REYES IS CONVICTED AGAIN, BUT TROUBLING QUESTIONS PERSIST

Government persistent has paid off, at least for now. Gregory L. Reyes, former Chief Executive Officer of Brocade Communications Systems, Inc., was convicted of securities fraud based on option backdating claims for a second time on Friday. U.S. v. Reyes, Case No. 06-0056 (N.D. Cal.). After three and a half days of deliberation, the jury returned guilty verdicts on four counts of securities fraud, four counts of lying to accountants and one count of false books and records. A not guilty verdict was returned on a conspiracy count.

The charges are based on claims that Mr. Reyes falsified option grants by creating fictitious documents to conceal the fact that the options were being backdated to obtain more favorable grant dates. The documents made it appear that the grants were in fact issued at fair market value when they were not. As a result of these practices, the options had a built in profit. At the same time the company did not recognize the related expense, resulting in false financial statements and filings. Mr. Reyes was granted millions of options that were in the money as were other employees. A government expert estimated that the amount of the fraud on the investing public was about $950,000.

The case against Mr. Reyes is one of the most high profile options backdating cases. The criminal charges and a parallel SEC enforcement action were first announced at a joint press conference discussed here. The first trial against Mr. Reyes also resulted in a guilty verdict. That conviction was overturned by the Ninth Circuit Court of Appeals, as discussed here, based on prosecutorial misconduct. Sentencing of Mr. Reyes is scheduled for June 24, 2010.

Overall, the government has had mixed results in its criminal option backdating cases. In some instances it has obtained convictions such as in the case last year against James Treacy, former President and COO of Monster Worldwide, U.S. v. Treacy, No. 1:08-cr-00366 (S.D.N.Y.), although that case is on appeal to the Second Circuit, No. 09-3939-CR, discussed here. In others, such as the case against former McAfee, Inc. General Counsel Kent Roberts, the jury has returned not guilty verdicts, discussed here. U.S. v. Roberts, No. 1:07 –cv- 00407 (N.D. Cal.). Others have been dismissed because of prosecutorial misconduct, such as the cases against former co-founder Dr. Henry Samueli and its former CFO William J. Ruehle, U.S. v. Nicholas, Case No. SACR 08-139 (C.D. Cal.), discussed here. This track record raises significant and troubling questions about the criminal prosecution of these cases, the ever blurring line between civil and criminal securities cases and prosecutorial charging discretion as also discussed here. It also ensures that the last chapter in the Gregory Reyes case has yet to be written.