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Since Gregory Reyes became the first executive to be charged in the stock option backdating scandal nearly a year ago, worse transgressions have been alleged in indictments in several districts. But as the trial of Reyes, the former CEO of Brocade Communications, began Monday morning, it became clear why his case will be a proving ground for federal prosecutors probing dozens of companies with options problems: The prosecution and defense agree that Brocade improperly accounted for the options it issued. The only argument is whether the problems amounted to criminal fraud. About 150 people packed U.S. District Judge Charles Breyer’s San Francisco courtroom Monday morning (a third had to either stand or listen to an audio feed in another room) to see the case start. What they saw was a 30-minute opening by prosecutors, followed by two hours of defense arguments, replete with PowerPoint presentations and graphs. The government says that hundreds of misdated options documents and an institutional policy of backdating amount to criminal fraud by Brocade’s CEO. “Reyes, the president, CEO and the chairman of the board of a major Silicon Valley tech company, routinely falsified the records to grant what you will learn were in-the-money options,” said Assistant U.S. Attorney Timothy Crudo. The false documents point to a criminal fraud intended to attract employees using discounted options, said Crudo, who took over the case earlier this year after the original prosecutor left for a private firm. Though Reyes never got backdated grants, Crudo said his extensive Brocade stock holdings positioned the former CEO to benefit. “The more competitive it became, the more he stood to gain.” While Reyes’ lawyer, Richard Marmaro, agreed that Brocade used the retroactively dated options grants to attract talent, the Skadden, Arps, Slate, Meagher & Flom partner said a close look at the more than 140 options grants in the case paints a less nefarious picture of a charismatic former sales executive doing his best in a competitive tech market. Marmaro said Reyes relied on accountants and the company’s finance department to properly account for those options � and that their failure to do so, and not any criminal intent by the CEO, is responsible for Brocade’s options mess. “Mr. Reyes and other officials at Brocade had a good-faith belief that these options were being properly accounted for,” Marmaro said. As during pretrial motions in recent weeks, Marmaro insisted that the argument that falsified documents point to fraud was overly simplistic. “The government is oversimplifying the case,” Marmaro told Judge Breyer on Monday afternoon, after the jury had filed out. “It can’t be oversimplified. It can’t be handled in a breezy fashion.” In his opening, Marmaro told the jury that Reyes didn’t hide the backdated grants from others within the company; executives and employees in human resources were fully aware of the backdating, he said.
Optional Reading

Read The Recorder‘s roundup of the stock-option backdating scandal. There won’t be a test later … but there might be a subpoena.

“No one believed that the company was committing securities fraud,” he said. Marmaro also spoke extensively about the lack of clarity in options accounting rules. “Brocade’s own controller, an experienced CPA, did not even know how to apply the guidelines,” he said. At the same time, Marmaro pointed repeatedly to the role of former Brocade CFO Michael Byrd in implementing the options grant process. Byrd is currently cooperating with the government under an immunity deal. After opening statements, the government began its case with the testimony of Colleen Burgess, a former Brocade HR employee who said she was explicitly told by former HR director Stephanie Jensen to pick low dates for option grants. Burgess said that when it was time to award options each quarter, Jensen � now awaiting trial on securities fraud charges � had her print out a Brocade stock chart from the Yahoo finance Web site. “I would highlight the low points in the quarter that we would like to pick stock options on,” Burgess said. By the end of the day Monday, the courtroom crowd had thinned out. After a cross examination of Burgess that focused on altering options documents to make up for administrative mistakes, the government called a second HR employee, Stephen Beyer. His testimony was expected to wrap up Tuesday; the entire trial is predicted to take two months.

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