the Silicon Valley miracle.
It is about some of the most
egregious cases of securities fraud,
trade-secret theft and abuse
of small entrepreneurs -- cases largely concealed from public
scrutiny by nondisclosure agreements,
sealed court documents and fears of
retribution.
Set amid the tidy light-industrial parks and sprawling corporate
campuses that line the south
end of San Francisco Bay, it is a story about
greed and hubris,
about high-powered executives and boardroom dealmakers who operate
with flagrant contempt for
the rules of law and ethics.
The story begins with two men -- a plaintiffs' attorney and a
high-tech pioneer -- whose
battles with each other reflect the fundamental
conflict between
unrestrained corporate freedom and the need to protect the rights of
investors.
A SON OF THE GREAT CRASH, 1946
William Shannon Lerach -- the attorney despised most by corporate
America -- was born a victim
of the stock market.
In September 1929, after receiving a substantial inheritance,
Lerach's father, Richard, went
to work as a stockbroker. He invested
everything he owned in the
market. The next month, the market crashed, and the elder Lerach was
ruined.
In 1933 and 1934, President Roosevelt signed landmark securities
legislation to prevent the
kind of speculation, manipulation and outright
fraud that triggered
the crash and caused millions of Americans to lose their savings and
jobs.
The legislation came too late for Richard Lerach, who was relegated
to selling metal parts for
the rest of his days. But for his youngest son,
William, it would
provide the means for a career of wealth and notoriety, one that
would ultimately earn him the
sobriquet ``prince of darkness'' -- and a law
firm draw last year
of more than $16 million.
Bill Lerach was born in 1946 in the Ohio River Valley. As he grew
up, he worked in a series of
dead-end jobs at a plant nursery, a funeral
home and a pool
hall. He was a mediocre student until law school at the University
of Pittsburgh, where he graduated
second in his class and attracted a job
offer from
Pittsburgh's elite firm, Reed Smith Shaw & McClay.
He excelled there, making partner in less time than any other lawyer
in the firm's history. He was
brash and profane and wickedly funny, a
flush-faced guy
with a big head of puffy red hair.
But he was never entirely comfortable representing companies in
lawsuits and deals. He could
never overcome the deep mistrust of corporate
America he had
developed while watching his father work for almost nothing.
``They treated him like they treat pencils,'' he said, ``shaving him
down until there was nothing
left but a nub.''
The last straw was a lawsuit filed against his corporate client by a
shareholder.
``This guy's case was so good, and he was so right,'' said Lerach,
``and we just chopped him up
into little pieces. We just blew him away. And
I thought, if
that guy had had more money and a better lawyer, he would have won.''
Lerach realized he wanted to represent shareholders -- not to
mention earn bigger paydays.
So in 1976, he took a job with prominent
plaintiffs' attorney
Melvyn Weiss, opening a one-lawyer branch office in San Diego for
Weiss' New York firm, specializing
in suing companies for securities fraud.
The office prospered and quickly expanded, taking cases around the
country. But it did not come
into its own until 1984, when, for the first
of several times,
it filed a lawsuit against a Silicon Valley company called Seagate
Technology, run by a man named
Alan Shugart.
THE DISK DRIVE REVOLUTION, 1979
Al Shugart was in a hurry from the start, impatient to leave behind
a downscale adolescence spent
surfing and fixing motors near Chino, in San
Bernardino
County.
In 1951, the day after earning an engineering degree from a private
college called University of
Redlands, he landed work as a repair
technician for
International Business Machines.
Promotions came quickly. At the company's research center in San
Jose, he led a team of top-flight
engineers credited with developing the
first rigid disk
drives, a revolutionary means of storing data.
It was an extraordinary time in Silicon Valley, the eve of the
computer revolution. And in
1969, when IBM wanted Shugart to join its New
York
headquarters, he quit instead, ending 18 years with the company.
He worked for Memorex for several years, then started his own floppy
disk drive business -- Shugart
Associates. But his role in the enterprise
ended badly in
1976 when the directors of his company fired him for reasons he
cannot -- or will not -- explain.
For the next three years, Shugart fished
for salmon and
tended bar in Santa Cruz. Then, in 1979, he hooked up with Finis
Conner, a former colleague
from Shugart Associates. Demand for personal
computers was
rising fast, and Shugart and Conner were determined to catch the
wave. Their idea: a hard disk
drive with five times the capacity of a
standard floppy disk --
at half the price.
The two men recruited three more engineers through newspaper ads and
then created the company that
would become Seagate Technology.
Seagate's new disk drives began to roll off production lines in
1980. It was an increasingly
competitive market. Apple Computer, IBM and
other major
customers were starting to make their own hard drives. Japanese
manufacturers were jumping
in with even cheaper products.
Still, by the summer of 1984, Seagate claimed profits of $42
million, up 221 percent over
the previous year. Shugart and other Seagate
executives crowed
about the company's bright prospects for growth, sending the stock
price
-- and Shugart's reputation as a Silicon Valley entrepreneur
-- soaring.
Later that summer, though, the Seagate success story began to unravel.
In August, without warning, Seagate executives announced that they
expected dramatically lower
profits and slower growth. The company would
have to set
aside millions of dollars to cover obsolete inventory and accounts
that might never be collected.
The huge Watsonville plant -- touted as a
symbol of the
company's astounding growth -- had, in fact, never been used, and it
was for sale.
The earnings report that Seagate issued in late 1984 showed
precipitous declines in revenues
and profits. Almost instantly, Seagate
stock plummeted to $4.38
a share -- a 75 percent drop from its high of $17.13 in June 1983.
Public shareholders took a beating. But shortly before the company
issued its dire report, Shugart
and other executives had unloaded much of
their own stock
for gross proceeds of more than $84 million. Shugart's take alone
was more than $15 million.
Bill Lerach smelled a rat.
THE LAWYER DOLL, 1984
Lerach had been filing class-action lawsuits on behalf of
shareholders for years, extracting
multimillion-dollar settlements from
notable companies such as
Gap Inc. and Memorex and -- with the lawyers' standard one-third
contingency fee
-- amassing a personal fortune.
But Shugart and Seagate were prized game, potential trophies from
the heart of Silicon Valley.
And less than a month after the company
released its financial
report, Lerach and several other lawyers filed class-action suits
that accused Shugart and his
colleagues of securities fraud and insider
trading.
In Seagate's Scotts Valley headquarters, Shugart was furious. He
vehemently denied the allegations
and vowed to fight the suits no matter
how long it took,
no matter how much it cost.
He hated anyone who tried to obstruct his entrepreneurial freedom.
He hated lawyers most of all.
``Al Shugart hated lawyers so much he kept a lawyer doll on his desk
so he could periodically snap
its head off,'' said one plaintiffs'
attorney. ``But he really
detested Bill Lerach.''
LERACH'S WRATH, 1986
In 1986, as the Seagate case dragged through its second year of
pretrial motions, Lerach turned
his attention to a lawsuit that had the
potential to make him the
nation's best-known class-action attorney.
It involved Nucorp Energy Inc., a San Diego oil company that issued
$150 million in securities
in 1981 before declaring bankruptcy a year
later. Lerach and
the SEC contended that the company used phony revenues to lure
investors into a disastrous
deal.
Lerach tried the case to a jury verdict, his first in more than 18
years of practicing law. He
was so sure of victory that he told the lawyer
on the other side,
``This is going to be an ignominious end to your mediocre career.''
When jurors requested a calculator,
he asked the judge to make sure it
could handle nine
figures.
On April 25, 1988, he invited his colleagues and the media to court
for the verdict.
Then he lost.
Lerach was stunned. His face blanched, then burned a furious red
before he stormed from the
courtroom. His colleagues say the fury lasted
weeks.
But rather than weaken Lerach, the humiliating defeat seemed to
galvanize him for battle against
the titans of corporate America. It
intensified his belief, as
he
wrote in a memo about jurors one week later, that ``60-year-old
Republicans'' were inherently
unsympathetic toward victims of securities
fraud, and a
person's ``position in society, his sense of class, is probably the
single most important factor
in determining his attitude toward (investors'
claims).''
And Shugart -- 58 years old and rich -- would soon experience the
force of Lerach's wrath.
THE IBM DEAL, 1988
By the end of 1987, Seagate had recovered from its financial
problems to become one of the
most prosperous companies in the high-tech
industry. And
Shugart, undaunted by the lawsuit Lerach had filed against him,
emerged as one of the most
visible and outspoken executives in Silicon
Valley.
With a new 3.5-inch disk drive, Seagate earned revenues surpassing
$1 billion a year. The company's
sprawling new production facilities in
Thailand and
Singapore made it the largest private employer in both of those
countries.
And in March 1988, Shugart announced a new order from Seagate's
biggest customer -- IBM --
a major announcement that nervous investors had
long been
waiting for.
Wall Street applauded, and the company's stock price soared, but
there was a problem: The deal
didn't require IBM to order anything from
Seagate.
IBM executives were horrified by Shugart's announcement.
They called him and another Seagate executive to Washington, D.C.,
in May. Over dinner, the men
from IBM accused Shugart of blatantly
violating a written
agreement that barred him from announcing the deal.
During a heated exchange after dessert, the ranking IBM executive,
Irv Abzug, accused Shugart
of trying to please ``security analysts'' and
``hype''
Seagate's stock. At that point Shugart walked out.
For more than a month, he assured financial analysts that demand for
Seagate's disk drives was so
strong that the company would expand
production and
even raise prices -- an unheard of move in the highly competitive
disk-drive industry. But in
July, Seagate disclosed that its earnings were
down 57 percent
from the previous year. Over the next day, the value of Seagate
shares plunged $250 million
-- a record for high-tech stocks at the time.
Shugart, however, had unloaded 100,000 shares in April, when the
stock price was up.
Lerach struck quickly. On July 29, 1988, just three months after the
devastating Nucorp verdict,
he filed a second class-action suit against
Seagate, again
accusing Shugart and other top executives of securities fraud and
insider trading.
In a rage, Shugart categorically denied the allegations -- and vowed
to fight them with everything
he had.
THE TRUCKER'S TIP, 1989
A tip came late the next year.
Two attorneys working with Lerach on the Seagate case flew to San
Jose and knocked on the door
of a trucker named George Armour, who had been
employed by the shipping firm that Seagate used in 1983 and 1984.
For four years Lerach and his associates had heard the rumors that
Seagate boosted revenues by
claiming to have sold disk drives that were
actually stored in
warehouses. And now, it seemed, the rumors could be true.
At first Amour was reticent, but then he told the attorneys how
Seagate cleared disk drives
out of its warehouses at the end of every
business quarter.
He told them that he and other truck drivers often worked 16- to
18-hour shifts, hauling semitrailer
trucks packed with disk drives to
rented warehouses in
Santa Clara and San Jose.
At one point, he said, the company parked at least six fully loaded
trailers in the Santa's Village
parking lot in Scotts Valley. The trailers
were parked
back-to-back, so the doors could not be opened. A security guard
patrolled the lot.
``It seemed a little funny to me at the time,'' Armour said. ``Those
disk drives cost a lot. They
were like gold.'' Later, a second trucking
employee, Peter
Page, described how semitrailer trucks loaded with pallets of
Seagate disk drives arrived
through the night at a local freight warehouse.
Two trucking lines
delivered the merchandise at the end of a financial quarter in 1983
or 1984, he said, and it was
not removed until later the next month.
The truckers' statements would be the turning point in Lerach's
first suit against Seagate.
He would eventually force Shugart to the
bargaining table for a
settlement: Without admitting any wrongdoing, Seagate agreed to pay
$5 million to 17,000 shareholders.
Lerach and the other attorneys who had sued the company collected
$3.1 million in fees and $1.26
million in expenses.
A CALL TO ARMS, 1990
``Enough is enough,'' blared the full-page ad from the back cover of
the April 1990 Upside magazine,
a glossy monthly that covers the high-tech
industry.
``Are securities lawyers holding your company ransom?''
The ad was Shugart's, a public declaration of war against
class-action lawsuits.
For years, scores of executives at some of the most prominent
companies in Silicon Valley
-- including Oracle, Apple and Sun Microsystems
-- had been sued
for securities fraud. And whatever the merits of the allegations,
legal fees and settlements
cost the high-tech industry millions of dollars
every year.
In the ad, Shugart asked other executives to send him their business
cards if they wanted to help
stop the lawsuits against their companies. His
plans were
uncertain, but during the next few weeks, he received a couple of
dozen business cards.
Then a mysterious envelope arrived from San Diego. In it was one of
Lerach's business cards. Scrawled
on the front was a message:
``Dear Al: More is coming.''
True to his word, on June 25, 1991 -- just 11 days after the
settlement of his first suit
against Seagate -- Lerach struck again, filing
a third lawsuit accusing
Seagate and Shugart of securities fraud.
EXPLOSIONS IN THE LAB, 1991
The class-action business was making Lerach rich, providing him the
means to support a sprawling
mansion in Rancho Santa Fe, an enclave of
multimillion-dollar homes in the Southern California hills
overlooking the Pacific.
It was also earning him the enmity of corporate America, whose
executives called him ``pond
scum'' and ``blood-sucking scumbag'' while
commiserating
with other targets of shareholder suits about being ``Lerached.''
But no one despised Lerach more than Shugart, who in 1994 found
himself a defendant in yet
another shareholder suit -- this one over his
involvement with
Valence Technology.
Shugart had been asked to sit on Valence's board of directors by
Carl Reed, Seagate's former
vice president of operations. A tough and
efficient manager,
Reed was in many ways responsible for Seagate's rise to a
billion-dollar corporation
with almost 40,000 employees around the world.
In May 1991, Reed left Seagate to become president and chief
operating officer of Valence
in San Jose. Several months later, he
persuaded Shugart to join the
company's board.
In theory, Valence's technology was compelling: a wafer-thin lithium
polymer battery that would
last four times longer than standard batteries,
would cost
one-tenth as much to make -- and would contain no liquids that might
cause the lithium to explode.
From the beginning, though, Valence had problems.
According to former Valence engineers, virtually all of the
thousands of machine-made batteries
eventually shorted out, emitting sparks
or intense heat when
pinched by assembly equipment.
The equipment itself was often broken, they say, hampering attempts
to show off the factory to
potential customers or investors. When visitors
arrived,
employees would pretend the machines were working by sending
hand-made batteries down the
assembly line.
And the cost of manufacturing was prohibitive: between $50 and $60
for a battery the company planned
to sell for about $15.
``It was like strapping a $100 bill on one of these things and then
sending it out,'' a former
manager said.
But Chief Executive Officer Lev Dawson, Reed and other top
executives publicly claimed
that Valence was on the verge of success.
In May 1992, the company said basic research on the state-of-the-art
battery was complete. In December,
Valence announced a $100 million order
from
Motorola to supply batteries for cell phones and pagers, and it set
early 1994 as the delivery
target date.
Then, in February 1993, an article in Forbes magazine questioned the
company's prospects. But Dawson
controlled the potential damage, telling
``Valence
Followers'' in an open letter, ``We remain in solid financial
position.''
A few days later, Dawson stepped down as CEO. Reed replaced him, and
the optimistic announcements
continued.
In late 1993, Valence touted plans to open a huge new plant in
Ireland. And in January 1994,
the company announced a $3.5 million contract
to supply
Hewlett-Packard with batteries for laptop computers.
``We look forward to producing our first commercial batteries in
1994,'' Reed said in a press
release.
BAD NEWS REACHES BOSTON, 1994
Across the country, in Braintree, Mass., Jim Varano read about the
developments with excitement.
He already owned a few hundred shares of
Valence, and
the latest news persuaded him to buy even more.
``In effect, they were saying that the batteries were perfected,''
he said. ``They had delivery
dates. They were going to build a production
plant. It meant they
had a product ready.''
He talked it over with his broker, and in early 1994 purchased
approximately 25,000 shares
on credit. Meanwhile, unknown to Varano, Dawson
and other
Valence insiders were unloading millions of shares of their own.
On May 4, 1994, on his way to work at the Veterans Affairs hospital
in nearby Brockton, Varano
stopped at a Dunkin' Donuts for a cup of coffee.
He sat
down and turned to the business section of the Boston Globe, eager
to see whether Valence stock
had continued to climb.
To his horror, he saw that the stock had plunged almost 50 percent.
Valence had announced it could
not meet Motorola's requirements for
batteries -- and
probably never would.
Overnight, Varano lost hundreds of thousands of dollars.
``I was devastated,'' he said.
Even worse news followed.
In June, the company announced that it could not deliver batteries
to Hewlett-Packard. And in
August, it announced that it would abandon
development of a
solid lithium battery.
Almost immediately after the stock crashed, Lerach and other
plaintiffs' attorneys filed
class-action lawsuits accusing Valence and
Dawson, Reed, Shugart
and other company executives and directors of securities fraud.
Varano became the lead plaintiff in Lerach's suit. He has yet to
recover a dime.
THE REFORM ACT, 1995
On Dec. 15, 1995, Lerach went to dinner at the White House.
At the time, President Clinton was grappling with the Private
Securities Litigation Reform
Act of 1995, far-reaching legislation designed
to limit
securities-fraud class actions against corporate executives.
It proposed the most dramatic change in the nation's securities laws
since 1934, and Clinton had
four days to sign or veto the bill.
Lobbying for the Reform Act had started in earnest two years
earlier, when accounting firms
and Wall Street investment banks complained
to Congress that
they were being dragged into securities suits filed against their
corporate clients simply because
they had ``deep pockets.''
Their plea for relief went nowhere at first. Then, in November 1994,
the Republican Party swept
into Washington brandishing the ``Contract With
America,''
which included a provision against securities class actions.
In just two months, the new Republican-led House of Representatives
passed strict rules designed
to put plaintiffs' attorneys out of business.
The most
draconian sections, which would have eliminated almost all
shareholder suits, were weakened
in negotiations with the Senate.
Top Silicon Valley executives, in their first serious display of
political power, lobbied the
president to sign the Reform Act. They argued
that most securities
fraud suits were frivolous. As proof, they pointed out that half of
the 150 largest companies in
Silicon Valley had been the focus of those
lawsuits, implying
that securities fraud could not possibly be that widespread.
But the Democratic Party's traditional supporters -- consumer
groups, civil libertarians
and plaintiffs' attorneys such as Lerach --
pushed the president for a
veto.
Lerach was one of Clinton's earliest and strongest political
backers. During the 1992 presidential
campaign, he rode on Clinton's bus
through the nation's
heartland. He was host for a fund-raiser for Clinton at his mansion
in Rancho Santa Fe.
Lerach disputes published reports that suggest he persuaded Clinton
at the December White House
dinner to veto the Reform Act.
``I was at a dinner with President Clinton and 500 other people,''
he said. ``I shook his hand
and never spoke to him about the bill. There
were 20 lobbyists
on the other side who were at that dinner.''
But four days later, 20 minutes before the midnight deadline,
Clinton vetoed the Reform Act.
``The president supports the goals of this legislation,'' said
spokesman David Johnson in
announcing the veto, ``but he is unwilling to
sign legislation that
would have the effect of closing the courthouse door on investors
who have legitimate claims.''
The veto would not last. For the first time in Clinton's presidency,
the House and Senate voted
to override, and the Reform Act became law.
SHUGART'S REVENGE, 1995
Corporate executives around the nation celebrated, and nowhere was
the news greeted with more
joy than in Silicon Valley. Shugart was
ecstatic.
Four times he had been sued by Lerach. The first case had cost him
millions. The second had been
thrown out of court. The third would be
settled for
millions more. He had been dropped from the Valence suit because he
had not participated in running
the company.
Finally, it was payback time.
He fired off a fax to Lerach's San Diego office. It said: ``Dear
Bill, More is coming. Sincerely,
Al.''
SEAGATE TECHNOLOGY
With headquarters in Scotts Valley, Seagate is the world's largest
manufacturer of computer disk
drives.
Seagate was founded in 1979 by Alan Shugart and Finis Conner.
Shugart, who is credited with
leading the team of IBM engineers that
invented the floppy
disk, served as the company's CEO until July 1998.
MILBERG WEISS BERSHAD HYNES & LERACH
Milberg Weiss is the largest law firm in the nation to focus on
class-action lawsuits.
The firm specializes in securities fraud suits and has filed
hundreds of shareholder suits
against Silicon Valley companies, resulting
in more than $2 billion in
settlements.
William Lerach joined the firm in 1976. He has successfully sued
some of the most notorious
figures in two of the nation's biggest financial
scandals,
winning a $250 million settlement from Charles Keating and American
Continental Corp. and $1.5
billion from Michael Milken and Drexel Burham
Lambert.
Hollow
Words: Federal prosecutors say white-collar crime is a priority, but they
have filed only a few charges
against high-tech executives
Robert Crowe was afraid he wouldn't be ready.
For months, the assistant U.S. attorney had been preparing a
securities fraud case against
executives at California Micro Devices, a
Milpitas chip
manufacturer. But as the 1998 trial neared, Crowe was inundated with
600,000 pages of documents
and didn't even have a clerk to work the copy
machine.
Meanwhile, the FBI and the Securities and Exchange Commission
continued to bring him promising
cases against other Silicon Valley
companies. But
Crowe was the only federal prosecutor in San Francisco working full
time on investment fraud, and
there was nothing he could do with them.
``The inventory of cases kept building,'' said Crowe. ``I couldn't
keep up.''
Cal Micro was the first major Silicon Valley fraud case tried by the
U.S. attorney's office in San
Francisco. It was also the last -- even
though shareholders
have sued more than 60 high-tech companies in Northern California's
federal courts since 1995.
Silicon Valley executives contend that most of the complaints are
frivolous, but Crowe and others
say the rising number of class-action suits
shows that fraud
is rampant in the high-tech industry.
``If they put together a special federal task force and sent it into
the valley, they could bring
a ton of fraud cases,'' said one senior
prosecutor at the U.S.
Department of Justice.
But the U.S. attorney's office has done little to deter securities
fraud in Silicon Valley, filing
criminal charges against only a handful of
high-tech executives
the entire decade.
Since shaking the recession of the early 1990s, Silicon Valley has
become the epicenter of the
fastest creation of wealth the world has ever
seen. And the
opportunities and motives for financial deceit have never been greater.
Silicon Valley executives face intense pressure to meet Wall
Street's expectations. Missing
quarterly projections can mean financial
disaster for a company --
and for the executives whose compensation packages depend on the
company's stock price.
For many corporate officers, the temptation to ``cook the books'' --
and then unload shares before
the company's stock price collapses -- is
overwhelming.
And unless federal prosecutors crack down, experts warn, securities
fraud will continue to flourish.
``More executives should be going to jail,'' said Stanford
University law Professor Joseph
Grundfest, a former SEC commissioner and
national expert in
securities fraud. ``That will grab their attention . . . and hand a
valuable lesson to the entire
economy.''
This is the story of how federal prosecutors have allowed securities
fraud to spread through Silicon
Valley like a virus. It is an account of
the one major case
that the U.S. attorney's office in San Francisco prosecuted,
desperately hoping the trial
would serve as a warning to the high-tech
industry.
And it is about an even bigger case, one of the most flagrant in
Silicon Valley history, that
federal prosecutors let sit on the shelf.
Yamaguchi's Vow, 1993
When Michael Yamaguchi was appointed U.S. attorney for the Northern
District of California in 1993,
he took over an office that had been adrift
for years
under a string of temporary chiefs.
As one of his first priorities, Yamaguchi pledged an aggressive
campaign against white-collar
crime. But the soft-spoken tax specialist
quickly learned it
wasn't going to be easy. ``We did not have nearly enough
resources,'' said Richard Seeborg,
a former prosecutor in the agency's San
Jose office. ``When
you compare our office to U.S. attorney's offices around the
country, we were grossly understaffed.''
In the 1990s, the Northern California district office had, on
average, only one-quarter of
the federal prosecutors per capita that were
assigned to lower
Manhattan and one-third the number of prosecutors posted to Southern
California.
Yamaguchi's first test came in June 1994, when former Chronicle
columnist Herb Greenberg reported
allegations from former employees at
California Micro
Devices that the company had been booking fake or premature revenue
for years.
Shortly after the disclosures, as the FBI and SEC investigated, the
company's senior financial
officer, Steven Henke, resigned. A few weeks
later, the board
of directors fired Chief Executive Officer Chan Desaigoudar, and Cal
Micro's stock plummeted an
estimated $139 million.
As Yamaguchi's prosecutors conducted interviews and pored over Cal
Micro's records, they found
that the company had booked millions of dollars
in
revenue for products that had not been shipped. They also discovered
double bookkeeping, false financial
filings and illegal write-offs. At the
same time, the
prosecutors discovered, Desaigoudar and Henke had dumped more than
$1.1 million of their own stock
before its price collapsed.
It was the perfect case for Yamaguchi to demonstrate that his office
was serious about white-collar
crime.
The Mastermind, 1989
Phil White was always ambitious -- even before he was accused of
masterminding one of the largest
securities fraud scandals in Silicon
Valley.
The sandy-haired White grew up in small-town Illinois, the son of an
accountant and a public school
teacher.
He majored in business at Illinois Wesleyan University and later
graduated from the University
of Illinois' business school.
He first worked for a travel company, leading tours through Latin
America, Europe and Canada
and running the company's Hawaii office. But
when he
realized he had no chance to head the family-owned business, he quit.
``I didn't go to school,'' he once told a financial trade magazine,
``to be second or third fiddle.''
Next, he moved to IBM's St. Louis office, where he consistently won
sales awards. But he knew he
would never challenge for the top job at IBM,
either,
and after 15 years, nearing middle age, he decided to change course.
In 1982, White moved to a sales and marketing job in Silicon Valley
and two years later joined
the board of Wyse Technology. In 1986, when the
company
needed an aggressive new president and chief operating officer,
White seized the chance.
Wyse had been a prosperous manufacturer of video display terminals
for many years, but its market
niche was doomed by a new generation of
desktop
computers that could operate without mainframes. Shortly after White
took over, Wyse moved into
the personal computer market, and White's
management
team promised 20 percent revenue increases every three months. It
was an ambitious goal, and
almost immediately it led to disaster.
In the haste to meet the target, Wyse made a lot of shoddy
computers. They overheated,
erased information and ejected circuit boards
during shipping. The
pressure to meet revenue goals grew so intense that in December 1987
the company shipped computers
in garbage bags after the anti-static
containers ran out.
According to court documents, the company claimed sales on computers
that were actually sent ``around
the corner'' to shippers' warehouses, then
returned
to Wyse after the end of the financial quarter. Some computers were
not shipped at all, merely
entered into records as ordered and
``processed.''
On Feb. 16, 1988, the company reported quarterly revenue of $128
million
-- an astonishing 75 percent increase over the quarter one year
earlier. At an industry conference
in September, White proclaimed that 1988
``looks to be a
banner year for all of us.''
But on Jan. 5, 1989, the company abruptly announced that revenues
for the previous quarter were
down by half from a year earlier.
The stock price plunged to $5 a share, far below its high of $25.50.
Almost 600 employees -- 15
percent of the company's workforce -- would soon
be fired.
Before the year was over, a Taiwanese company would buy Wyse for $10
a share.
Investors, mutual funds and pension funds lost tens of millions of
dollars. Bill Lerach and other
plaintiffs' attorneys sued White and other
company officials
for securities fraud and insider trading.
The suit was settled in 1992 for $15.5 million in cash -- with no
admission of wrongdoing.
It was not the last time White would be accused of ``cooking the
books.''
THE PROSECUTOR, 1990
Robert Crowe charged out of Cornell University law school in 1983,
eager to become a criminal
defense lawyer.
But he quickly found positions as a public defender more difficult
to find than prosecutor jobs,
so he wound up as an assistant district
attorney in Brooklyn,
N.Y., and loved it.
After several years of prosecuting street crimes, the Chicago native
began looking for something
more challenging. He found it in 1989 when he
went to
work in the U.S. attorney's branch office in San Jose.
In 1990 he got his first securities fraud case. It involved a
company in Campbell called
StarSignal Inc.
At the time, the U.S attorney's office didn't pay much attention to
investment-fraud cases. According
to several former prosecutors, the lawyer
responsible
for them just sat on the complaints in the San Francisco office. It
got so bad, they said, that
frustrated SEC officials stopped sending cases
over.
``The head of SEC enforcement was thrilled when I began working on
StarSignal,'' Crowe said.
StarSignal was the brainchild of an excitable and brilliant engineer
named Robert Widergren. With
several million dollars raised from private
investors, the
company developed the world's first commercial color fax machine.
But the early machines were
expensive, costing as much as $26,000, and
sales never
took off.
In 1990, a former executive tipped the SEC that the company was
raising money by sending investors
false information -- including news of
an imminent sale
in Spain worth $83 million. The figure, said the tipster, was
``extracted from the air.''
That August, the FBI moved in, arresting Widergren after learning
that he planned to transfer
money to Belize in Central America. Widergren
was charged
with bilking investors of more than $3 million.
The StarSignal case gave Crowe his first inkling that securities
fraud was more widespread in
Silicon Valley than anyone suspected.
``Why are you doing this to me?'' Crowe remembers Widergren asking
during breaks in the 1991 StarSignal
trial. ``My case is just a few million
dollars.
There's fraud going on all over the valley worth hundreds of
millions.''
INFORMIX'S TURNAROUND, 1993
For nearly a decade, Informix flourished as one of Silicon Valley's
leading makers of software
for managing computer databases.
But in 1989 the Menlo Park company bought a software firm in Kansas
City, and the acquisition started
to drag revenues down. So Informix
founder Roger
Sippl turned to White, unfazed by Wyse's collapse and the
allegations of securities fraud.
White quickly swung into action, firing a fifth of the company's
workforce. He expanded the
company's business to Europe and Asia. He
directed
Informix's engineers to change the database software so it would
work in networks of personal
computers rather than just mainframes.
When PC networks became the rage, Informix cleaned up.
Within four years, the company rebounded from a $46.3 million annual
loss to post a $56 million
profit. Its stock rose from 56 cents a share to
more than
$30. The numbers dazzled Wall Street, and White looked like a genius.
But then the industry began to slow. And the next year, company
executives found new ways to
keep revenues growing.
THE FIRST WARNING, 1994
Something was wrong with the numbers.
In May 1994, internal auditors at Informix were examining the
Australian accounts, and the
figures didn't add up. The company's
Australian subsidiary had
booked sales a full quarter before the software products were even
shipped.
A few months later, the company's outside auditors -- Ernst & Young
-- warned company officers
of similar problems in Europe.
The auditors also chided Informix for selling software in Latin
America on ``handshake'' agreements.
``Shareholders will expect agreements
with customers
to be documented,'' the auditors wrote in a draft memo for the 1994
year-end audit.
Informix executives dismissed the incidents as aberrations.
But at an annual meeting in January 1995, Chief Financial Officer
Howard Graham met with sales
representatives to backdate contracts so that
January deals
appeared to have closed in December, according to a shareholders'
suit. The result was inflated
revenues for 1994.
The executives joked among themselves that they were closing the
quarter on ``December 45th.''
A COMPANY ON A ROLL, 1996
In early 1996, White negotiated Informix's $400 million purchase of
Oakland-based Illustra Information
Technologies.
It seemed a stiff price for a company with less than $10 million in
annual sales and an unproven
technology that stored images and sound in
electronic
databases. But White touted the acquisition and the wonders of
Illustra's technology.
``This stuff is going to change the way people think,'' he said.
And Informix, it seemed, was on a roll. White declared that he
expected the firm ``to become
a billion-dollar company in 1996.''
But for nearly two years, auditors had warned Informix's board of
directors that White, Graham
and other executives were inflating revenues
through a
variety of questionable accounting practices, including backdated
sales, ``burn deals,'' barter
transactions and side letters.
Under what Informix employees called ``Howard's rule,'' Graham would
allow sales contracts to count
toward revenue even before they were fully
signed.
In barter transactions or ``Phil deals'' -- named for Phil White --
Informix would agree to buy
another company's products if that company
would license
Informix's software. Informix would then count as revenue the entire
value of the software licenses
-- without disclosing that it still had to
buy the other
products before it could get paid. In some cases, it never received
payment because the software
was returned.
And in complex ``burn'' transactions, Informix would agree to sell
software licenses to a distributor,
then loan the distributor money for the
purchase price.
Informix would book the transaction as revenue and the distributor
would, in theory, resell the
software so that it could repay -- or ``burn''
-- its loan
commitment to Informix.
But in many cases, the distributor was under no obligation to resell
the software or to repay the
loan. Sometimes Informix would never even
deliver the
software. The sales, though, remained on the company's books.
In other transactions, White would negotiate side letters that
granted customers undisclosed
concessions such as price breaks or longer
payment terms. The
letters changed the deal so that the original sales contracts -- and
the revenues recorded under
them -- were no longer accurate.
As Ernst & Young was privately warning Informix directors about
these practices, though, it
was publicly issuing letters giving the company
a clean bill of
health.
On April 15, 1996, Informix reported $204 million in revenue for the
first three months of the year
-- a 38 percent jump from the year before.
Wall Street was impressed. The next day, Informix stock rose $5 to
$24.25 a share. Over the next
three weeks it would top $26.
And White and Graham would begin to unload tens of thousands of
their shares in the company.
DUMPING STOCK, 1996
Auditors could barely conceal their frustration about the accounting
irregularities at Informix.
``It just gets better all the time,'' wrote one Ernst & Young
auditor after discovering several
improper deals.
In 1996, Informix booked tens of millions of dollars from
transactions that were backdated,
incomplete, subject to secret conditions
-- or simply nonexistent,
court documents show.
``Phil deals,'' or barter transactions, accounted for much of the
improperly recorded revenue.
That year, Informix sold about $170 million
worth of software
to companies from which it bought about $130 million worth of
computer equipment. Although
Informix denied the transactions were related,
an audit would
later determine that at least some were, and that they had
artificially boosted revenues
by $55 million.
Burn deals and side letters contributed tens of millions of dollars
more. By mid-1996, Informix's
European subsidiary had booked more than $105
million
from burn deals for which the company remained unpaid.
The tactics served their immediate purpose: They increased revenues
and kept the share price high.
By December, before leaving to become chief financial officer at
Siebel Systems, a San Mateo
software company, Graham had sold more than
$2.8 million
worth of his Informix stock.
During the next two months, White and other executives dumped more
than $20 million in shares.
Then, suddenly, everything began to come apart.
INFORMIX IN FREE FALL, 1997
Despite its inflated revenues and soaring stock price, Informix was
starved for cash.
And as the company tried to collect on the burn deals it had
written, customers objected,
and, in some cases, refused to conduct further
business with the
company.
British software firm Logical Systems International, for example,
had agreed to ``buy'' Informix
software with the understanding that
Informix would resell
it and not make Logical Systems pay.
``Informix asked us to do them a favor,'' wrote managing director
Stewart Ashton in a March 27,
1997, letter to the company, a favor that
would ``artificially
inflate the quarter numbers (of Informix) for last June and
September.''
But when Informix squeezed Ashton for payment, he howled at having
been ``coerced into this .
. . arrangement.''
Finally, Informix could no longer hide its crumbling finances.
On May 14, in its quarterly filing with the Securities and Exchange
Commission, Informix announced
that it had lost $140.1 million in the first
quarter of
1997, and that ``almost half of the licenses sold to resellers''
since 1995 ``have not been
resold.''
White blamed an ``overemphasis'' on selling the new Illustra-based
technology rather than traditional
software, but financial analysts knew
better.
``An unmitigated disaster,'' one analyst called the company's
announcement.
Yamaguchi's Retreat, 1997
Robert Crowe watched from his desk in San Francisco as much of the
U.S. attorney's office sank
slowly into disarray.
He had transferred from the San Jose office after Widergren's
conviction in the StarSignal
case. He had taken charge of screening most
investment-fraud
prosecutions and coordinating investigations with the SEC.
But Yamaguchi's vow to crack down on white-collar crime in Silicon
Valley quickly turned hollow.
In December 1996, Sen. Diane Feinstein recommended Yamaguchi to fill
a vacancy on the U.S. District
Court in San Jose. The judgeship should have
been a
crowning achievement for the 46-year-old prosecutor, whose father,
grandparents and thousands
of other Japanese Americans were kept in World
War II
internment camps after a series of rulings by federal judges.
But five months later, Yamaguchi withdrew his name after his public
comment about an important
drug prosecution led to a mistrial in the case.
``After that, and all the bad press around the case, Mike just
disengaged and hid out in his
office,'' said one former assistant U.S.
attorney.
Even Yamaguchi acknowledged later that he had ``crawled into a shell.''
Veteran prosecutors were leaving the office in droves. Case filings
and conviction rates were plunging.
And criminal referrals from the SEC and
FBI -- some
involving serious allegations of fraud in the high-tech industry
-- were going unprosecuted.
Even the Cal Micro case, the office's best hope for sending Silicon
Valley executives a message,
seemed in jeopardy.
A Day of Reckoning, 1997
Informix was at the threshold of disaster.
On July 30, 1997, directors and top company executives gathered to
hear the devastating news in
the Palo Alto offices of Wilson Sonsini
Goodrich & Rosati,
the most powerful law firm in Silicon Valley.
The board had already stripped White of his title as chief executive
officer and hired a replacement,
former 3Com executive Robert Finnochio, to
review
Informix's financial records. After asking White to excuse himself
from the meeting, the directors
listened raptly as Finnochio described the
widespread
accounting irregularities that White and other company executives
had allegedly engaged in or
condoned.
Finnochio's grim report meant that White was finished. When
Finnochio completed his presentation,
the directors severed all ties with
White and replaced
him as chairman with Finnochio.
It took Ernst & Young three months to determine the full extent of
the questionable accounting
schemes. On November 18, Finnochio made what he
described as ``the mother of all financial announcements.''
Informix would have to restate financial results for the previous
three years. The company disclosed
that it had improperly claimed a
staggering $278 million
in revenues and $236 million in profits.
On the brink of insolvency, Informix laid off thousands of
employees. Offices were closed
and operations consolidated. The company
abandoned plans to
build showrooms around the world and announced that it would sell a
27-acre parcel of land in Santa
Clara, the planned site for new
headquarters.
Immediately, Lerach and other plaintiffs' attorneys filed
class-action suits on behalf
of the thousands of investors who had lost
millions of dollars, and
Informix braced for the onslaught.
THE EVE OF TRIAL, 1998
It was well past midnight in the warren of cramped offices on the
11th floor of the Phillip Burton
Federal Building, and Crowe was still
working. He had
been at it for days, his frustration mounting.
More than three years had passed since the investigation into Cal
Micro had opened. In the middle
of trial preparations, Leo Cunningham, then
Richard
Seeborg, the two prosecutors who had worked the case from the
beginning, left the U.S. attorney's
office to join big law firms in Silicon
Valley.
Crowe had replaced them, and now, in early 1998, he was handling the
case alone.
He looked over the 600,000 pages of documents with a mixture of
disbelief and terror.
``I got started so late,'' he said. ``There was no secretary, no
paralegal, no resources I could
count on from the office
-- nothing.
``At one point I had to decide between spending 80 hours with (a key
witness) or going through every
document. I chose the witness, but I was
afraid the
defense would find something in those papers, and I would be
blindsided during the trial.''
Finally, the Department of Justice dispatched Pamela Merchant, a
senior fraud specialist in
Boston, to help him try the case.
Meanwhile, fraud cases from the SEC and the FBI continued to pile up
on his desk. But there was
little Crowe could do.
He tried to farm them out to other prosecutors, but he couldn't
force anyone to take them.
And he was acutely aware of how Silicon Valley
would view the
inaction.
``These big white-collar cases . . . should have high impact,'' he
said. ``But if you screw around
for four or five years, no one takes you
seriously.''
An Empty Victory, 1998
The Cal Micro case finally went to trial in June.
Crowe and Merchant believed they had a strong case, a tour de force
constructed around a stack
of financial records and the testimony of two
former Cal
Micro executives who agreed to testify for the prosecution.
In their defense, former CEO Desaigoudar and treasurer Henke told
the jury that they had done
nothing wrong, that they never saw memos or
attended
meetings where the fraud was discussed. And they repeatedly blamed
the wrongdoing on their subordinates.
Their testimony proved unpersuasive. On July 14, 1998, after a
five-week trial, jurors found
each man guilty of five felony charges,
including conspiracy,
securities fraud, insider trading and making false SEC filings.
It was a major victory for the demoralized U.S. attorney's office.
But for Crowe it was the end
of the road.
Just before the trial, his supervisor entered his office and
complained that Crowe hadn't
done anything with the mounting inventory of
criminal fraud
referrals.
``I exploded,'' Crowe said. ``I had given him the cases to reassign
months earlier so I could concentrate
on the trial, and he had done
nothing.''
Crowe was sick with frustration. He had relished prosecuting
Widergren, Desaigoudar, Henke
and other white-collar criminals. He had even
won an award
for his representation of financial fraud victims.
In August, he cleared out his desk in the federal building. When he
submitted his resignation,
he had no idea who would take over the inventory
of cases the
office still hadn't dealt with, including one potentially explosive
case referred to him months
before.
The case against Informix.
THE VERDICT, 1998
On December 8, a vast Pacific Gas and Electric Co. power failure
left only dim, backup lighting
in the San Francisco courtroom of U.S.
District Judge
Vaughn Walker.
Despite the jury's verdict against Chan Desaigoudar and Steven
Henke, the former Cal Micro
executives refused to acknowledge their crimes,
insisting that
their subordinates had betrayed them.
``If I have a regret about my conduct as a former CEO and
chairman,'' a defiant Desaigoudar
told the judge, ``it is simply this: I
might have trusted my
employees. For this, I and my family will suffer and have been
suffering.''
Walker tentatively ruled that he would impose prison terms of 36
months for Desaigoudar and
32 months for Henke, far less than the
government had
requested.
Merchant was furious.
``Your honor, the government is deeply troubled,'' she said. She
reminded Walker that the fraud
had cost investors tens of millions of
dollars. ``This is a
significant, as the court has said, grave matter.''
She urged Walker to reconsider and to send a strong message ``to the
public and the investing community
that this type of crime would not be
treated
differently than any other crime.''
Walker was unswayed. He praised the accomplishments of the two
defendants. He extolled their
civic and charitable contributions. He even
called their
situations tragic.
``This cannot by any stretch of the imagination,'' he said, ``be
rendered equivalent to fraud
which takes advantage of helpless and
uninformed or particularly
gullible individuals.''
EPILOGUE
In August 1998, Yamaguchi resigned as U.S. attorney amid growing
criticism from judges and attorneys
about his ineffectiveness. Several
months later he
became an immigration law judge in San Francisco.
Yamaguchi was immediately replaced by Robert Mueller, a tough,
career prosecutor from Washington,
D.C., who immediately promised to step up
prosecutions of white-collar crime, focusing on Silicon Valley.
A month later, after a four-year investigation, two former
executives of Media Vision,
a Fremont chip developer, were indicted on
charges of securities fraud
and insider trading. The case has yet to come to trial.
Mueller said the agency has ``a number of cases in the hopper,'' but
he declined to comment further.
In July of this year, the shareholders' class-action suits against
Informix were settled. Without
admitting any wrongdoing, the company and
Ernst & Young
agreed to pay investors a total of $142 million, the largest
securities fraud settlement
in Silicon Valley history. White, who was not
held personally liable for
any of the settlement, currently lives in Atherton and sits on the
boards of several companies,
as well as his college alma mater. He denies
any wrongdoing
and has declined to comment further.
Howard Graham, who also paid nothing under the settlement, refused
to comment.
No criminal charges have been filed against White, Graham or any
other Informix executives by
the U.S. attorney's office.
Desaigoudar and Henke have appealed their convictions, and they
remain free on bail.
Crowe practices law in San Francisco, representing investors.
INFORMIX
Roger Sippl founded Informix in 1980 after Hodgkin's disease forced
him to put his medical education
on hold. The company quickly grew into one
of
Silicon Valley's hottest companies, and after Phil White took over
in 1989 it seemed poised to
surpass Oracle, Sybase and other competitors as
the top maker
of data-base management software.
A troubled fling with a multimedia-database product and charges of
accounting fraud and illegal
insider trading derailed the company in 1997.
The company
has attempted to recover ever since, and last year posted net income
of $57.7 million after a $357
million loss the year before.
CALIFORNIA MICRO DEVICES
Based in Milpitas, California Micro Devices makes silicon chips,
filters and electronic circuitry
for workstations and personal computers.
Since its former top officers were accused of securities fraud in
1994 and then convicted last
year, the company has attempted to recover by
expanding into
new markets. For the fiscal year ended in March, Cal Micro lost $2.8
million on sales of $33.6 million.
It has 150 employees in Milpitas and 110
in Tempe,
Ariz.
Double-Crossed:
Silicon Valley entrepreneurs say they have been betrayed by venture
capitalists and lawyers,
the very people they asked for help
In June 1997, Shyam Das sat down for sodas with venture capitalist
Jeffrey Drazan at the Peppermill
Restaurant in Cupertino.
Drazan and his firm, Sierra Ventures, had put about $7 million into
the company Das founded the
year before, and after a few minutes of small
talk, Drazan
said he wanted another Sierra director on the board.
Das was wary. For years, he had worked alone to perfect the
company's product -- an ingenious
device capable of storing more data on a
computer disk than
anyone thought possible. And he could feel Drazan prying it away.
But Drazan assured him they would ``always be together,'' so Das
relented.
It was a critical mistake.
Two months later, Das was out, fired from his own company -- with
Drazan's new director casting
the deciding vote. And although Das still
held millions of
shares of company stock, he said the directors eventually found a
way to betray him one more
time.
``When I handed over this company,'' Das said, ``it was just like
losing a child.''
Every year, hundreds of entrepreneurs like Das create high-tech
companies with the hope of
striking it rich. Although most know the risks
of the open
market, few expect to lose their startups to the professionals they
depend on for advice and support.
But over the past decade, some of the high-tech industry's most
prominent venture capitalists
and lawyers have been accused of stealing
companies from the
entrepreneurs they agreed to finance and of betraying clients they
were hired to represent.
``So much of this is happening out there,'' said Santa Clara
Superior Court Judge Conrad
Rushing, who presided over a trial involving
several venture
capitalists. ``What I see in lawsuits is just the tip of the iceberg.''
Silicon Valley's venture firms control an estimated $22 billion of
capital, and in the roiling,
high-risk markets of the high-tech industry,
they're not afraid to
seize control of a company or force its founder out.
But to call them to account would be financial suicide for almost
any entrepreneur.
``Suing venture capitalists is like suing the Mafia,'' said Michael
Kalashian, an entrepreneur
who wrested a $15 million settlement from
venture capitalists
four years ago. ``In the valley here, anyone who is in business
somehow interacts with the
VCs . . . and they're terrified.''
The power of Silicon Valley's top venture capitalists is rivaled
only by the elite attorneys
who represent them, the partners at megafirms
that also represent
virtually all of high-tech's largest corporations. Inexperienced
entrepreneurs hire these firms
at their peril, often discovering that the
attorneys have sold them
out for more profitable clients.
``It's worked like that down here for years,'' said a San Jose
attorney who defends large
high-tech companies in lawsuits. ``Is it
unethical? Well, to use a
legal term: Hell, yes.''
This is the story of how some venture capitalists and lawyers
operate in Silicon Valley and
how they pay little heed to laws prohibiting
conflicts of interest
and the abuse of minority shareholders.
It is also the story of some of the entrepreneurs and engineers who
were ruined and left behind.
UNDISCLOSED LOYALTIES, 1987
Narpat Bhandari had a brilliant idea for a lightning-fast computer
chip.
So he went to the most powerful law firm in Silicon Valley,
believing that its contacts
within the high-tech industry would help get
his enterprise off the
ground. But he says he soon learned what can happen when connections
become conflicts -- and lawyers
must choose between rival clients.
It all started in January 1987, when Bhandari, chief engineer of
Fairchild Semiconductor's new
products division, decided that after
spending three decades
as a chip designer, he would start his own company. Business plan in
hand, he and a partner hired
Wilson Sonsini Goodrich & Rosati, the
influential Palo
Alto law firm.
Name partner Larry Sonsini helped Bhandari revise the business plan,
counseled him on resigning
from Fairchild and made sure the new chip did
not violate
any patents, Bhandari says.
Over the next few months, Sonsini escorted Bhandari through the
venture capital firms along
Sand Hill Road in Menlo Park. Sonsini made a
particular point
of introducing Bhandari to John Doerr, Silicon Valley's premier
venture capitalist and a director
of high-tech giant Cypress Semiconductor.
Doerr pitched Bhandari's idea to Cypress, and the company was
intrigued. It hired Bhandari
as a consultant, and after months of
negotiations, says Bhandari,
orally agreed to pump $13.6 million into his startup, pay him $2
million and grant him stock
in both the new company and Cypress.
Sonsini incorporated Bhandari's Aspen Semiconductor and, according
to Bhandari, promised to document
the Cypress deal.
But in August, Bhandari says he made a disturbing discovery: Sonsini
was not only Cypress' attorney
and secretary, he had incorporated and
guided the
company through an initial public stock offering and was
representing its chief executive
officer, T.J. Rodgers.
When Bhandari complained about the conflict of interest, Sonsini
assured him that all was well.
The attorney even suggested that his
relationship with
Cypress and Rodgers would help, according to court documents.
Bhandari did not want to lose Sonsini's influence, so he says he
continued to retain Sonsini
as legal counsel, even appointing him to
Aspen's board of
directors.
All Bhandari could do was hope for the best.
-- -- --
A calm and dignified counselor to a new generation of brash tycoons,
Sonsini has been called the
``consigliere of Silicon Valley.''
At 58, he is one of the most powerful figures in the high-tech
industry. He is a confidant,
a matchmaker and a financial and legal
strategist. He has drafted
business plans for some of Silicon Valley's best known companies and
introduced the partners of
some of its most prestigious venture capital
firms.
Born in the farm country of upstate New York, Sonsini came west to
California with his family
in 1949. He graduated from Berkeley's Boalt Hall
law school
in 1966. But rather than join a lucrative New York practice or clerk
for a federal judge, he took
a job with an obscure law firm run by John
Wilson in a
no-name valley south of San Francisco.
It was the best move Sonsini ever made.
He saw the possibilities in that valley, the potent, untapped energy
of young companies and the
freedom of a culture not yet formed. ``It was
the idea,'' he
said, ``of being able to build something.''
At first, as the fourth attorney in a four-lawyer office, Sonsini
handled as many divorces and
slip-and-fall cases as incorporations for
entrepreneurs.
But in the early 1970s he represented a company called ESL, which
was run by a future secretary
of defense named William Perry. ESL wanted to
sell its
stock publicly and was about to hire a major San Francisco firm when
Sonsini intervened.
``I said, `I can do this, and I can do it better,' '' he recalled.
``I just hated the idea of
losing clients.''
ESL stayed with Sonsini. So did Seagate Technology and Intel and LSI
Logic, and before long, over
the qualms of some of his partners, Sonsini
had built a
law firm that could serve almost every need of companies in the
rapidly emerging high-tech
industry.
Then, in 1980, Sonsini handled one of the best-known deals in
high-tech history: The initial
public offering of Apple Computer's stock.
On December 12,
Apple's shares rose by 30 percent, making dozens of Apple employees
paper millionaires. Founder
Steve Jobs' stock alone was worth $217 million.
Suddenly it seemed as if every high-tech company and entrepreneur
wanted to be Sonsini's client.
``Now they weren't calling us out of loyalty,'' he said. ``They were
calling us because we were
the best.''
It wasn't long before the firm was in such demand that it
occasionally found itself representing
parties on opposite sides of a deal,
a conflict of interest that
ethics rules expressly prohibit unless waived by clients.
Sonsini acknowledges that ``the technology industry is unique'' in
its potential for legal conflicts.
But he says ``it really isn't an issue.
We are rarely in the
same deal with two clients.'' And if they are, he says they ask
clients for waivers, which
many seem happy to grant.
Others, though, tell a different story -- of an untold number of
entrepreneurs and engineers
afraid to talk about what the law firm did to
them.
``The number of conflicts cases (Wilson Sonsini) has settled so they
never see the light of day
is incredible,'' said one entrepreneur.
``There's considerable
fear of Larry Sonsini in the valley, fear by entrepreneurs who don't
want to get blackballed.''
-- -- --
It was Sonsini's reputation as the top attorney in Silicon Valley
that prompted Bhandari to appoint
him an Aspen director -- despite the
lawyer's long-standing
relationship with top Cypress officials.
Six months later, Sonsini and the other Cypress directors fired
Bhandari as chief executive
officer of Aspen.
And because Sonsini failed to document Bhandari's original deal with
Cypress, Bhandari says he received
none of the cash or stock he was
promised.
As a final indignity, Fairchild, Bhandari's former employer, sued
him for trade-secret theft.
Cypress CEO Rodgers said he fired Bhandari because five Aspen
managers complained of a ``leadership
problem'' and the company was three
months
behind in creating its project plan.
Sonsini contends that he told Bhandari to get a new lawyer in April
1987, according to court documents.
Sonsini said he stopped representing
Bhandari in
May.
But Bhandari says he believed until his firing that Sonsini was his
attorney. There was nothing
in writing to indicate otherwise, he says.
He also says he believes Cypress dumped him to gain complete control
of the chip technology he had
created and the engineers and management team
he had
assembled.
``The smaller you are,'' Bhandari said, ``the more they think you
are nothing.''
Bhandari spent the next eight years fighting in the courts. He sued
Cypress, Rodgers and Aspen
-- all defended by Wilson Sonsini -- and in
September 1991
won a $750,000 judgment.
He defended himself against Fairchild, since acquired by National
Semiconductor, and the company
eventually dropped the case.
Finally, he sued Wilson Sonsini for malpractice, and after years of
rancorous motions, the suit
was settled confidentially.
A NEGLECTED DEFENSE, 1989
When Greg Galloway's thriving disk drive company was sued for
trade-secret theft, he hired
Wilson Sonsini to handle the case.
But according to his allegations in a lawsuit, Galloway would soon
discover that retaining the
valley's top law firm was no guarantee of an
aggressive
defense -- particularly if the firm's interests potentially
conflicted with its client's.
Galloway's company was called Tronix Peripherals. In 1989, its
competitor, Trace Products,
accused it of stealing software code by hiring
the code's author,
a former Trace employee.
But almost from the beginning, the Wilson Sonsini attorneys made a
series of puzzling mistakes,
according to Galloway's lawsuit.
They discouraged Galloway and Tronix from reaching a settlement that
might have limited the damages.
They delayed filing a summary-judgment
motion that
could have cut the case short. They essentially admitted Tronix's
liability in a letter to one
of the company's own customers.
The alleged missteps worried Galloway, but he says that when he
asked about them, he was told
to concentrate on running his business.
Then Galloway learned that Wilson Sonsini represented a company
called Applied Biosystems.
The author of the secret source code had worked at Applied
Biosystems after leaving Trace
and before joining Tronix. While at Applied
Biosystems, and
possibly at other firms, he had used the disputed source code,
Galloway claims.
And if the author of the source code had used it at Applied
Biosystems and elsewhere, it
was no longer secret when Tronix obtained it
-- meaning Tronix
could not be guilty of trade-secret theft.
But the Wilson Sonsini lawyers failed to pursue that defense,
Galloway claims, because they
did not want to expose another client,
Applied Biosystems, to
legal liability.
Galloway says Wilson Sonsini never asked him to waive the conflicts
created by its representation
of Applied Biosystems, or another company
with ties to
his suit.
But the worst lay ahead.
On the eve of trial, Michael Ladra, the lead attorney on Galloway's
case, abruptly announced that
he would no longer handle the lawsuit,
claiming that
another client needed his immediate attention, according to
Galloway. Wilson Sonsini attorney
Peter Courture took over, but he was
``totally unfamiliar with
the facts, issues and evidence,'' Galloway claimed in court papers.
The trial was a disaster. In March 1991, a jury in Santa Clara
Superior Court found Galloway
liable to Trace for $1,386,749 in damages.
Galloway also
owed Wilson Sonsini $135,627 in legal fees.
The debts ruined Galloway. A year later he filed for bankruptcy, and
Tronix closed its doors.
Galloway eventually sued Wilson Sonsini for malpractice, and the
case was settled confidentially
in 1996.
Ladra says Galloway's claims were ``silly'' and contends the firm
didn't pursue the Applied Biosystems
angle for many reasons, the main one
being that ``it
would have actually been contrary to Galloway's interests.''
Ladra also says Courture was fully capable of trying the case and
Galloway was urged to settle
``numerous times.''
``The bottom line,'' he said, ``is the guy lost the case, and so he
decided to blame someone other
than himself.''
Galloway and Courture will not talk about the Tronix case or the
malpractice suit.
``The one thing I have learned about legal battles,'' Galloway said,
``is they have nothing to do
with truth and justice but only how you
develop the facts.''
PILFERED SECRETS, 1991
It was every entrepreneur's worst nightmare.
One day EP Technologies was seeking venture capital financing to
expand its medical equipment
business.
The next day an entirely new company -- financed by the same venture
capitalists -- arose to make
exactly the same product for exactly the same
market.
EPT's nightmare began in 1990, when the company decided to expand
its medical equipment business
and look for financing. After a three-month
search, it
contacted Sierra Ventures.
Founded in 1982, Sierra enjoyed a reputation as one of the most
aggressive venture capital
firms along Menlo Park's Sand Hill Road,
headquarters for
Silicon Valley's most prominent financiers.
``The ongoing joke is that they're greedy and avaricious -- and
proud of it,'' said one former
investor in a Sierra fund.
Sierra was intrigued by EPT's products for diagnosing and treating
heart disease. So it asked
for more information and received a stack of
confidential
documents describing the company's business and technology.
Over the next two months, Sierra studied every aspect of EPT. It
hired one consultant to evaluate
the company's technology and business
potential and
another to investigate the company's patents. It even introduced
businessman Harry Robbins to
EPT as a potential chief executive officer.
On Jan. 15, 1991, Sierra gave EPT a financing proposal. In March,
the company responded with
a counterproposal.
Then the deal went dead. On April 10, Sierra abruptly told EPT that
there would be no further negotiations.
Company officials were stunned. But five days later they received
even worse news: Sierra had
agreed to finance CardioRhythm, a newly formed
company
that planned to compete directly with EPT.
CardioRhythm was founded by Robbins and the two general partners of
the financing agent that had
introduced EPT to Sierra -- George Savage and
Andrew
Thompson of Savage-Thompson Management. In exchange for Sierra's
backing, the three founders
granted the firm stock and seats on the board.
And it only got worse for EPT.
When the company asked another venture capital firm for financing,
Sierra tried to persuade the
firm to invest in CardioRhythm instead,
according to court
documents.
And later, when EPT discussed a merger with medical manufacturer
Medtronic Inc., Sierra intervened
and persuaded Medtronic to buy
CardioRhythm.
Finally, on March 25, 1993, EP Technologies sued Sierra, accusing it
of using EPT's confidential
information to help start CardioRhythm and then
thwarting
EPT's merger with Medtronic.
Less than a month later, the lawsuit was settled confidentially. The
lawyers for EPT declined to
discuss the case. Savage, Thompson and Robbins
could not
be reached for comment.
Sierra general partner Jeffrey Drazan said he did not recall the
details of the case.
In 1996, EP Technologies was acquired by Boston Scientific.
SUDDEN INTERFERENCE, 1994
ASCNet was ready for the market.
The company had developed a wireless phone system to connect
motorists with a 24-hour help
line and road service, and several
organizations serving
seniors and motorists were already promoting the product.
But when word of the company's wireless technology reached Drazan at
Sierra Ventures, ASCNet claims
it quickly found out what can happen when
venture
capitalists want in on a deal.
Drazan had come to Silicon Valley from New York in 1984, a Long
Island doctor's son with an
engineering degree from Princeton and an MBA
from New
York University's Graduate School of Business Administration.
At Sierra he prided himself on his ability to move fast, to decide
quickly whether a company deserves
funding and then to assert control. His
approach was
often successful, but some company executives refused to work with him.
``He is fiery tempered, quick to draw,'' said one company founder
who turned down financing from
Sierra when Drazan insisted that the firm be
the sole
investor. ``He just brazenly thinks that he's smarter than any of
the entrepreneurs in his portfolio
companies.''
Drazan thought ASCNet's ``Road Phone'' might be useful to one of
Sierra's other investments,
a Sunnyvale firm called Air Communications,
which was
struggling to develop a combination cellular phone, fax and modem.
Over the next few months, Drazan and Air Communications chief John
Soden talked to ASCNet about
licensing the wireless technology. They even
raised
the possibility of acquiring ASCNet.
But the Road Phone was ready for sale and ASCNet was running low on
cash. On August 30, 1994, it
agreed to accept $1.5 million from Nassgil
Financial.
The next day, Drazan and Soden called Nassgil and asked for a
meeting, according to court
documents. In the afternoon, they sat down with
Nassgil's
president, Gabriel Nassar, and its attorney, Paul Konalpelsky, and
asked whether Sierra Ventures
and Air Communications could get a piece of
the ASCNet
deal.
When Nassgil said no, Drazan allegedly threatened to block its
investment in ASCNet. He told
Nassar and Konalpelsky that ASCNet's board
was in disarray
and that he commanded the support of the company's shareholders and
directors.
Unnerved by the threat, Nassgil withdrew its offer of financing.
Within a month, ASCNet was
out of business.
Drazan disputes the allegations, which are contained in a lawsuit
filed against Sierra Ventures
and Air Communications.
He said he met with Nassgil at ASCNet's request, and after a
one-hour discussion he left
with the possibility of a Sierra investment
still open.
``I went to Australia, and when I got back there was a lawsuit on my
desk,'' he said. ``It was ridiculous.''
The lawsuit accused Drazan and Sierra Ventures of illegally
interfering with ASCNet's deal
with Nassgil. It was settled confidentially,
and Konalpelsky
refuses to comment on the case.
Later, Sierra unloaded its investment in Air Communications,
deciding, says Drazan, that
the company's product ``was a silly idea.''
SHIFTING ALLEGIANCES, 1995
Donald Sollars knew he had a problem.
But he never expected to be dumped abruptly by his attorney, who
Sollars claims sided with the
three former partners trying to gain control
of his company.
Lawyers say it happens all the time in Silicon Valley: An
entrepreneur trusts the attorney
he hired to continue to represent him,
only to find that the attorney
has chosen instead to represent a company, its investors -- or even
the people the entrepreneur
has engaged in battle.
Sollars had worked at Intel and Sun Microsystems designing computer
chips. In his spare time he
had invented a unique component for
microprocessors used
in cell phones. He believed the device was good enough to be the
foundation of a profitable
business, but he also knew he needed help
starting a company.
``I was a techie,'' he said, ``with zero business experience.''
So in March 1995 Sollars and his colleague Krishna Yarlagadda turned
to Wilson Sonsini, hiring John
Goodrich at the firm to help them and two
other
partners start a company called Infinite Solutions Inc.
Goodrich incorporated the new company in April, but by then Sollars
and the other three partners
had started quarreling. They couldn't decide
how to divide
control and ownership of the company, how to share its assets or how
to structure its business.
The disagreements eventually made it impossible for Sollars to
proceed, so in December 1995,
he resigned from Infinite Solutions. And
because Infinite
Solutions was based on his technology, he demanded that the company
be dissolved.
But according to allegations in court documents, Yarlagadda refused
to give up the technology.
In fact, he told Sollars, he and the other two
partners intended
to use it in a new business with fresh investors.
Sollars and Yarlagadda took their disagreement to Goodrich, who
informed them that Sollars
didn't own the disputed technology and should
negotiate a
settlement among the partners, the court documents say. But when
negotiations started, Sollars
says he discovered that Goodrich was
representing
Yarlagadda and the other partners against him.
Sollars was furious at what he viewed as his lawyer's betrayal. He
hired another attorney who
demanded that Wilson Sonsini stop representing
the three
partners.
But Goodrich and Wilson Sonsini refused, according to the documents.
Goodrich denied that he had ever represented Sollars individually.
The lawyer claimed that he
represented Infinite Solutions -- even though he
had provided
legal advice to Sollars and the other partners long before the
corporation existed.
Finally, Sollars sued to stop Wilson Sonsini from representing his
former partners
-- and after months of negotiations, the law firm withdrew.
Goodrich and Sollars refuse to comment on the case, and Yarlagadda
could not be reached for comment.
``Let me be blunt,'' Sollars said, ``the last thing I want to do is
to piss off John Goodrich and
Wilson Sonsini.''
SHAREHOLDERS AGREEMENT, 1998
Vijay Parekh figured he had an ace in the hole, a shareholders
agreement designed to preserve
his control of the software company he
founded the year
before.
But when the venture capitalists decided they wanted him to step
down as CEO, Parekh discovered
how little the document meant.
His company, Manage.com, made software for monitoring computer
networks. It had already received
a multimillion dollar investment from
U.S. Venture
Partners when, in July 1998, the firm decided that Manage.com needed
more money -- and a new CEO.
Lucio Lanza, U.S. Venture's partner in charge of the company, told
Parekh not to worry, according
to court documents. He said Parekh would
continue to
sit on the company's three-man board of directors, and he promised
Parekh the job of chief technology
officer. It would all be taken care of
at the July 13
board meeting, Lanza said.
But at the meeting, Lanza moved to add a fourth director -- his
partner Jason Green.
It caught Parekh completely off guard. Appointing a new director
wasn't on the meeting's agenda.
So Parekh protested, stressing that the
company's
shareholders agreement specifically prohibited the election of an
additional director without
the unanimous consent of the original three.
The board turned to Manage.com's lawyer, Thomas DeFilipps of Wilson
Sonsini. To Parekh's astonishment,
DeFilipps told the board that it could
appoint
Green without Parekh's consent, the court documents say.
A vote was called. Parekh says he voted against Green's appointment,
but the other directors voted
in favor.
Several weeks later, Parekh received a copy of the board minutes
drafted by DeFilipps. He was
stunned to see in a section titled ``Election
of a New
Director'' that his vote against Green's appointment had been
recorded as an abstention.
Parekh dashed off a letter to DeFilipps. It demanded that the
minutes reflect Parekh's vote
against Green and that the attorney explain
in writing why Green's
appointment didn't violate the shareholders agreement.
Three days later, just hours before Manage.com's next board meeting,
Lanza stepped into Parekh's
office and fired him.
Parekh was crushed. He had lost not only his job and his company,
but about 600,000 shares of
Manage.com stock scheduled to vest in six more
months.
On November 10, Parekh sued U.S. Ventures, Lanza and Wilson Sonsini
for allegedly violating the
shareholders agreement and firing him without
cause.
Although Parekh says the case is being settled, he refuses to
discuss it further. Lanza and
DeFilipps also decline to comment on the
case.
A PAPER FORTUNE, 1999
First they gave Shyam Das millions, then they stripped him of
everything.
After 12 years at Digital Equipment Corp. and a few months at
California Micro Devices, Das
decided to start his own company. The
51-year-old engineer
had spent years working alone on the prototype of a new data storage
device. And in early 1997,
he began looking for financing to construct a new
manufacturing facility.
In February, Drazan and Sierra Ventures agreed to invest about $5
million in Das Devices, and
Das figured he was in business.
He was also in trouble.
As soon as Drazan joined the company's board, Das' role began to
change. His title fell from
president to executive vice president. He lost
much of his
responsibility over the company's technology.
The influx of venture capital and other investments diluted his
share of the company's stock
from 50 percent to 5 percent.
In June, Drazan allegedly told Das that he wanted to appoint a
Sierra investor named Bert
Zaccaria to the board. Das reluctantly agreed,
but only after Drazan
assured him that ``you, me and Bert will always be together.''
Drazan says he does not recall the conversation, but wouldn't say
such a thing because ``every
director is independent.''
A few months later, as the August 1 board meeting was about to
begin, the company's CEO handed
Das a letter, informing him that he had
just been fired.
When Das protested, the directors voted 3 to 2 for his ouster --
with Zaccaria casting the deciding
vote.
Drazan contends that Das left the company ``by mutual agreement''
and received ``a very generous
exit package.'' Das says it was small
compensation for
almost five years of work
and the loss of his dream.
His only consolation was that he still held more than 6 million
shares of stock in the company,
potentially worth a small fortune if the
company was ever
sold.
It wasn't long before a deal was in the works.
In 1998, Applied Magnetics Corp. agreed to buy Das Devices, and
Drazan and the other investors
started calculating how to divide the
proceeds.
With the help of company counsel and Wilson Sonsini partner Adam
Dolinko, they negotiated an
agreement that called for loans to be paid
first, then the
noncompete agreements, then the series B through E preferred stock
and, finally, the series A
preferred and the common stock.
The deal went down on Feb. 11, 1999, with Applied Magnetics paying
about $65 million in stock
for Das Devices.
But after trickling through the descending levels of debt and
equity, there was just enough
money for the board of directors, Sierra
Ventures and the other
investors.
Das got nothing. His more than 1.7 million shares of series A
preferred stock and 5 million
shares of common stock were worthless.
``I was so disgusted, that I decided never to work in that industry
again,'' said Das, who has
started a new company, eHoHo.com, specializing
in selling
houses and household products.
Dolinko refuses to comment on the transaction. Drazan acknowledges
that it ``wasn't perfect.''
But he says it ``turned out to be a bad deal
for everyone.
``We lost our shirt on this thing, and I think it's somewhat
pathetic that this guy doesn't
appreciate that we did everything we could
to save his company.''
THE ART OF THE DEAL
It is difficult to believe that anything like a bad deal could ever
cross the desk of Larry Sonsini.
The polished top is piled with sets of legal documents as neat as
decks of playing cards. The
rich green carpet beneath is spotless. The
surrounding leather
chairs and Chinese paintings are modest and perfectly tasteful.
And yet Sonsini apologizes for the mess.
Today Wilson Sonsini Goodrich & Rosati represents more than half of
Silicon Valley's 150 largest
public companies. The firm has more than 600
lawyers
and expects to hire about 60 next year.
A few firms are bigger, ``but none that can throw this kind of
firepower at a business of
any size,'' Sonsini said.
``I work harder now than ever,'' he said.
And making millions of dollars a year has its advantages. Like the
home in Woodside, the Porsche
and Mercedes, the good cigars and the
``little trips away.''
But nothing surpasses the pleasure of being the most sought after
lawyer in Silicon Valley.
``If you are passionate about what you do,'' Sonsini said, ``you are
always trying to perfect your
art.''
SIERRA VENTURES
Founded in 1982, Sierra Ventures is among the largest venture
capital firms in Silicon Valley,
managing more than $500 million in funds.
Sierra is run by four general partners and attracts investors --
called limited partners
-- ranging from university endowments to prominent executives in the
technology industry. The firm
concentrates on investing in health-care and
information-technology startups.
One of its most successful deals was the 1986 financing of StrataCom
Inc., a San Jose telecommunications-equipment
maker that was sold to Cisco
Systems
in 1996 for about $4.5 billion.
WILSON SONSINI GOODRICH & ROSATI
Based in Palo Alto, Wilson Sonsini Goodrich & Rosati represents more
than half of Silicon Valley's
150 largest public companies and last year
earned profits
of $620,000 per partner. Its longtime clients include some of the
best-known names in the technology
industry, from Seagate to Apple to
Hewlett-Packard.
The law firm announced yesterday that it had elected 23 new
partners, bringing the total
number of partners to 140 out of more than 600
attorneys.
Since 1978, the firm has invested in hundreds of startups that it
has taken public.
Stolen
Secrets: Technological breakthroughs are so valuable in Silicon Valley
that
some company executives
are willing to do almost anything to get them
It is a technology so small that it cannot be seen with the naked
eye and yet one so powerful
that it could transform the data storage
industry.
It is a microscopic funhouse of mirrors and silicon crystals that
can bounce a laser beam off
a disk and, eventually, send information to and
from a computer.
It is ingeniously precise - and extremely valuable.
And when inventor Ronald Maynard showed it to five entrepreneurs
gathered in a Milpitas conference
room April 2, 1996, a decade of arduous
research
seemed ready to pay off.
But after months of negotiating a deal for the technology, Maynard
says the entrepreneurs abruptly
told him it belonged to them. When he
protested, their
lawyer threatened legal action, and all negotiations broke off.
One year later, Maynard's deepest fears came true: The entrepreneurs
had based their company on
his technology - and then sold it for $325
million. In cash.
Maynard got nothing.
"I spilled my guts to these guys for many months," Maynard said,
"and I came away with, 'You
back off, or we'll sue you.' "
It is the kind of tale told often in Silicon Valley.
Technological breakthroughs, revolutionary concepts, visions of the
future - intellectual property
is the coin of the realm in the technology
industry. And
high-tech companies are willing to do almost anything to get it, no
matter the boundaries of law
or ethics.
Some of Silicon Valley's most successful companies and executives
have been accused of breaching
confidentiality agreements, stealing secret
documents,
manuals and source codes, and taking proprietary software by hiring
away the engineers who created
it for competitors.
Relatively few cases, though, have ever made it to criminal court,
because they are expensive
and difficult to prove.
"We probably prosecute more of these cases than anyone," said Santa
Clara Deputy District Attorney
Julius Finkelstein, "and we're extremely
selective."
This is the story of three classic cases of alleged trade secret
theft in the high-tech industry:
a billion-dollar empire built on disputed
software; a unique Internet
search engine pirated away engineer by engineer; and a technological
advance potentially so valuable
that one of the most prominent executives
in Silicon
Valley succumbed to its allure.
The story begins in an office park outside Pleasanton, with a man
who signs his e-mails, "DAD."
PEOPLESOFT: THE BILLION-DOLLAR EMPIRE
Get past the white hair, the comfortable grin, and the peppy voice
and attitude, and there's still
the love for stray cats and dogs and the
five adopted children at
home.
Few would dispute that David A. Duffield is a caring man. And
PeopleSoft, the Pleasanton
company he founded in 1987 and ran until going
part time a few
months ago, reflects his relentlessly sensitive style in its
culture, which employees typically
compare to a family.
But the origins of the company were anything but mom and pop - and
Duffield is far from a pushover.
PeopleSoft was born of a protracted battle over software - computer
programs that Duffield allegedly
stole from his previous startup and made
the foundation
of a new company he eventually guided to more than $1.3 billion in
annual revenue.
PeopleSoft and Duffield "have had a long record of success," said a
former executive of Integral
Systems Inc., the company Duffield left
behind. "But we
believe they did not have an honorable beginning."
Growing up in Ho-Ho-Kus, N.J., Duffield got his first taste of sales
by selling Christmas cards
and gladioli door-to-door. He also excelled in
math, and
after entering Cornell University, he "fell in love with
programming" computers, he
says. In 1963, he earned electrical engineering
and business degrees
from Cornell and began selling computers for International Business
Machines. He was content to
spend his career at IBM until a co-worker
hooked him on
developing a computer program for scheduling final exams at
universities.
Duffield spent his weekends selling the program, and demand was so
strong that in 1968 he and
his colleague left IBM to form their own company,
Information Associates. In 1972 the partners split, and Duffield
founded Integral Systems.
At first, Integral made software to help colleges manage employee
benefits and payroll. Then,
in 1979, it began developing similar programs
for
corporations. In 1984, Duffield helped adapt the programs to
additional operating systems
and databases. And by 1986, its annual sales
topping $55 million,
the company was producing software to manage entire personnel
departments.
But Duffield saw a problem: The programs ran on mainframe computers
rather than on the increasingly
popular personal computers. He wanted to
change the
software once again, but his colleagues balked.
"They said the mainframe business was going well," Duffield
recalled, "and they didn't
want to invest any more."
So he and his wife, also an Integral employee, mortgaged their house
in Blackhawk and raised $2
million in seed money. They then took the chief
technology
officer, a code writer, a technical writer and four other employees
from Integral and, in April
1987, launched PeopleSoft.
STRIKING SIMILARITIES, 1989
The parting, at first, was amicable.
Duffield agreed in writing that Integral owned the software he had
worked on at the company and
that he would never disclose Integral's trade
secrets or other
protected information. The Integral workers who followed him to
PeopleSoft also signed confidentiality
agreements.
But in April 1989, when PeopleSoft's personnel-management program
appeared on the market, Integral
thought it looked awfully familiar.
The organization and flow of information within the programs were
virtually identical, Integral
claimed.
The section that processed payroll - producing checks and tracking
taxes and other deductions
- was similar to Integral's in at least 25
specific ways, said
Integral.
Similarities also existed between the two programs' human-resource
sections, which arranged information
about employees. Integral, for
example, had
arbitrarily combined workers' "skills and languages" on a single
screen. PeopleSoft had done
the same thing.
Finally, said Integral, the programs' security systems - the
mechanisms that limited access
to certain individuals - were not only
identical but shared features
found in no other program.
Integral executives were furious. The company had spent almost 20
years and millions of dollars
developing its product, which cost about
$500,000 to
license and about $1 million to install.
In less than two years, PeopleSoft had created a remarkably similar
product - without documents
to show where it had come from.
On Sept. 10, 1990, Integral sued PeopleSoft for copyright
infringement and trade-secret
theft.
SECRET DOCUMENTS, 1990
Integral's case was simple: PeopleSoft had used Integral's software
as a road map to create a product
with the same look and feel. And though
the program's
code, the language telling a computer what to do, was different, the
directions it gave to the computer
were essentially the same.
Duffield and his colleagues had helped create Integral's program,
and witnesses claimed to have
seen manuals, tables and other secret
Integral documents in
PeopleSoft's offices.
Former Integral and PeopleSoft employee Carolyn Carpeneti, for
example, testified that she
had helped create PeopleSoft's human-resource
software by
copying a confidential Integral manual she got from Duffield's wife,
Cheryl.
She acknowledged that she had known the manual was secret because
Cheryl had told her "to be
sure to lock it up in my desk when I go home at
night. . . .
She said nobody should see me using it."
Cheryl Duffield has denied giving Carpeneti a copy of the Integral
manual.
But Integral's evidence would not persuade U.S. District Judge D.
Lowell Jensen in Oakland to
issue a preliminary order blocking PeopleSoft
from selling its
software.
On July 19, 1991, Jensen ruled that Duffield and his colleagues at
PeopleSoft clearly had access
to Integral's software and supporting
documents. But
Integral had failed to prove the two programs were alike.
Integral's biggest mistake: Hiring management consulting firm KPMG
Peat Marwick as a technical
expert. Experts were crucial in such a complex
case, the
judge said, and Peat Marwick's performance was "seriously flawed."
For example, the firm had compared
only similarities between the companies'
programs, not shown significant differences, and then had tried to
conceal its mistake.
Jensen also said Integral was sloppy in protecting its secrets,
having shown prospective customers
how its software worked. And some of the
company's
purportedly secret information had already leaked out to the
industry. So the judge refused
to issue an order that, in effect, would
have put PeopleSoft out of
business.
Integral pursued the case for almost five more months. On Dec. 13,
1991, PeopleSoft agreed to
settle for approximately $1 million - with no
admission of
liability.
KILLING THE ENEMY, 1992
For PeopleSoft, the amount would soon seem trivial.
The company's timing had been perfect: As it was introducing its new
software, the market for personal
computers and so-called client-server
systems -
which connect PCs to a central computer - was exploding.
In November 1992, the company sold stock to the public and began
minting stock-option millionaires.
By 1994, revenues were $113 million.
Four years
later they were up to $1.3 billion.
Last year, Duffield's stock alone was worth about $2 billion. He had
so much money that his family
foundation gave more than $200 million to end
the
killing of unwanted dogs and cats. And even after an industry
slowdown late last year sent
PeopleSoft's shares plummeting, the company,
with a workforce
almost cultlike in its loyalty, was the envy of corporations
throughout the nation.
Integral, meanwhile, never caught up.
Its plans to go public fell through. It didn't release a
personnel-management program
for personal computer networks until 1993. The
next year, CSA
Holdings Ltd. in Singapore bought a majority of the company and
today owns 80 percent of the
stock.
Although Integral touts itself as an industry leader, the company
has only 96 employees, and
sales of just $45 million last year make it a
distant rival to
PeopleSoft.
"We became a little too successful," said Duffield in explaining why
Integral sued PeopleSoft. "I
think the (Integral) CEO was embarrassed
because the sales
force complained that customers wanted this fancy new (PeopleSoft)
technology more than the mainframe
stuff."
But there is a saying around PeopleSoft, a sort of motto, according
to Duffield. It goes, "Have
fun, kill the enemy."
NETSCAPE: THE PURSUIT OF GURU
Michael Kahn's childhood dream was to be Albert Einstein.
The fantasy would inspire him to design nuclear reactors and,
eventually, sophisticated high-tech
devices. It would not, however, prepare
him for the
cutthroat tactics that stripped his company of engineers and trade
secrets.
Kahn grew up in Springfield, Mass., and studied nuclear physics at
Rensselaer Polytechnic Institute
and Carnegie Melon University. He first
worked at
Westinghouse creating nuclear reactors for the U.S. Navy, a job he
would have enjoyed but for
the hours.
"The odd side effect of working on secret projects was you had to
leave at 5 p.m.," he said.
"I left the company so I could work harder."
He attended Stanford University business school, graduating in 1979,
and worked for several Silicon
Valley companies with products ranging from
image
processors to nuclear medical equipment to an
artificial-intelligence system
for drafting legal documents. At most of the
companies, he was an executive
rather
than an engineer because, he said, "In Silicon Valley, the truth is
that engineers are treated
like fodder."
In 1992, Kahn turned full time to MicroGuild Inc., his own
consulting firm. His plan was
to use the profits from MicroGuild to develop
a database search
engine, software that would soon drive the expansion of the Internet.
Kahn hired a team of top-notch engineers, and within three years he
had created Guru. Unlike other
search engines, Guru could tell the
difference among
legal, medical and other types of documents and thus avoid wasting a
user's time with irrelevant
information.
It did not take long for word of Guru's unique features to spread
through the valley, and in
July 1995, Kahn got a call from Netscape.
SEDUCING THE ENGINEERS, 1995
Netscape had been in business for about a year and had just released
its first product: Netscape
Navigator, software for browsing Web pages. But
the
company was dissatisfied with its Internet search engine and wanted
to hear more about Guru, according
to court documents. During a meeting
with Kahn
and his chief engineer, Rick Henderson, Netscape's Mike Holtz and
Mike Barbarino floated the
idea of buying MicroGuild. Barbarino, who had
worked with
Henderson before, encouraged him and MicroGuild to consult for
Netscape on a few projects.
Kahn and Henderson were intrigued. They had heard that Netscape
planned to grow by acquisition,
and selling Guru to a big Internet firm
seemed to make
sense financially.
Little did they know how big Netscape would become.
On August 9, the company sold 5 million shares of stock in one of
the high-tech industry's most
spectacular initial public offerings. The
company that had
never turned a profit was suddenly worth $2.3 billion, and Kahn and
Henderson were eager to make
a deal.
In January 1996, MicroGuild sent Henderson to help Netscape on a
project. The results were so
impressive that Netscape hired MicroGuild
again in March.
Meanwhile, the companies continued to discuss an acquisition.
Netscape Vice President Ira
Scharfglass allegedly told Kahn that the
company usually bought
startups just to get their top engineers - but MicroGuild could
expect a premium price because
it also had great technology.
In June, negotiations heated up. With an increasing unhappiness over
its search engine, Netscape
Vice President Bill Turpin allegedly asked what
MicroGuild
was worth. MicroGuild responded with an estimate "in the low tens of
millions," and Turpin responded
by ordering his technical and marketing
managers to
start testing Guru.
Over the next several months, after signing a confidentiality
agreement, the companies modified
Guru to run on Netscape's system.
MicroGuild dropped all
other work, and in August the sacrifice seemed worthwhile: Netscape
declared that in many ways
Guru was superior to its current search engine,
according to
court documents.
Then, without warning, negotiations stalled. And in September,
Netscape hired away two MicroGuild
engineers.
COOPERATION COLLAPSES, 1997
Kahn was worried. He asked Turpin if the deal was dead, and,
according to court documents,
Turpin assured him that it was still alive,
even requesting
specific terms for a sale.
About the same time, though, Netscape hired a third engineer from
MicroGuild.
On November 13, Kahn protested the hiring, and Turpin allegedly
promised not to take any more
engineers. Kahn then proposed that Netscape
buy
MicroGuild for $12.5 million, and, according to court documents,
Turpin said the best time for
an acquisition would be early 1997.
The two companies continued to work on projects together, but in
June 1997 all pretense of cooperation
collapsed. That month, a fourth
engineer left for
Netscape. Another followed in July and one more in September.
By fall, MicroGuild had no engineers left - and no way to stay in
business. Worse, it had given
Netscape the source code for Guru and was
frantic to get it
back.
But Netscape, with quarterly revenues of more than $150 million, was
no longer interested in negotiations
of any kind.
On May 15, 1998, MicroGuild sued, charging Netscape with violating
the confidentiality agreement,
stealing trade secrets, interfering with
employee
contracts and committing fraud. The case is scheduled for trial next
year.
Netscape has declined to comment.
Guru, meanwhile, is in limbo.
Netscape says it never used Kahn's search engine. Kahn says he has
tried to sell it, but "having
lost our key developers to Netscape, it's
pretty tough to sell
just a piece of code."
THE NEXT DISK DRIVE
When Ron Maynard was young, the workshop behind the family home in
Tampa, Fla., wasn't just a
place to pound nails and build toy boats with
three
brothers and a sister. It was a laboratory, a proving ground for the
skills and inspiration that
25 years later would attract big money in
Silicon Valley.
Inventing was in Maynard's bones.
Maynard's mother dabbled with inventions and passed down to him the
family recipe for gunpowder.
Her father invented products for the American
Thermos
Bottle Co. Her grandfather invented artificial diamonds.
As a child, Maynard had to invent his own toys. After settling in
Tampa, he built rockets and
telescopes with home-ground lenses.
"I used to look at the moon," he said, "and think, gee, that's where
I want to go."
In 1978, his passion for space drove him to the University of
California at Berkeley and
a major in space science. He alternated school
with work at NASA in
Houston, and while there he filed his first patent, a design for a
fluid-based gyroscope.
After graduation and two more years at NASA, Maynard received a
post-graduate scholarship to
Stanford University in 1985. He studied
micromachining,
the process of creating microscopic devices through chemical and
electronic means.
Over the next seven years he would become one of the few experts in
the field, working on a doctorate
and a thesis about his controversial
data-storage
device.
Then, in 1992, he encountered the harsh world of high-tech finance.
During his research on micromachining, Maynard had developed an
electronic wrapper for endoscopes:
thin, lighted tubes used to examine
internal organs.
The wrapper contained electronic muscles that received electronic
signals for steering the endoscope.
The technology drew raves, and a prominent venture capital firm in
Menlo Park begged for a detailed
demonstration. After Maynard showed the
firm's
partners how the device worked, they offered funding for a startup
to produce it.
Maynard was ecstatic - until he read the fine print. The deal called
for the venture capital firm
to get 6 million shares in the new company,
while he would get
a paltry 5,000, Maynard said. Worse, if Maynard didn't proceed with
the deal, the venture capital
firm threatened to take the technology
anyway.
"It was either, you play ball, or you get crushed under the wheels,"
Maynard says.
So Maynard gave his technology patents to Stanford and dared the
venture capital firm to try
to get them. The firm retreated, and Maynard
would eventually
get them back.
BROKEN PROMISES, 1996
A few years later, Maynard started a new company - Microdomain - to
develop micromachined devices.
And in March 1996, he got a call from a Stanford University
researcher named Jeffrey Wilde.
Wilde and three other entrepreneurs had founded Quinta, the latest
in a long line of companies
trying to create the next-generation disk
drive, the vital data
storage unit in most computers.
In April, Maynard squeezed into a car with Wilde and Quinta
co-founders Joseph Davis and
Steven Kitrosser, and they headed for the
Milpitas offices of
Read-Rite Corp., a maker of magnetic disk-drive heads and an
investor in Quinta.
From the moment Wilde had called, Maynard had stressed that his
techniques and designs were
absolutely confidential. And in the car,
Maynard harped about
secrecy, making everyone promise to abide by the terms of a mutual
nondisclosure agreement he
had with him.
So Davis signed the agreement on behalf of Quinta, and Maynard
signed on behalf of Microdomain.
But Maynard didn't stop there. The law firm of Wilson Sonsini
Goodrich & Rosati had been
giving him patent and contract advice for years,
and he was
well-prepared. So when the four met Read-Rite officers Steve Stone
and Peter Bischoff in the Milpitas
conference room, Maynard extracted their
promises to
keep whatever he showed them confidential.
Only then did Maynard sit down to talk.
During the next few hours, Maynard and the others discussed what
they could do for one another.
Quinta's goal was to make disk drive heads so small and precise they
could read even the most densely
packed data from a disk. And it wanted
Maynard's
help.
Maynard says he showed Quinta his micromirrors and a high-level head
design and diagrammed his technology
on a large white board.
About a dozen more meetings followed.
But on June 18, without warning, Davis allegedly told Maynard that
the technology was a co-invention.
Maynard was furious. He had spent much of his post-graduate
education developing and refining
the technology and was finally writing
his doctoral thesis to
describe it. To lose it now - to forfeit "all my early years," he
said - would be unthinkable.
Maynard strongly protested Davis' claim, and after several weeks of
bickering, the parties met
July 16 to try and patch things up. But when
Maynard realized
that Quinta's patent lawyer was at the meeting, he walked out,
shocked at what he contends
was another attempt to steal his designs.
A few days later, Maynard says he called Petri Vainio, a partner at
a venture capital firm called
Sierra Ventures who had heard Maynard pitch
the endoscope
wrapper. He confided his suspicions, and Vainio promised to speak
with his partner, Jeffrey Drazan,
who was overseeing Sierra Venture's
investment in
Quinta.
But when Maynard called later, he says Vainio refused to interfere
with a partner's deal and advised
Maynard to "get a good lawyer."
Negotiations broke off, and on Oct. 14, 1998, Maynard sued Quinta,
its founders and Sierra for
trade-secret theft.
Quinta disputes Maynard's version of the facts in a cross-complaint
the company filed in March,
saying Maynard never disclosed any useful
information and
that his head design was "unworkable." The company contends Maynard
stole and patented its design
for a disk-drive head and says it offered
Maynard a job
but that he refused. Drazan, whose name appears on a patent
involving the disputed technology,
dismisses the meetings between Maynard
and Quinta
founders as a prolonged job interview.
"He interviewed for a position at Quinta," said Drazan, "and if he
had some proprietary idea,
a job interview was not the place to show it."
SHUGART'S GAMBLE, 1997
Quinta soon began to boast that its breakthrough disk drive
technology could transform
the data storage industry.
In only a year of business, the company raised more than $50 million
and attracted corporate investors
such as Seagate Technology.
During the past two decades, Seagate founder and CEO Alan Shugart
had built the company into
the world's largest disk drive manufacturer by
acquiring
state-of-the-art technology. And the more he heard about the
potential of Quinta's device,
the more he wanted it.
On July 2, Seagate announced that it had agreed to buy Quinta for
$325 million in cash and deferred
payments.
"Getting into that technology was important, absolutely," Shugart
said, "and others agreed with
me."
In a press release, Seagate declared that the acquisition of Quinta
would help it maintain its
edge over competitors in the rapidly advancing
disk drive industry.
But the deal was a huge gamble.
For one thing, Quinta didn't have a product that was even close to
being ready for the market.
Without Maynard, the company hadn't been able
to make the
technology work, said Read-Rite's Bischoff.
"We ran into some technical difficulties that were tougher than
anyone thought," he said. "The
technology kind of went nowhere. It was a
disappointment."
At the same time, the patent applications Quinta had filed included
the technology that Maynard
contended was his.
Seagate either didn't know or didn't care. But Seagate's law firm -
Wilson Sonsini Goodrich &
Rosati - was on notice of Maynard's claims,
because the firm
also represented Quinta and was Maynard's regular patent counsel.
At one point, Wilson Sonsini even asked Maynard to waive the firm's
conflict of interest in representing
both him and Quinta, Maynard said, but
after he
refused, the firm concluded that no conflict existed.
Industry reaction to Seagate's acquisition of Quinta ranged from
bafflement to pity.
The head of a rival disk-drive manufacturer said the Quinta
investors "sold Al a pig in
a poke. They conned him."
Even some of Quinta's investors were surprised that Seagate paid so
much.
"I think the Quinta guys were just very good salesmen," said
Bischoff. "They snowed him."
Quinta's founders and investors made millions on the deal. Drazan
says it was one of his most
successful deals at Sierra, emphasizing how he
and the others
held out for cash, even though Seagate was offering a higher price
in stock.
"Seagate stock was up in the 40s, and all the investment banks had
buys on it," he said. "We were
less optimistic."
And for good reason.
Several months later, Seagate's stock plummeted below $20 a share.
"We have some people here," Drazan said, "who are pretty savvy about
the disk drive business."
A LEGEND'S DEMISE, 1998
It was the type of mission that Larry Sonsini had grown comfortable
with.
For 30 years, he had served as legal confidant to elite corporate
boards, trusted with delivering
bad news when the occasion called for it.
But this time, it was different. This time the focus was Shugart,
one of Sonsini's first clients
and closest friends.
Seagate had been in a financial free fall for months. A week after
the Quinta deal was signed,
Seagate announced a 41 percent drop in
fourth-quarter earnings
from the year before. The next four quarters only got worse, with
the company suffering a $530
million loss for the fiscal year.
Shugart had already relinquished the title of Seagate president to
former investment banker Stephen
Luczo - amid assurances that the grand old
man of the
disk drive industry wasn't close to retirement. But then came the
closing of the plant in Clonmel,
Ireland, the 10,000 layoffs and the 10th
position on the Wall
Street Journal's annual list of the 25 worst-performing stocks.
The directors of Seagate had seen enough.
So they turned to Sonsini, the company's outside counsel and perhaps
the only one who could make
Shugart understand what had to be done.
On Saturday, July 18, Sonsini phoned Shugart to ask if they could
meet at Shugart's Carmel office.
"We've always been very honest with each other, very candid,"
Sonsini said. "And if I delivered
the message, it would be clear that this
was not a
negotiation, that this was a decision."
Sonsini arrived in Carmel and greeted Shugart warmly. Then he
delivered the news: Shugart
had been fired from the company he had founded
two decades
ago. The company would give him a $10 million severance package, but
he would have to step down
as CEO and chairman of the board.
Shugart smiles about it now, saying Sonsini "was trying to convince
me that the deal was so good,
I shouldn't make waves."
But Shugart, who had resisted pleas to resign for many weeks, took
the news hard.
The next day, when Seagate's board met to make the firing official,
the directors phoned him on
a conference call. He had just one question: "I
asked them
why," he said.
"And the only thing they said was, 'It's time for a change.' "
QUINTA CORP.
Founded in 1996, Quinta Corp. attempted to create a next-generation
device for reading and writing
information stored on computer disks, but it
never
developed a product.
Seagate Technology bought the company in 1997 for $325 million and
made it a wholly owned subsidiary.
One year later, Quinta was absorbed into
Seagate's research and advanced concepts division.
Today, Quinta's technology is still not in use and, according to a
Seagate spokesman, won't be
anytime soon.
PEOPLESOFT
Founded in 1987 as a maker of personnel-management software,
PeopleSoft has grown into a
dominant supplier of software for managing
finances, human
resources, manufacturing, distribution and other corporate matters.
The company has more than 6,000 employees and in 1998 earned $1.3
billion in revenues.
The past year has been tough for PeopleSoft, which has suffered a
major drop in its stock and
substantial layoffs for the first time. The
downturn is
industrywide but particularly unnerving for a company that has a
house band and refers to its
employees as PeoplePeople.
Beyond
the Law: As the SEC attempts to crack down on improper accounting, a recent
federal court ruling threatens
future investor lawsuits
Many in the audience were expecting a routine dedication speech.
But shortly after Securities and Exchange Commission Chairman Arthur
Levitt began his remarks, a
hush fell over the executives and academics
gathered at
New York University's new Center for Law and Business.
``Too many corporate managers, auditors and analysts are
participants in a game of nods
and winks,'' said Levitt, the former head of
the American Stock
Exchange. ``Managing may be giving way to manipulation. Integrity
may be losing out to illusion.''
Referring to the role of unreliable accounting in the recent Asian
financial crisis, Levitt made
clear what is at stake for the U.S. economy.
``Today, American markets enjoy the confidence of the world,'' he
said. ``How many half-truths,
and how many accounting sleights of hand,
will it take to
tarnish that faith?''
The chairman's ``Numbers Game'' speech in September 1998 was the
opening volley in the SEC's
vaunted campaign against improper and sometimes
fraudulent financial reporting in corporate America. And dozens of
the most prominent companies
in Silicon Valley were among the agency's
targets.
But Levitt and the SEC would soon discover just how difficult it is
to crack down on the financial
abuses thriving in Silicon Valley -- and
just how powerful
high-tech executives have become.
Since the days of the valley's first shoestring startups, the
industry has emerged as one
of the most potent political forces in the
nation's capital. Over the
past
five years, Silicon Valley executives have waged a relentless
campaign to weaken the laws
that regulate them.
In 1995, the executives helped persuade Congress to pass the Reform
Act, landmark legislation that
imposed sharp restrictions on shareholders
suits. Two
years ago, they pressured Congress to pass a law that bars state
courts from hearing class-action
lawsuits dealing with securities fraud.
And earlier this year, their lawyers convinced a federal appeals
court to interpret the Reform
Act so strictly that future lawsuits against
high-tech firms in
Silicon Valley appear to have little chance of success.
This is a story about how the high-tech industry has effectively
shielded itself from the penalties
for financial misconduct
-- and what that means for investors and the future of the financial
markets.
It is about the SEC's heralded crackdown, and how it has failed to
result in any significant legal
actions curtailing financial accounting
abuses in Silicon
Valley.
And it is about what appears to be a classic case of securities
fraud that can't even get into
court.
THE CBT CASE, 1995
The sources were coming out of the woodwork, and San Francisco
attorney Steven Sidener could
hardly believe what they were telling him
about a Redwood
City software-maker called CBT Group.
They mentioned a sales group staffed with so many ex-cons that it
was known as C-Block. They
described a shadow company that siphoned
millions of
dollars into directors' pockets. And they talked of altered credit
card numbers and other tricks
for faking sales.
To Sidener it looked like a textbook case of securities fraud -- and
three years ago, the shareholders'
complaint describing phony accounting
and extensive
insider trading probably would have sailed into court.
But Sidener was worried. The 1995 Reform Act had made it easier for
judges to dismiss securities
fraud cases. Still, the more Sidener learned
about the
actions of top CBT executives, the more he was convinced that if any
case could meet the new standards,
this was it.
MAKING HIS MARK, 1997
CBT's chief executive officer is Gregory Priest, a former attorney
at Wilson Sonsini Goodrich
& Rosati, the most powerful law firm in Silicon
Valley.
Raised in Los Gatos, Priest graduated from Princeton University and
then Stanford Law School.
In 1990, Priest joined Wilson Sonsini Goodrich & Rosati and quickly
took to heart partner Larry
Sonsini's mantra: Think like business people.
Priest grew
particularly close to one corporate client, CBT Group. On Nov. 22,
1995, just days after making
partner at Wilson Sonsini, he left the firm to
become CBT's
chief financial officer.
CBT made software that taught people how to use computer programs.
After Priest arrived, it acquired
six firms and extended its run of record
revenues to 14
quarters. But Priest wanted to lead a company of his own, and he was
growing restless.
So in December 1997, he left CBT to become the chief executive
officer of a company called
Knowledge Well.
Ostensibly, CBT and Knowledge Well were independent companies. But
Priest remained a director
of CBT, and William McCabe, who founded CBT and
Knowledge Well, served as chairman of both companies.
The companies' ties went even deeper, though, and those ties quickly
led to trouble, according to
former employees. Knowledge Well's goal was to
create
interactive computer programs for earning degrees from accredited
universities. But many schools
balked because professors would not grant
credit for a
course in which they played no active role, former employees say.
When the company started to struggle, Priest, McCabe and other top
CBT officials kept it afloat
by diverting resources and millions of dollars
from CBT to
Knowledge Well, according to former employees and court records.
The secret practice went on for months, propping up Knowledge Well
even though the company was
far from developing an accredited program for
the
market.
And former employees at both companies say that was just one of many
reasons they had to question
the executives' conduct.
``They (Priest and McCabe) felt they were above the law,'' said a
former CBT manager. ``They
were so arrogant they felt they could get away
with
anything.''
PRESSURE TO PRODUCE, 1998
Meanwhile, CBT was headed for trouble of its own. Competitors were
cutting prices. The sales staff
complained that customers were rejecting
CBT's
standard three-year license deals because they didn't want to pay
for software in advance. Sales
were down, and renewals were off, according
to court
records.
Although company executives assured the market that business was
booming, they created an internal
task force to investigate the company's
financial
troubles. They also boosted sales commissions to help increase
revenues.
And on March 17, CBT announced that it would pay $150 million to
acquire a Florida competitor
called The ForeFront Group Inc.
ForeFront sold its training software by phone with an aggressive
staff of about 175 telemarketers,
including one high-performing
group nicknamed ``C-block'' or ``cell block'' because a number of
ex-felons worked there, former
employees say.
When CBT took over, the pressure on ForeFront to increase sales grew
even more intense.
According to former employees and allegations in court documents,
the sales people created phony
invoices by altering customers' credit card
numbers and
sending orders from one fax machine to another in the same office.
They booked revenues on products
still being developed and on duplicate
copies of sales
invoices. They shipped defective products that eventually were
returned, but they never recorded
the returns.
``My whole thing was, I know CBT is here, and I know what they want,
so let's give it to them,''
said a former employee.
And while publicly proclaiming that CBT's sales were higher than
ever, Priest, McCabe and other
company officials began unloading millions
of their CBT
shares at near-peak values.
On April 14, the company announced ``record'' revenues of $34
million for the first quarter
of 1998, up 51 percent from the first quarter
a year earlier. Two
days later, Priest, McCabe and other company officials sold more
than $13 million worth of company
shares.
On July 14, CBT announced another ``record'' quarter, and two days
later, Priest sold more than
$1.2 million worth of shares, missing the
all-time high
price by only 50 cents.
Sidener was convinced that the timing of the officials' share sales
was more than a coincidence.
If that wasn't insider trading, he asked
himself, what was?
PLUNGING SHARE PRICES, 1998
For CBT, it all fell apart in a hurry.
On Oct. 1, 1998, CBT announced that the company's revenues were down
by one-third from the previous
quarter.
Within hours, CBT shares plummeted to 9§ from the July high of $63,
costing investors, mutual funds
and pension plans millions of dollars.
On December 9, CBT announced that Priest had returned to the company
as president and CEO. The next
day, CBT announced that it had agreed to buy
Knowledge Well.
Under the deal, Priest and McCabe received $60 million worth of CBT
shares -- even though Knowledge
Well still didn't have a product and had
run up
millions of dollars in losses in the two years since its founding.
Priest defends the acquisition of Knowledge Well. ``Ninety-nine
percent of the shareholders
voted in favor of the deal, and when it was
announced, CBT
shares went up $4,'' he said.
He contends that the sudden downturn in CBT's business ``surprised
management'' -- even though
McCabe had told employees during an October 1
phone
call, ``We knew some time ago that we had problems.''
Priest also says there were ``no mistakes in booking revenue.''
But many shareholders were outraged. On their behalf, Sidener filed
a class-action lawsuit accusing
Priest, McCabe and other company executives
of lying to
shareholders and trading on inside information.
Filed Nov. 24, 1998, the complaint was full of details -- more than
enough, Sidener thought, to
satisfy any court.
But he knew that no matter how good his case against CBT, its fate
depended on the outcome of
another lawsuit before the U.S. Court of Appeals
in San
Francisco.
A NEW ERA, 1999
The suit was called Silicon Graphics.
It was the first class-action in California to test the Private
Securities Litigation Reform
Act of 1995, the federal law Silicon Valley
executives helped push
through Congress to limit securities fraud suits.
Sidener worried that if the appeals court upheld a strict
interpretation of the law,
as high-tech industry lawyers were advocating,
the case against CBT -- and
scores of other companies accused of securities fraud -- might never
stand a chance.
The Silicon Graphics case had been filed in January 1996 by
plaintiffs' attorney Bill Lerach.
It accused company executives of
misleading investors by
overstating the company's financial prospects. It also accused the
executives of profiting from
their alleged lies by selling millions of
dollars worth of
company stock.
But in May 1997, U.S. District Judge Fern Smith dismissed the
complaint, ruling that it didn't
contain sufficient detail to satisfy the
Reform Act's strict
pleading standards.
When Lerach appealed, he received help from a powerful ally: the
Securities and Exchange Commission.
In a supporting brief, the SEC argued
that Smith's
interpretation of the Reform Act was so severe that it would
``create a bar to meritorious
claims.''
The agency urged the appellate court in San Francisco to overrule
Smith, reminding the judges
that their decision would ``have a significant
impact . . . on the
federal securities laws' protection of investors.''
But the appeals court refused.
On July 3, 1999, a three-judge panel affirmed Smith's
interpretation, breaking with
two --
soon to be four -- other federal appeals courts and creating a
standard that plaintiffs' lawyers
and the SEC believed would be all but
impossible for aggrieved
shareholders to meet.
``It's a license for any judge with a predisposition against
investors to dismiss any complaint,''
said Lerach, ``no matter how well
pled, no matter how
meritorious.''
The appeals court ruling worried Sidener, but he still felt
optimistic about the CBT case.
The appeals court had dismissed the Silicon
Graphics complaint
because shareholders had not provided enough detail to show that
company executives knew their
public statements were incorrect.
But the perfect timing and the staggering volume of insider trades
at CBT, the evidence of blatantly
phony sales at ForeFront -- and McCabe's
statement that
``we knew some time ago'' -- were more than enough, Sidener thought,
to show that CBT's upbeat public
statements were lies. ``These guys unloaded
massive shares right before the bad news,'' Sidener said. ``That
should have been enough by
itself.''
But it wasn't.
Less than three weeks after the appeals court decided the Silicon
Graphics case, U.S. District
Judge Ronald Whyte in San Jose dismissed the
CBT complaint.
``A lot of firms,'' said Sidener, ``think this area (of the law) is
finished.''
On October 4, Sidener refiled the CBT complaint anyway.
AN OLD ENEMY, 1999
The decision in the Silicon Graphics case was only the latest defeat
for Lerach, the lawyer whom
high-tech executives had demonized as the
``prince of
darkness.''
Less than two months earlier, he had suffered a humiliating personal
blow when a Chicago jury ordered
him and his law firm to pay an old nemesis
$45
million.
The events leading to the verdict began in 1989 when Lerach and
other lawyers, representing
thousands of bondholders, sued Charles Keating
and Lincoln
Savings & Loan for fraud.
A year later, Lerach added an economics consulting firm called
Lexecon Inc. and one of its
principals, Daniel Fischel, as defendants.
Lerach says he sued
them because they had once assured regulators that Lincoln was
financially sound.
In subsequent lawsuits against Apple Computer and other companies,
Lerach and his colleagues attacked
Fischel and undermined his testimony by
calling
him the ``crook'' who ``helped Lincoln Savings,'' according to court
transcripts.
The tactic proved so effective that many firms stopped hiring
Fischel. So in 1992, Fischel
sued Lerach and his law firm for slander and
abuse of the legal
process.
The case went to trial last March, and from the outset of his
testimony Lerach was his own
worst enemy, quibbling over attorneys'
questions and often
annoying the judge.
But the case may have turned on Lerach's own words: Colleagues
testified that Lerach said
he had added Fischel to the Lincoln case
``because I want to put
the little f---er out of business.''
Although the judgment was $45 million, Lerach and his firm quickly
settled for $50 million to
avoid paying even more if the jury assessed
punitive damages.
It was a devastating comeuppance for one of corporate America's
greatest enemies.
Today, in his San Diego office, he can barely discuss the case.
He sits silently for several moments, then tersely comments, ``It
was an acrimonious and hard-fought
trial.''
The only thing that may have hurt Lerach as much as the amount of
the award was the unconcealed
delight the nation's corporate executives
took in his
having to pay it.
And no one was more amused than Alan Shugart, founder and former CEO
of Seagate Technology -- and
the focus of four Lerach lawsuits.
``It couldn't happen to a nicer guy,'' he said.
THE SECURITIES AND EXCHANGE COMMISSION, 1998
Lynn Turner knew exactly what was going on.
And that was what SEC Chairman Arthur Levitt was looking for in July
1998 when he brought Turner
to the agency's Washington headquarters.
In recent years, the job of protecting investors from securities
fraud had fallen almost solely
on the SEC.
The Reform Act and a second bill passed by Congress in 1998 barring
shareholder suits in state
courts effectively shielded corporate executives
from any
legal action brought by investors.
And federal prosecutors had filed only a handful of criminal cases
against Silicon Valley executives.
Turner, a former partner at Coopers & Lybrand in Denver, one of the
nation's largest accounting
firms, had specialized in high-tech auditing
for 15 years. He
then served two years as chief financial officer of Symbios Logic
Inc., a Denver semiconductor-chip
maker.
When Levitt tapped him to become the SEC's chief accountant and lead
the agency's campaign against
accounting abuses, he was more than prepared.
``When I got here,'' he said, ``I knew exactly where to look. I knew
exactly how people were playing
the game and what was happening.''
Turner was particularly concerned about the ``astronomical'' number
of research and development
write-offs that high-tech companies were taking
when they
acquired another company.
The write-offs allow a company to set a value on the research and
development in process at the
companies it acquires -- and then to deduct
it from the bottom
line as a one-time charge.
And Turner knew that many companies were grossly inflating the value
of the ``in process'' R&D
they acquired. One company, for example, claimed
R&D
write-offs for products that were already in the marketplace winning
awards.
Many write-offs take place in a gray zone, where accounting rules
are flexible. But in some cases,
executives were using the write-offs to
boost future
earnings and mask their company's fundamental weaknesses.
``Even the (Wall Street) analysts can't see what's really going
on,'' Turner said.
And the questionable accounting practices were spreading.
``I've had one major player in Silicon Valley tell me that in the
last month, based on what he
has seen, he doesn't know if there has been a
single decent
(R&D) valuation in the valley,'' Turner said.
So Turner and other top SEC officials quickly singled out suspect
companies, including AOL, Compaq,
and other prominent firms.
In January, the SEC sent letters to 150 companies, notifying them
that the agency intended to
review the billions of dollars they had claimed
as R&D
write-offs, as well as other suspicious accounting charges.
It wasn't long before one of those letters arrived at the Santa
Clara offices of a security
software company called Network Associates.
ROLLING THE DICE
Network Associates was run by William Larson, a hard-charging
executive who had raced cars
and created a business motto: ``Drive fast --
take chances.''
The Massachusetts native graduated from Harvard and earned a
master's at Wharton School
of Business by the age of 22. Three years later
he left Stanford
with a law degree.
He worked as a top sales executive at Sun Microsystems until 1993,
when he left to run McAffee
Associates, a small antivirus software firm.
At the time, the 4-year-old company was so tiny it was distributing
its software on computer bulletin
boards, trusting its users to mail in the
sales payments.
Its annual sales totaled $20 million. Its staff numbered 40.
But Larson had bigger plans.
In 1994, he bought a New Jersey network tools developer, then a
company called Automated Design
Systems. He spent $91.8 million to acquire
another
company the next year. In 1996, Larson bought three companies, then
eight more the next year.
But none of those acquisitions compared with the blockbuster deal
Larson pulled off in October
1997 -- a $1.3 billion bid for Network
General, a Menlo Park
software company.
The company that emerged -- with 1,600 employees and $600 million in
revenue -- was dubbed Network
Associates, and Larson was its chairman and
CEO.
``I could have left McAffee alone,'' said Larson. ``But we put that
all back on the craps table
and said: `Let's roll the dice again and go to
the next level.' ''
And Larson's buying binge was far from over. The next year, he spent
nearly $1.5 billion to acquire
10 more companies. Many of the purchases
were paid
for with Network Associates' stock, but others were made with cash,
enabling the company to take
multimillion-dollar R&D write-offs.
The strategy paid off handsomely. Network Associates was soon one of
the leading software companies
in the world, with each purchase broadening
the
company's stable of encryption, antivirus, network management and
security products and services.
And its stock price soared.
RUMOR AND DENIAL
In late 1998, Internet chat lines buzzed with rumors that the
rapid-fire purchases, inflated
acquisition charges and other questionable
accounting practices
concealed weaknesses in Network Associates' overall performance.
In early September, when the company's stock began to slump, a
furious Larson promptly called
a phone conference with financial analysts
to defend the
company.
``The numbers in our write-offs are squeaky clean,'' he insisted.
``Those who believe (in Network
Associates) have been richly rewarded in
the past,'' he
said, referring to the value of the company's stock, which had
multiplied nearly 15 times
over five years. ``And they will be richly
rewarded in the future.
And I'm one of them.''
The next day, Network Associates' stock price shot up 9.2 percent.
Later that month, the company made its last acquisition, buying a
diagnostic software company
called CyberMedia for $131 million -- and
writing off an
astounding 93 percent of the acquisition's cost as in-process
research and development.
THE BIG BANG, 1999
For Larson, it was the ultimate marketing moment.
On April 5, future Hall of Famer Roger Clemens was set to take on
the Oakland A's at what is
now called Network Associates Coliseum.
The company had paid $5.8 million for the right to put its name on
Alameda County's outdoor sports
stadium, and Larson had invited 500 people
to the
Arena's Plaza Club next door for a special pre-game event.
To herald the occasion, he had issued 13 different press releases
and placed full-page ads in
newspapers. The 42-year-old executive beamed as
he gazed out
at his guests, including Oakland Mayor Jerry Brown and
representatives from Microsoft
and Hewlett Packard and Sun Microsystems.
After introducing a
new suite of management and security products, Larson christened the
stadium ``The Net.''
``We are opening the 1999 baseball season with a bang,'' he said.
But for tens of thousands of Network Associates shareholders, the
big bang would come the next
day.
On April 6, word got out that the SEC's review would force Network
Associates to restate its 1997
and 1998 earnings.
That same day, 21 million shares changed hands
-- seven times the stock's daily average. The company's stock value
plunged 25 percent, costing
shareholders hundreds of millions of dollars.
In a hastily arranged telephone conference after the markets closed,
Larson acknowledged that Network
Associates had settled with the Securities
and
Exchange Commission. The company had agreed to erase more than $214
million in R&D charges
written off during the past two years and to
subtract the
charges from future earnings instead.
For five straight years, Network Associates had reported steady
earnings growth and had exceeded
Wall Street estimates.
Now Larson reported that the company's profits for the first quarter
of this year would fall 38
percent below earlier projections.
The news would only get worse.
Two weeks later, Larson announced that the company's revenues in the
second quarter would fall to
almost zero -- a drop of nearly a quarter of a
billion
dollars --
as the company cleared out unsold inventory.
Larson blamed the sales slowdown on customer concerns about Y2K and
longer sales cycles for the
company's complex new products.
The next day, the company's stock dropped an additional 27 percent.
From a high of $66 on
January 1, Networks Associates' stock price had plummeted to $10 a
share. In just four months,
the company's market value had plunged from
$9.2 billion
to $1.4 billion.
Security analysts -- most of whom had touted Network Associates as a
strong growth stock -- were
in shock. Larson had lost all credibility with
Wall Street.
On Internet message boards, Larson was vilified as a ``snake oil
salesman,'' and shareholders
soon filed dozens of lawsuits accusing him of
securities fraud.
Larson would later say the criticism ``only makes me more motivated.''
And he dismissed the SEC investigation with a wave of his hand.
``It didn't change our revenue numbers,'' he said. ``It just changed
the accounting.''
THE CRACKDOWN, 1999
It was not a coincidence.
On September 28, exactly a year after Levitt called for an
aggressive crackdown on improper
financial reporting, the SEC proudly
announced that it had taken
enforcement actions against 68 people at 15 public companies, mostly
for schemes that falsely inflated
the value of their companies' revenues.
Only 11 were chief executive officers. The best-known was Fran
Tarkenton, a former NFL quarterback
and television personality. Tarkenton,
head of an
Atlanta software company, had agreed to pay a $100,000 fine but
admitted no wrongdoing.
The rest worked at small companies in Illinois, Florida, Virginia
and elsewhere.
None of the executives or companies were from Silicon Valley.
During the past year, Network Associates and more than 40 other
companies have reversed write-offs
and restated earnings as a result of
pressure from the
SEC.
But the agency has filed no charges against Network Associates or
the other 149 companies targeted
in January. The agency declines to say
whether any
enforcement action is planned.
Today, more than a year after Levitt's dramatic speech at New York
University, the SEC says the
150 letters it sent out in January were
intended for guidance
only.
``No agency can eliminate all fraud,'' said Levitt. ``It's a
cultural change we are seeking.''
THE DROP ZONE, 1999
It had been a tough year for Network Associates, but Larson had done
well for himself.
Last year, when his company's stock was soaring, he cashed in $20
million in stock options. He
also took home salary and bonuses worth nearly
$1 million.
His total compensation package ranked him among the 10 highest-paid
executives in Silicon Valley
for the third year.
But now it was time to face the shareholders.
At the company's annual meeting at the Marriott Hotel in Santa
Clara, Larson told the investors
that he often looks out the window of his
11th-floor office at
Great America's ``Drop Zone,'' a 224-foot-high thrill ride that
offers a terrifying 3 G's drop.
When the bottom fell out of Network Associates' stock, he joked,
``that's what it felt like
for me all the way down.''
Only a few shareholders laughed.
EPILOGUE
On a muggy day in early June, a group of high-tech executives made
the rounds in Washington, D.C.,
led by pre-eminent Silicon Valley venture
capitalist
John Doerr, the financial midwife to Cypress, Netscape, Sun
Microsystems and many other
high-tech enterprises.
Earlier that day, the group met with Vice President Al Gore's staff
and House Democrats to lobby
for a laundry list of legislation, ranging
from bills to
preserve research and development write-offs to proposals for
shielding high-tech companies
from lawsuits involving Y2K breakdowns.
Then the executives sat down with nine Senate Democrats in the
Capitol Hill conference room
of Sen. John Kerry, D-Mass.
Most of the senators knew Doerr, a longtime adviser to Gore and a
major contributor to Democratic
Party candidates. But they were unprepared
for the
blistering tirade he delivered.
In May, Kerry had drafted a bill to protect businesses from
frivolous Y2K lawsuits while
preserving the right to sue for damages caused
by Y2K computer
problems.
But Kerry's bill, which failed to pass, did not go nearly far enough
to satisfy Doerr and the other
executives. They wanted the senators to
support a bill by
Sen. John McCain, R-Ariz., that provided much stronger legal
protection for the technology
industry.
Doerr made it unmistakably clear that they were ``either with
Silicon Valley or with the
trial lawyers,'' said one staff member familiar
with the meeting.
The senators were stunned, he said. ``Don't forget, these were
Democrats who had been there
for Silicon Valley, who had sponsored all
kinds of legislation
favorable to high-tech.''
Another staff member was equally astonished.
``Anyone else would have been ushered out of the room,'' he said.
``But high-tech is now so powerful
they can get away with it.''
Three weeks later, on July 1, McCain's Y2K bill -- with some
consumer protections added
at the last minute by the Clinton administration
-- passed by an
81-to-18 vote in the Senate. The margin was even greater in the
House, where the bill passed
404 to 24.
-- -- --
The same day, Texas Gov. George W. Bush delivered a rousing speech
before 500 high-tech executives
who had paid $1,000 each for the event in
Palo
Alto.
It was Bush's first official visit to Silicon Valley as a
presidential candidate, and
he touted his support for a roster of issues
close to his listeners' hearts.
Bush said that he would ``take the side of innovation over
litigation every single time,''
and that government regulation should not
be used to strangle
initiative in the high-tech industry.
Silicon Valley, he proclaimed, ``speaks to the spirit of America . .
. and the ultimate American
dream.''
-- -- --
Across the country, in Lafayette, LA, Charles Pollock lay in bed,
unable to speak as a result
of a stroke he suffered five years ago.
In the early 1980s, the 71-year-old former petroleum engineer had
invested in Seagate Technology,
trying to prepare for his retirement. When
the stock
crashed in 1984, Pollock lost $544.99.
The loss might not seem like a lot, said his wife Diane, who has
been forced sell some of the
family's possessions to meet her husband's
mounting medical
bills. ``But to us back then it was,'' she said. ``We really need
the money now.''
REFORM ACT
The Private Securities Litigation Reform Act of 1995 was designed to
limit class-action lawsuits
for federal securities fraud.
It makes filing the suits more difficult by requiring shareholders
to show in specific detail
that company officers intended to defraud
investors. Federal courts
in California have interpreted the act to require more detail than
other courts have. The Reform
Act requires courts to choose a class
action's lead plaintiff,
usually a shareholder that owns the most stock. The act also shields
companies from suits over statements
about the future and makes each
defendant liable
only for its share of wrongdoing.
THE SECURITIES AND EXCHANGE COMMISSION
The SEC's San Francisco office has filed nine financial fraud and
insider trading cases this
year. Two cases allege misconduct by auditors
and executives in
the California Micro Devices case.
In two other cases, Insignia Solutions, a Fremont software firm, was
accused of overstating revenue
by $2.4 million, and WIZ Technology of San
Juan
Capistrano, was charged with inflating income and revenue by $1.6
million.
In four cases, the SEC sought fines against individuals who profited
from stock trades based on
inside information. The agency also took action
against a
Palo Alto man for fraudulent sales of securities over the Internet.
©1999 San Francisco
Chronicle