With the dust finally starting to settle in the debacle known as Entellium, one question still remains. How did the fraudulent activities of Parrish Jones and Paul Johnston -- who were sentenced to prison Friday after inflating revenue -- go undetected for four years?
Shortly after the fraud came to light last October, we reported that audits were never completed at the Seattle software startup. Experts at the time said that a simple review would have uncovered the fraud, causing a debate about the role of the company's primary venture backer: Ignition Partners.
At the sentencing hearing Friday afternoon, some interesting details emerged about the audits, the responsibility of the board and why it is important to blow the whistle.
Assistant U.S. Attorney Carl Blackstone argued that Jones and Johnston repeatedly "stonewalled" requests for audits and actually torpedoed a $100 million buyout offer from Intuit out of fear that the illegal activities would come to light.
As the chief financial officer and gatekeeper of the financial records, Jones routinely stood in front of the board and provided false figures, said Blackstone. It started in early 2005 after Entellium missed revenue goals. Johnston purportedly asked Jones to manipulate sales for one of the company's products, with the inflated figures incorporated into investor presentations.
"When they've got the CFO in their board room telling them these are the revenues of the company, do you really think the company needs to say: 'Well, maybe the CFO is lying to me?' Of course, not," said Blackstone. "They trusted him, they relied on him and he abused that trust."
Defense attorneys for Jones painted a different picture, arguing that the 35-year-old executive actually was taking steps to stop the fraud as early as May 2008. Depressed and unable to sleep, Jones arranged for a full audit of the company's books in mid-2008, knowing that it would reveal the false revenue numbers, according to court documents filed by the defense. On August 5, Jones led an effort to hire the accounting firm of Moss Adams to conduct an audit, defense documents say.
Just a few days before the audit was to be completed, the board books were discovered by an Entellium employee showing the false revenue figures. On October 7, Jones and Johnston were arrested.
Attorneys for Jones wrote that it was "oddly one of the happiest days of his life" since he no longer had to keep the secret of the accounting irregularities. They also argued that the CFO didn't abuse his position of trust with the venture investors, placing some of the blame on the shoulders of the company's largest venture backer: Ignition.
Jones' attorneys wrote in court documents filed last week [PDF-31 PAGES]:
All of the investors had the ability to call for an inspection of Entellium’s books. All of the venture capital investors had the ability to request an audit of the books. One of the investing venture capital firms, called Ignition, had two seats on the Entellium Board of Directors, one of whom was a former investment banker. If any of the investors had even glanced at Entellium’s financial statements, much less completed an audit, the misrepresentations would have been immediately exposed.
But Judge Richard Jones disagreed, saying that the very title of CFO indicated his important role in the company. And the judge noted that shareholders were prevented from making informed investment decisions because of Jones' actions.
"The test is not whether investors have the ability to call for inspection or the option of requesting the audit of Entellium's books. The real issue is that persons holding positions as CFOs have a duty to provide reliable and accurate information, and certainly not fraudulent or misleading information," said Judge Jones. "When you look at just the title itself, it speaks loudly and clearly: Chief Financial Officer."
Blackstone discounted characterizations by Parrish Jones' attorneys that the former CFO was guilt-ridden over the fraud and tried to set the wheels in motion to stop it.
A letter submitted by Ignition on the day of the sentencing hearing indicated that they had asked for audits dating back to 2006 and were always met with excuses by the executives. Jones did not try to stop the fraud, with Blackstone arguing that the CFO could have easily contacted the board if he wanted to shed light on the situation.
"He did what he was told for four long years and he did not blow the whistle," said Blackstone, adding that Jones didn't have the "guts to do what was right."
If he had simply shown the courage to step forward early on, Blackstone said Entellium may have survived.
"What is so very tragic about what Mr. Jones did, is he had the ability to stop this thing from the get go," said Blackstone. "All he had to do was say: 'Mr. Johnston, we can't do this.' Had he done that, this company would probably still be alive today."
Jones, who has five children, was sentenced to two years in prison. Johnston, a citizen of the United Kingdom with two children, was sentenced to three years.
Entellium was backed with more than $50 million in venture funding.
READ MORE and COMMENT
No comments:
Post a Comment