2008 Corporate Fraud Task Force Report to the President

REPORT TO THE PRESIDENT

CORPORATE FRAUD TASK FORCE

2008

REPORT

TO THE PRESIDENT

CORPORATE FRAUD

TASK FORCE

2008

Report To The President – Corporate Fraud Task Force 2008

Members of the

Corporate Fraud Task Force

Mark Filip, Chairman

Deputy Attorney General

United States Department of Justice

Alice Fisher

Assistant Attorney General of the

Criminal Division

Nathan J. Hochman

Assistant Attorney General of the

Tax Division

Robert S. Mueller, III

Director

Federal Bureau of Investigation

Michael J. Garcia

United States Attorney for the

Southern District of New York

Patrick J. Fitzgerald

United States Attorney for the

Northern District of Illinois

Donald J. DeGabrielle, Jr.

United States Attorney for the

Southern District of Texas

Patrick L. Meehan

United States Attorney for the

Eastern District of Pennsylvania

Joseph P. Russoniello

United States Attorney for the

Northern District of California

Benton J. Campbell

United States Attorney for the

Eastern District of New York

Thomas P. O’Brien

United States Attorney for the

Central District of California

Henry M. Paulson, Jr.

Secretary

United States Department of the Treasury

Elaine L. Chao

Secretary

United States Department of Labor

Christopher Cox

Chairman

Securities and Exchange Commission

Walter L. Lukken

Chairman

Commodity Futures Trading Commission

Joseph T. Kelliher

Chairman

Federal Energy Regulatory Commission

Kevin J. Martin

Chairman

Federal Communications Commission

James B. Lockhart, III

Director

Federal Housing Enterprise

Oversight Office

Alexander Lazaroff

Chief Postal Inspector

United States Postal Inspection Service

Table of Contents

Table of Contents............................................................................................................i

Letter from the Chairman of the Corporate Fraud Task Force..............................iii

Corporate Fraud Task Force Member Contributions ........................................1.1

a. Criminal Enforcement ........................................................................................1.3

Cases Prosecuted By DOJ’s Criminal Division ................................................1.3

Cases Prosecuted By DOJ’s Tax Division..........................................................1.4

Cases Prosecuted By Task Force United States Attorneys’ Offices ..................1.5

Other Significant Federal Criminal Cases ......................................................1.14

Federal Bureau of Investigation ......................................................................1.19

Department of Treasury ..................................................................................1.20

United States Postal Inspection Service ..........................................................1.22

b. Civil Enforcement..............................................................................................1.23

Department of the Labor ................................................................................1.23

Office of Federal Housing Enterprise Oversight............................................1.23

Securities and Exchange Commission ............................................................1.25

Commodity Futures Trading Commission ....................................................1.29

Federal Communications Commission ..........................................................1.34

Federal Energy Regulatory Commission ........................................................1.36

Message from the Chairman

April 2, 2008

MESSAGE FROM THE CHAIRMAN

On July 9, 2002, President George W. Bush created the Corporate Fraud Task

Force “to strengthen the efforts of the Department of Justice and Federal, State, and local

agencies to investigate and prosecute significant financial crimes, recover the proceeds of

such crimes, and ensure just and effective punishment of those who perpetrate financial

crimes.” The Task Force was formed in response to a number of high-profile acts of

fraud and dishonesty that occurred in corporate executive suites and boardrooms across

the country. The brunt of these schemes was borne by innocent corporate employees,

pensioners, and investors—whose futures and fortunes were harmed, and at times, even

shattered, by corporate leaders they trusted with their savings.

Since 2002, the President’s Corporate Fraud Task Force has worked hard to hold

wrongdoers responsible and to restore an atmosphere of accountability and integrity

within corporations across the country. Relying both on traditional investigative

techniques and on new tools made available by the Congress at the request of the

President, the Task Force has punished corporate malfeasance and encouraged corporate

transparency and self-regulation.

The Task Force combines the talents and experience of thousands of

investigators, attorneys, accountants, and regulatory experts. Ten federal departments,

commissions, and agencies are involved with the Task Force, in addition to seven

U.S. Attorneys’ Offices and two Divisions within the Justice Department. This

commitment of resources and expertise reflects the Government’s resolve to combat

corporate fraud and to foster an environment in which ethical and honest corporate

conduct is encouraged and promoted.

Since July 2002, the Department of Justice has obtained nearly 1,300 corporate

fraud convictions. These figures include convictions of more than 200 chief executive

officers and corporate presidents, more than 120 corporate vice presidents, and more than

50 chief financial officers. These convictions are the product of the hard work and

cooperation of prosecutors, federal agents, accountants, and support staff from dozens of

agencies and offices within the Justice Department and other Task Force components.

Some of the contributions of the Task Force are documented in greater detail in this

Report.

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Report To The President – Corporate Fraud Task Force 2008

As you will see, criminal enforcement is only one aspect of the Task Force’s

effort to combat corporate fraud. Task Force members also filed administrative

enforcement suits, civil injunctive actions, and amicus briefs in civil corporate fraud

cases; provided regulatory oversight for government-sponsored enterprises; established

mandatory debarment procedures to prevent those with a history of fraudulent activity

from participating in certain federal programs; implemented new anti-manipulation

regulations; and issued show cause orders addressing market manipulation. Many of

these activities involved the cooperation and coordination of multiple Task Force

member agencies. The Task Force remains committed to using all appropriate means to

continue combating corporate fraud and to promoting the integrity of the American

financial marketplace.

The Task Force is proud of its efforts to bring hundreds of unethical corporate

officers to justice and to recoup hundreds of millions of dollars in fines, forfeitures, and

civil judgments. That said, it is important to appreciate that criminal and unethical

corporate leaders are the exception in our nation. Corporations play a vital role in our

country—providing jobs for our people and vitality and innovation to our national

economy—and the men and women who lead American corporations are

overwhelmingly people of talent, dedication, and integrity. By holding unscrupulous

corporate officers and entities to account, the Task Force hopes to minimize unfair

competition and investor distrust that can curtail the success of law-abiding businesses.

The cooperation of numerous upstanding businesses and individuals with federal

investigators has been vital to the success of the Task Force’s efforts.

Since 2002, the Task Force has prosecuted numerous unlawful actors who have

operated in the American marketplace. The Task Force remains committed to fulfilling

its mission of combating corporate fraud, and helping to protect all Americans by

promoting integrity in our national marketplace. Task Force members proudly serve in

this capacity, and look forward to doing so in the future.

Mark Filip

Chairman

President’s Corporate Fraud Task Force

Cor

porate Fraud

Task Force Member

Contributions

Corporate Fraud Task Force Member Contributions

Criminal Enforcement

Cases Prosecuted By DOJ’s Criminal

Division

Enron Task Force

The Department established the Enron Task

Force within its Criminal Division in 2002 in

response to the discovery of accounting fraud at

Enron Corporation. The Task Force, which con-

sisted of experienced federal prosecutors and

agents from around the country, worked for four

years to investigate and prosecute cases arising

from the fraud at Enron. The Task Force

charged a total of 34 defendants. Of those 34

defendants, 26 were former Enron executives. A

former CEO of Enron was sentenced to 292

months in prison after being found guilty at trial.

The guilty verdicts against the former chairman

were dismissed following his death prior to sen-

tencing. Enron’s former CFO pled guilty and

was sentenced to six years in prison and its chief

accounting officer received a sentence of five and

one-half years following his guilty plea. The

Department has also seized more than $100 mil-

lion and has worked with the SEC to obtain

orders directing the recovery of more than $450

million for the victims of the Enron fraud.

Enterasys

Eight former officers of Enterasys Network

Systems, Inc., including the chairman and the

CFO, have pled guilty or been found guilty at

trial in December 2006 on charges stemming

from a scheme to artificially inflate revenue to

increase, or maintain, the price of Enterasys

stock. The fraud caused Enterasys to overstate

its revenue by over $11 million in the quarter

ending Sept. 1, 2001. The fraud and its public

disclosure resulted in a loss to shareholders of

about $1.3 billion. As a result, in July 2007,

Enterasys CFO Robert J. Gagalis was sentenced

to 11 years in prison. Bruce D. Kay, formerly

Enterasys’s senior vice president of finance, was

sentenced to nine and one half years in prison.

Robert G. Barber, a former Enterasys business

development executive, was sentenced to eight

years in prison and fined $25,000. Hor Chong

(David) Boey, former finance executive in

Enterasys’s Asia Pacific division, was sentenced

to three years in prison.

Qwest

Joseph E. Nacchio, the former CEO of

Qwest Communications International, Inc., was

found guilty on 19 counts of insider trading on

April 19, 2007, on charges stemming from his

sale of more than $100 million in Qwest stock

while in possession of material, non-public

information regarding Qwest’s financial health.

Nacchio was sentenced to six years’ imprison-

ment and received the maximum $19 million

fine on July 29, 2007. A former CFO pled guilty

to insider trading.

British Petroleum

BP America, Inc., entered into a deferred

prosecution agreement in October 25, 2007, in

which it admitted that its traders illegally cor-

nered the market for February 2004 TET

propane, which is propane transported via

pipeline from Texas to the Northeast and

Midwest. BP North America agreed to pay a

$100 million penalty, make a $25 million pay-

ment to the U.S. Postal Inspection Service’s

Consumer Fraud Fund, pay restitution of more

than $53 million, and pay a $125 million civil

penalty to the CFTC. BP America also agreed

to cooperate with an independent monitor,

who will be appointed for a three-year period.

In addition, four BP traders have been indict-

ed on charges of conspiracy, commodities mar-

ket manipulation, and wire fraud in the

Northern District of Illinois. In June 2006,

Dennis Abbott, a BP energy trader, pled guilty

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Report To The President – Corporate Fraud Task Force 2008

to one count of conspiracy to commit com-

modities fraud and agreed to cooperate in the

Government’s ongoing investigation.

AEP

AEP Energy Services, Inc. (AEPES), is a

wholly owned subsidiary of American Electric

Power, Inc. (AEP), one of the nation’s largest

electric utilities. AEPES entered into a deferred

prosecution agreement on January 25, 2005, in

which it admitted that its traders manipulated

the natural gas market by knowingly submitting

false trading reports to market indices. AEPES

agreed to pay a $30 million criminal penalty.

Three energy traders also pled guilty. In sepa-

rate actions, the CFTC filed a civil injunction

against AEP and AEPES. The companies also

agreed to pay $21 million to the Federal Energy

Regulatory Commission.

PNC

PNC ICLC Corporation, a subsidiary of the

PNC Financial Services Group, Inc., the sev-

enth largest bank holding company in the

nation, was charged with conspiracy to violate

securities laws by fraudulently transferring $762

million in mostly troubled loans and venture

capital investments from PNC ICLC to off-

balance sheet entities. PNC entered into a

deferred prosecution agreement on June 2,

2003, and PNC ICLC agreed to pay a total of

$115 million in restitution and penalties.

Cases Prosecuted By DOJ’s Tax Division

Superior Electric

In November 2006, the 50% owner and

president of Superior Electric Company, a com-

mercial electrical contracting company based in

Columbus, Ohio, pled guilty to bank fraud and

to conspiracy to defraud the United States. The

company’s CFO also pled guilty to conspiracy

to defraud the United States. As part of the

conspiracy, they falsely characterized the presi-

dent’s personal use of corporate funds as busi-

ness expenses. The expenditures included the

costs of enhancing and operating his 65-foot

yacht, the salaries of the yacht captain and first

mate, the cost of landscaping at his residence,

and credit card payments for his boat captain

and maid. From 1998 through 2001, the com-

pany president used more than $2 million in

corporate funds for personal expenditures, but

he failed to report it as income on his tax

returns. Also, he directed the CFO not to pay

the company’s payroll tax liability. The president

also provided false financial documents to

National City Bank to support an increase in

the company’s line of credit with the bank. The

president was sentenced to 34 months in prison

and ordered to pay $4.8 million in restitution

for the tax fraud scheme. The CFO was sen-

tenced to 15 months in prison and ordered to

pay more than $1.62 million in restitution to

the IRS.

yssen, Inc.

In August 2004, a federal jury in Detroit,

Michigan, found two former executives of

Thyssen, Inc., guilty of tax fraud, conspiracy,

and money laundering charges in a $6.5 million

kickback scheme. Kenneth Graham and Kyle

Dresbach are the former CEO and executive

vice president, respectively, of Thyssen, a

Detroit steel-processing company. Their attor-

ney, Jerome Jay Allen (both an attorney and

CPA), pled guilty to conspiracy in August 2003,

and cooperated with the prosecution. Graham

and Dresbach had conspired with Allen to pay

inflated prices for cranes and steel slitting

machines. The vendors of the cranes and slitting

machines paid the inflated prices as commis-

sions to a consultant, Hurricane Machine.

Hurricane Machine then paid kickbacks to

more than a dozen entities controlled by Allen.

He laundered the funds and used his client trust

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Corporate Fraud Task Force Member Contributions

fund accounts to pay kickbacks to Graham and

Dresbach. As part of this conspiracy, Graham

and Dresbach also conspired with Allen to file

false individual income tax returns that did not

report the kickback payments. Graham was sen-

tenced to 75 months in prison and was ordered

to pay restitution of $8.8 million. Dresbach was

sentenced to 58 months in prison and was

ordered to pay restitution of $8.4 million. Allen

was sentenced to 34 months in prison and was

ordered to pay restitution of $8 million.

UNI Engineering, Inc.

In October 2006, a federal grand jury in

Camden, New Jersey, returned an indictment

charging the controller of UNI Engineering,

Inc., a privately-held company, with obstruct-

ing the internal revenue laws, filing a false pay-

roll tax return, and failing to pay more than

$400,000 in payroll taxes to the IRS. The

indictment alleges that the controller con-

cealed from the owners of UNI Engineering

and the IRS that UNI Engineering did not

accurately report and pay its employment taxes

from 1998 through 2001, and that he misap-

propriated funds that UNI Engineering was

required to pay to the IRS for employment

taxes. The controller pled guilty to five felony

tax charges and admitted that he misappropri-

ated unpaid payroll taxes of the company and

filed false payroll and individual income tax

returns with the IRS. He was sentenced to 24

months in jail and ordered to pay a $7,800 fine.

Neways, Inc.

In September 2006, a federal judge in Salt

Lake City sentenced Utah executives Thomas

E. Mower and Leslie D. Mower and their cor-

porate counsel, James L. Thompson, for their

respective roles in a scheme to defraud the

United States. Thomas Mower, founder and

CEO of Neways, Inc., an international multi-

level marketing company, was sentenced to 33

months in prison and ordered to pay a $75,000

fine. Leslie Mower, Neways’s CFO, was sen-

tenced to 27 months in prison and ordered to

pay a $60,000 fine. Thompson, Neways’s cor-

porate counsel from 1995 through 1997, was

sentenced to 12 months and one day in prison.

They had concealed from the IRS more than

$1 million of Neways’s gross receipts and $3

million of the Mowers’ commission income.

The Mowers used nominee bank accounts,

nominee entities, and nominee social security

numbers for various bank accounts. Thompson

had created and presented a false loan docu-

ment to the investigating agent.

Cases Prosecuted By Task Force United

States Attorneys’ Offices

U.S. Attorney’s Office for the Central

District of California

Milberg Weiss

This national class action law firm, several

partners, and other individuals were indicted

for making illegal, undisclosed payments to

class plaintiffs. The attorneys subsequently

made false statements in court filings regarding

these payments. The indictment charges

defendants with conspiracy, fraud, and money

laundering counts. Several of the attorneys

involved – including former law firm name

partners William Lerach and David Bershad –

pled guilty in 2007 and are cooperating with

the government. Trial against the remaining

parties is currently scheduled for 2008.

Homestore.com, Inc.

Eleven executives and employees of this

California-based Internet company were con-

victed for their roles in a complicated revenue

inflation scheme. Homestore fraudulently paid

itself millions of dollars in bogus “roundtrip

deals” to meet quarterly revenue expectations.

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Report To The President – Corporate Fraud Task Force 2008

The company’s senior management, finance

department, and sales staff were convicted of

conspiracy, insider trading, wire fraud, and other

securities law violations for their roles in the

transactions. After a lengthy jury trial in 2006,

Homestore’s former CEO was found guilty of

numerous criminal counts, including filing false

quarterly statements with the SEC and lying to

auditors. He was sentenced to 15 years in

prison and ordered to pay $13 million in fines

and restitution.

U.S. Attorney’s Office for the Northern

District of California

M&A West

Zahra Gilak, corporate secretary at M&A

West, was convicted of one count of securities

fraud and five counts of money laundering. The

jury found that Gilak participated in a stock

manipulation scheme in connection with the

purchase and sale of shares of three publicly trad-

ed companies on the Over-the-Counter Bulletin

Board in 1999-2000. Gilak devised a scheme to

gain a controlling interest over three companies

and concealed her interest by holding stock

through multiple shell companies that she con-

trolled. After manipulating demand for the

stock, Gilak sold the securities, reaping approxi-

mately $14 million in net proceeds. Gilak was

sentenced in April 2007 to 51 months’ imprison-

ment and 36 months’ supervised release. She was

ordered to pay a $600 special assessment and

$2.5 million in restitution. She also forfeited

$881,000. Gilak has appealed. F. Thomas Eck,

III, attorney, and Scott Kelly, former CEO of

M&A West, both pled guilty on related charges.

Eck was sentenced in June 2004 to 70 months’

custody and three years’ supervised release, and

was ordered to pay a $100 special assessment.

Kelly was sentenced on August 28, 2007, to 14

months’ custody and three years’ supervised

release. Kelly was ordered to pay a $200 special

assessment, $200,000 forfeiture, and $6.5 million

in restitution.

.S. Wireless

Oliver Hilsenrath, CEO, and David Klarman,

general counsel, were charged with defrauding

U.S. Wireless shareholders by improperly trans-

ferring company stock and cash to offshore

entities they controlled and also causing U.S.

Wireless to file false and misleading financial

statements with the SEC. When the fraud was

discovered, U.S. Wireless restated its financial

results, increasing its fiscal year 2000 loss by more

than 55%. Hilsenrath pled guilty and was sen-

tenced on July 9, 2007, to five years’ probation.

He was ordered to pay $2 million in restitution, a

$2,000 fine, and a $200 special assessment. D.

Klarman pled guilty and was sentenced on July

10, 2007, to three years’ probation and received a

$100 special assessment.

U.S. Attorney’s Office for the Northern

District of Illinois

Mercury Finance Company

Mercury Finance Company was a NYSE-

listed subprime lending company. As a result of

an extensive accounting fraud scheme designed

to inflate the company’s revenues and to under-

state its delinquencies and charge offs over sever-

al years, the market capitalization of the compa-

ny decreased by nearly $2 billion in one trading

day after the existence of the fraud was publicly

announced. Commercial paper purchasers also

eventually lost about $40 million and longer term

lenders lost another $40 million. The former

CFO admitted his role in the fraudulent scheme

and cooperated with the investigation, but he

died unexpectedly before charges were brought.

John Brincat Sr., the former CEO and chairman

of the board of directors of the company, pled

guilty to wire fraud and conspiracy in connection

with the scheme. On May 23, 2007, Brincat was

sentenced to 10 years in prison. Previously,

Bradley Vallem, the former treasurer of the com-

pany, pled guilty to engaging in the accounting

fraud scheme, agreed to cooperate and received a

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Corporate Fraud Task Force Member Contributions

20-month sentence. Lawrence Borowiak, the

former accounting manager, pled guilty to trad-

ing Mercury Finance Company stock on inside

information, agreed to cooperate, and received a

sentence of 12 months in prison.

Anicom, Inc.

Anicom, Inc., was a publicly held national

distributor of wire and cable products such as

fiber optic cable. The former chairman of the

board of directors and six others at the compa-

ny were charged with engaging in an account-

ing fraud scheme. The scheme involved creat-

ing fictitious sales of more than $24 million,

understating expenses, and overstating earn-

ings and net income by millions of dollars. The

scheme led to a market capitalization loss of

more than $80 million. All of the defendants

except the former chairman have pled guilty

and are cooperating. These include a former

CEO, a former COO, a former CEO, a former

controller, a former vice president of sales and

a shipping manager.

U.S. Attorney’s Office for the Eastern

District of New York

Comverse

Between 1998 and 2002, the CEO, CFO,

and general counsel of Comverse Technology,

Inc., defrauded Comverse shareholders by

secretly backdating Comverse's option grants

to executives and employees. The defendants

backdated Comverse stock options to mask

that the options were in fact granted "in the

money" (with an exercise price below the fair

market value of Comverse shares on the date of

the grant) and to avoid properly accounting for

the in-the-money grants in SEC filings (which

would have had the effect of increasing com-

pensation expense and decreasing the compa-

ny’s reported earnings). Among other things,

the three executives lied to their outside audi-

tors and to institutional investors to conceal their

fraudulent options practices. In addition, the

CEO and CFO created a secret slush fund of

options (code-named "Phantom" and "Fargo")

which they made through the surreptitious grant

of hundreds of thousands of options to fictional

employees. Options from the Phantom/Fargo

slush fund were transferred to favored employees

at Alexander's discretion, with neither the

knowledge nor the oversight of the board of

directors of Comverse, nor with any disclosure or

accounting for these options in Comverse's pub-

lic filings. The loss to Comverse and its share-

holders resulting from the stock option fraud

schemes at the company is currently estimated at

$51 million.

The option fraud schemes concluded in April

2002 and came to light in March 2006. The

CEO immediately attempted to buy off the

CFO, offering him $2 million, then $5 million,

then asking him to "name your price," to take sole

responsibility for the options schemes and to

absolve him. On October 24, 2006, the CFO

pled guilty to charges of securities fraud and con-

spiracy to commit securities fraud pursuant to a

cooperation agreement. The SEC simultaneously

announced a settlement with the CFO providing,

among other things, for him to disgorge approx-

imately $2.4 million. On November 2, 2006, the

general counsel pled guilty to conspiracy to com-

mit securities fraud. The general counsel was sen-

tenced to 12 months and one day of incarcera-

tion. The former CEO is a fugitive. In June 2006,

he fled to a vacation home in Israel. During the

month of July 2006 alone, he laundered at least

$57 million by transferring assets from the

United States to Israel and elsewhere. He was

arrested in Namibia on September 27, 2006. The

pending indictment against the CEO charges

him with 35 counts, including securities fraud,

mail fraud, wire fraud, conspiracy, false statements

to the SEC, obstruction of justice, and money

laundering. It also contains two forfeiture allega-

tions. The Government is seeking extradition.

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Report To The President – Corporate Fraud Task Force 2008

Computer Associates

From approximately 1998 through 2000,

senior executives at Computer Associates,

including Sanjay Kumar (president and COO,

and then CEO), Stephen Richards (head of

worldwide sales) and others, caused the compa-

ny to backdate billions of dollars' worth of

license agreements in order to prematurely rec-

ognize revenue to avoid missing Wall Street’s

projected earnings per share estimates for the

given quarter. Later, when the Government

began investigating this conduct, the defendants

implemented a massive scheme to obstruct jus-

tice. In the end, eight defendants pled guilty. On

November 2, 2006, Kumar was sentenced to 12

years' imprisonment. On November 14, 2006,

Richards was sentenced to seven years' impris-

onment. Five additional cooperating witnesses

have been sentenced since January 1, 2007.

Friedman’s Jewelers

From approximately 2000 through 2003,

Friedman’s Inc. was a fine-jewelry retailer with

publicly traded stock. Friedman’s offered an

installment credit program, which the company

described as an “integral part” of its business strat-

egy, to help its customers finance jewelry purchas-

es. The majority of Friedman’s sales were made on

credit, and Friedman’s public filings represented

that it strictly followed company guidelines as to

when and how much credit to issue to Friedman’s

customers. In reality, Friedman’s employees, with

management’s encouragement, routinely violated

these guidelines in issuing credit. As a result,

Friedman’s had a rising level of uncollectible

accounts receivable. Instead of disclosing its col-

lection problems, senior management manipulat-

ed Friedman's accounting to hide the collection

problems from the investing public. These manip-

ulations created the appearance that the company

had met Wall Street’s expectations in multiple

quarters, when it in fact had not. Friedman’s for-

mer CFO, Victor Suglia, and Friedman’s former

controller, John Mauro, have been cooperating

with the investigation and recently pled guilty to

conspiracy to commit securities fraud, wire fraud

and mail fraud. On February 13, 2007, a grand

jury indicted Friedman’s and Crescent’s former

CEO, Bradley Stinn, on multiple charges stem-

ming from this conspiracy. In November 2005,

Friedman’s entered into a non-prosecution agree-

ment with the Government. Under the terms of

the agreement, Friedman’s acknowledged that it

violated federal criminal law through the conduct

of certain former Friedman’s executives, officers

and employees and admitted that former

Friedman’s executives conspired to commit and

engaged in securities fraud. As part of the agree-

ment, Friedman’s agreed to implement numerous

corporate reforms, continue its cooperation with

the Government’s investigation and pay

$2,000,000 to the U.S. Postal Inspection Service

Consumer Fraud Fund. The Government also

entered into a non-prosecution agreement with

Crescent Jewelers, an affiliate of Friedman’s.

Under the terms of the agreement, Crescent

acknowledged that it violated federal criminal law

through the conduct of certain former Crescent

executives and admitted that former Crescent

executives conspired to defraud Friedman’s share-

holders through the scheme outlined above.

Crescent also agreed to implement numerous cor-

porate reforms, continue its cooperation with the

Government’s investigation and pay $1,000,000.

lou Healthcare, Inc.

The case centered on a Long Island based

public company called Allou Healthcare, Inc.

(“Allou”). The principals of Allou and its affili-

ated companies, all members of the Jacobowitz

family, engaged in a massive, decade-long con-

spiracy involving bank fraud and securities

fraud. The scheme caused losses to creditors and

investors of nearly $200 million, and involved

an array of shell companies, phony transactions,

and wire transfers of funds to foreign countries.

In an attempt to cover up the massive fraud at

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Corporate Fraud Task Force Member Contributions

Allou, the Jacobowitzes planned a fire at Allou’s

Brooklyn warehouse in September 2002 to

recover $100 million in insurance proceeds. This

plan ultimately went awry when Allou’s insurers

refused to pay the $100 million claim because of

the fire department’s conclusion that the fire

was arson. To bolster Allou’s insurance claim

and to obstruct the criminal investigations into

the origin of the fire, the Jacobowitzes and their

associates then offered to pay a fire marshal

$100,000 in cash to change the fire depart-

ment’s conclusion regarding the origin of the

fire. Eight defendants, including the company

president, pled guilty to various charges of fraud

and bribery.

American Tissue, Inc.

American Tissue, Inc. (ATI) was the fourth

largest tissue manufacturer in the United States,

with offices in Happaugue, Long Island, and

approximately a dozen manufacturing facilities

throughout the United States and Mexico. ATI

issued $165 million worth of bonds that were

publicly traded, and it operated under a revolv-

ing loan facility which included several banks

but was administered by LaSalle Business

Credit (“LaSalle”). During 2000 and 2001, ATI

began to experience severe financial difficulties,

due largely to reckless over-expansion and a

downturn in the market. As a consequence, cor-

porate executives, including the CEO Mehdi

Gabayzadeh and VP of Finance John Lorenz,

engaged in various schemes designed to defraud

LaSalle into loaning operating funds to ATI.

These schemes also included a conspiracy to fal-

sify SEC filings and press releases regarding

ATI's financial condition, in hopes of propping

up the value of ATI's existing bonds and suc-

cessfully offering an additional $200 million

worth of bonds to raise capital. The fraud was

uncovered in early September 2001 and ATI

declared bankruptcy. Several months later,

Gabayzadeh was forced out of ATI and he

formed a second corporation, American Paper

Corporation. As CEO of American Paper

Corporation, Gabayzadeh engaged in addition-

al schemes to defraud the bankrupt ATI out of

assets that were owned by creditors.

In September 2006, Gabayzadeh was con-

victed after trial and sentenced to 15 years’

imprisonment, five years’ supervised release, and

restitution in the amount of $64,933,931. In

January 2007, Lorenz was sentenced to 18

months’ imprisonment and three years of super-

vised release, and was ordered to pay restitution

in the amount of $64,682,588. Two additional

executives also pled guilty.

DHB Industr

ies

DHB Industries manufactures body armor

and has been the primary supplier of body

armor to the military since approximately

2002. Until recently, it was headquartered in

Westbury, Long Island, with manufacturing

facilities in Pompano Beach, Florida and

Jacksonville, Tennessee. The former CFO and

the former COO were indicted for conspiracy

to commit securities fraud and securities fraud,

including insider trading charges. From 2003

until 2005, they inflated DHB's inventory val-

uations in order to boost reported profits, and

they improperly reclassified expenses to

increase DHB's reported gross margin per-

centage. In addition, during the first quarter of

2005, they falsified DHB's records to reflect

the existence of $7 million worth of non-exis-

tent inventory. When auditors first uncovered

this fraud, the CFO insisted the inventory

existed and provided bogus documents to back

up her claim. After the auditors discredited the

claim, they admitted to the auditors that the

inventory entry was false. In November and

December of 2004, while DHB was reporting

the profit and gross margin numbers fraudu-

lently inflated by the CFO and the COO, the

CFO sold approximately $3 million worth of

DHB and the COO sold approximately $5

1.9

Report To The President – Corporate Fraud Task Force 2008

million worth of DHB stock, both doing so

through the execution of cashless warrant

options.

U.S. Attorney’s Office for the Southern

District of New York

Accounting / Financial Fraud

Adelphia. Following a four-month trial, the

former CEO and CFO of Adelphia Commun-

ications Corp. were convicted of fraud charges

arising from their participation in a complex

financial statement fraud and embezzlement

scheme that defrauded Adelphia’s shareholders

and creditors out of billions of dollars. John and

Timothy Rigas were sentenced to 15 and 20

years’ imprisonment, respectively. The Govern-

ment also obtained the forfeiture of more than

$715 million from the Rigas family and Adelphia

for distribution to victims.

Refco. The former CEO of Refco, a com-

modities brokerage firm based in New York, the

CFO, and a half owner were indicted for their

roles in a scheme to hide from Refco's investors

massive losses sustained by the company in the

late 1990s; public investor losses exceed $2 bil-

lion. Trial is currently scheduled for March 2008.

The Government entered into a non-prosecution

agreement in which BAWAG Bank admitted

facilitating the Refco fraud, agreed to cooperate,

and to forfeit more than $400 million.

Impath. The former president and COO of

Impath, Inc., a New York-based biotechnology

company, was convicted after a three-week trial

for his role in a massive accounting fraud that

caused a decline in the company’s market capital-

ization in excess of $260 million. He was sen-

tenced to 42 months' imprisonment and was

ordered to pay $50 million in restitution and $1.2

million in forfeiture.

Optio

ns Backdating

Safenet. In October 2007, the former presi-

dent, COO, and CFO of SafeNet, Inc., a

Maryland-based software encryption company,

pled guilty to one count of securities fraud, with

a plea agreement stipulating a sentencing guide-

lines range of 97-121 months. He schemed with

others to backdate millions of dollars of stock

options at SafeNet from 2000 through 2006

without recording or reporting the option grants

as compensation expenses. The indictment

alleges eight different sets of backdated option

grants. In each case, the options were backdated

to dates on which SafeNet's stock was trading at

historical low points.

MonsterWorldwide. In February 2007, Myron

Olesnyckyj, former general counsel of recruit-

ment services giant MonsterWorldwide, Inc.,

pled guilty in connection with the backdating of

millions of dollars’ worth of employee stock

option grants at Monster. Olesnyckyj and other

senior executives at Monster backdated options

by papering them as if they had been granted on

dates in the past on which Monster’s stock price

had been at a periodic low point.

Insider Trading

Reebok. In 2006, the Government charged an

associate at Goldman Sachs, an investment

banking analyst at Merrill Lynch, and several

other defendants with participation in a massive

insider trading scheme that resulted in more

than $6.7 million in illicit gains. The defendants

traded on inside information from: (1) Merrill

Lynch; (2) advance copies of Business Week’s

"Inside Wall Street" column; and (3) a grand

juror hearing evidence of accounting fraud at

Bristol-Myers Squibb. Five defendants have

pled guilty.

1.10

Corporate Fraud Task Force Member Contributions

UBS. In March 2007, the Government

charged an executive director at UBS, a former

in-house attorney at Morgan Stanley, and 11

other defendants with participating in two mas-

sive insider trading schemes and in two separate

bribery schemes that, in total, provided the

defendants with more than $8 million in illegal

profits. Eight of the 13 defendants have pled

guilty.

Imclone. Martha Stewart, former CEO of

Martha Stewart Living Omnimedia, was con-

victed of conspiracy, obstruction of justice, and

false statement charges and was sentenced to

five months in prison and five months in home

confinement. The charges arose from Stewart’s

efforts to obstruct federal investigations into her

trading in the securities of ImClone Systems,

Inc., on the eve of that company’s announce-

ment of extremely negative news. Peter

Bacanovic, Stewart’s Merrill Lynch broker, was

also convicted and sentenced to five months in

prison. The former CEO of Imclone, Samuel

Waksal, pled guilty to insider trading charges

and is serving a seven-year sentence.

Hedge F

unds

Bayou. Principals of the Connecticut-based

Bayou Hedge Funds, Samuel Israel III, Daniel

E. Marino, and James G. Marquez, pled guilty

to fraud and conspiracy charges based on their

substantial and prolonged misrepresentation of

the value of the assets of the funds, to which

investors had entrusted more than $450 million.

The Government obtained $106 million for dis-

tribution to victims.

Tax Shelter Prosecutions

KPMG and HVB. KPMG and HVB (a Ger-

man bank) each entered into deferred prosecu-

tion agreements in which they admitted partic-

ipating in a multi-billion dollar fraud on the

United States in connection with fraudulent tax

shelter transactions. Together the entities have

paid a total of over $485 million in monetary

penalties and restitution to the Government.

KPMG. Nineteen defendants, including three

successive heads of tax for KPMG, a former

KPMG associate general counsel, and a former

partner at Brown & Wood, were charged with

participating in a multi-billion dollar fraud on

the United States relating to fraudulent tax

shelters. Two of these individuals pled guilty,

and the Government is currently appealing an

adverse ruling in connection with the remain-

ing 13 individuals.

Ernst & Young. Four current and former

partners of Ernst & Young were charged with

conspiracy to defraud the IRS, as well as mak-

ing false statements to the IRS and additional

tax offenses. In addition, Belle Six, who

worked with E&Y and later went on to work

with two of E&Y ’s tax shelter co-promoters,

pled guilty to participating in the same con-

spiracy and forfeited approximately $13 mil-

lion in fees she collected from the sale of fraud-

ulent tax shelters.

Oil for Food Cases

Bayoil (USA). This case was brought as a

result of a wide-ranging criminal investigation

into the United Nations Oil-for-Food

Program (“OFFP”). In mid-2000, the former

Government of Iraq, under Saddam Hussein,

began conditioning the right to purchase Iraqi

oil under the OFFP – a program intended to

provide humanitarian aid to the Iraqi people –

on the purchasers’ willingness to return a por-

tion of the profits secretly to Hussein’s govern-

ment, then the subject of international sanc-

tions. The Government investigated and prose-

cuted several of the U.S.-based individuals and

entities who agreed to pay the secret illegal sur-

charges to the Hussein regime in order to insure

continued access to the lucrative oil contracts

1.11

Report To The President – Corporate Fraud Task Force 2008

from the Hussein regime: David B. Chalmers, Jr.,

the CEO and sole owner of Bayoil (USA) and

Bayoil Supply & Trade, and executive Lubmil

Dionissiev, as well as the Bayoil entities; Oscar S.

Wyatt, Jr.; and several foreign individuals and

entities. In August 2007, Chalmers, Bayoil

(USA), and Bayoil Supply & Trade pled guilty

and agreed to forfeit more than $9 million.

Dionissiev pled guilty on the same day. Wyatt

pled guilty on October 1, 2007, nearly four weeks

into his criminal trial, and agreed to forfeit more

than $11 million.

El Paso Corporation. On February 7, 2007,

the Government reached an agreement with the

El Paso Corporation and its subsidiaries, in

which El Paso admitted to obtaining Iraqi oil

under the Oil-for-Food Program from third par-

ties that paid secret, illegal surcharges to the for-

mer Government of Iraq. El Paso agreed to for-

feit approximately $5.5 million as part of the

agreement.

U.S. Attorney’s Office for the Eastern

District of Pennsylvania

Beacon Rock

In the first criminal prosecution of market

timing fraud in the United States, guilty pleas

were entered by Beacon Rock Capital, a

Portland, Oregon based hedge fund, and

Thomas Gerbasio, Beacon Rock’s broker.

Mutual funds attempting to prevent market

timing were deceived by an elaborate scheme

utilizing more than 60 different account names

and numbers, 26,000 trades structured to avoid

detection, and false assurances that no market

timing was being conducted. The trades result-

ed in profits of $2.4 million. Though market

timing is not per se illegal, the defendant’s

deceptions prevented the funds from protecting

the value of shares from dilution for fund par-

ticipants.

DVI, Inc.

A CFO was charged in one of the nation’s

first indictments for violation of the reporting

requirements of Sarbanes-Oxley in a $50 million

fraud scheme. Steven Garfinkel, CFO of DVI,

Inc., a publicly traded healthcare finance compa-

ny, was sentenced to 30 months’ imprisonment

for fraud. Garfinkel altered corporate records to

double count $50 million in assets, which result-

ed in false quarterly reports filed under the

requirements of Sarbanes-Oxley, and losses of

almost $50 million to financial institutions upon

the collapse and bankruptcy of the company.

Philadelphia Seaport Museum

The corporate head of a major Philadelphia

museum received a 15-year sentence for stealing

from the non-profit institution. On November

2, 2007, John Carter, president of the

Philadelphia Seaport Museum, was sentenced

to 15 years’ imprisonment for fraud and tax eva-

sion. Over a 10-year period, Carter falsified

records of the museum and created fictitious

invoices to divert $2 million to his own use in

order to maintain a lavish lifestyle, including

making additions to his Cape Cod home and

purchasing art work, vacations, and three

yachts. He also forged documents in an attempt

to divert $1 million from the cash value of an

insurance policy maintained by the museum

after he learned of the federal investigation.

Amkor Technologies

A corporate general counsel of Amkor

Technologies, one the world’s largest packagers

of semiconductors, abused his position to enrich

himself through insider trading. In October

2007, Kevin Heron was convicted of insider

trading and conspiracy for his own trading in

Amkor stock over several periods in 2005, and

for trading information about Amkor and

1.12

Corporate Fraud Task Force Member Contributions

Neoware Corporation with Neoware employee

Stephen Sands, who pled guilty to conspiracy

charges. Heron, who enforced Amkor’s insider

trading policy, advised members of the board

of directors they could not trade while he him-

self was conducting trades. Heron realized

profits and avoided losses totaling $300,000

through the use of options, puts, calls, and

direct purchases and sales of stock.

Cyberkey

A brazen securities pump and dump was

uncovered at Cyberkey, a Utah electronics firm.

In July 2007, charges were filed against the CEO,

who schemed to inflate the value of Cyberkey

stock through false public announcements that

Cyberkey had a $24 million contract with the

Department of Homeland Security, and through

the use of a telemarketing firm to push the sale of

the stock. The over-the-counter stock rose

sharply with the false news and plummeted after

the fraud was discovered, with investors defraud-

ed of $3.5 million. The CEO attempted to cover

up the fraud, and was also charged with obstruc-

tion of justice for lying and providing false docu-

ments to the SEC.

Fountainhead Fund

Abuse of investors by hedge fund managers

resulted in prosecution of two founders and

directors of a hedge fund, Fountainhead Fund

LP. The defendants misrepresented the risks of

the fund, falsely assuring investors that the fund

dealt in insured, conservative investments. The

fund soon began to lose money, but defendants

solicited new investors and kept early investors

from closing their accounts by creating fictitious

account statements and K1 tax reports that

reflected profits. When the fraud was uncovered

and the fund frozen, investors had lost over $2

million of the $5.2 million invested. One defen-

dant was sentenced to five years’ imprisonment,

the other to one year.

Computer Video Store

A wide-ranging infomercial fraud on con-

sumers and financial institutions was perpetuat-

ed by George Capell, president and CEO, and

Patrick Buttery, CFO, through Computer

Video Store, which grossed $100 million annu-

ally selling computers through television

infomercials to thousands of consumers. As the

company failed, they continued to take con-

sumer orders, order form suppliers, and increase

funding from financial institutions. They falsi-

fied corporate records and sales records, and

diverted funds to their own use, defrauding con-

sumers of over $3 million, suppliers of $13.5

million, and financial institutions of $22.5 mil-

lion. Capell was sentenced to over seven years’

imprisonment, ordered to pay $31.9 million in

restitution, and required to forfeit $475,000, two

properties, and three vehicles. Buttery was sen-

tenced to one year’s imprisonment.

E-Star

Strong sanctions were imposed on a foreign

corporation cheating on federal taxes by not

reporting $99 million worth of stock bonuses to

its American employees. In April 2007, E-Star,

a subsidiary of a Taiwanese corporation, was

sentenced for failure to pay taxes on $99 million

worth of stock bonuses to employees. The com-

pany devised a manual, off-the-books system to

track stock bonuses, and transacted stock sales

and payments in Taiwan and through overseas

accounts to mask the tax liability. The company

was ordered to pay over $45 million in taxes,

penalties, interest, and fines.

U.S. Attorney’s Office for the Southern

District of Texas

Dynergy

Gene Foster, Dynegy’s former vice president

of tax, and Helen Sharkey, formerly a member

1.13

Report To The President – Corporate Fraud Task Force 2008

of Dynegy’s Risk Control Group and Deal

Structure Groups, pled guilty to conspiracy to

commit securities fraud related to “Project

Alpha.” This was an accounting scheme designed

to borrow $300 million from various lending

institutions while publicly misrepresenting the

proceeds of those loans as revenue from opera-

tions rather than debt. It was also part of the con-

spiracy to prevent disclosure to the SEC, the

shareholders and the investing public. On

January 5, 2006, Foster was sentenced to 15

months’ confinement and three years’ supervised

release. He was ordered to pay a $1,000 fine and

$100 special assessment. Sharkey was sentenced

to 30 days in jail and three years of supervised

release (with the first six months on home con-

finement). She was ordered to pay a $10,000 fine

and $100 special assessment. Jamie Olis, former

vice president of finance, was convicted by a jury

on November 13, 2003, of conspiracy, securities

fraud, mail fraud and wire fraud. Olis received a

sentence of 72 months’ imprisonment and three

years’ supervised release, and ordered to pay a

$25,000 fine and $600 special assessment.

Seitel

Paul Frame, ex-CEO of Seitel, was indicted

for defrauding his former corporation of

approximately $750,000, laundering the pro-

ceeds of the fraud, and lying to the SEC about

the fraud. He was convicted on April 7, 2005,

and sentenced on October 27, 2005, to 63

months in prison and three years’ supervised

release. He was ordered to pay restitution of

$750,000.

Enron

Enron’s director of benefits for its Human

Resources Department fraudulently billed

Enron for approximately $3 million. He was

convicted and sentenced to three years in prison

on April 19, 2007.

Other Significant Federal Criminal Cases

Hamilton Bank

The Hamilton Bank case involved the crim-

inal undertakings of Eduardo Masferrer, the

chairman and CEO of both Miami-based

Hamilton Bank and its holding company,

Hamilton Bancorp, in concert with Carlos

Bernace, Hamilton Bank’s president, and John

Jacobs, Hamilton Bancorp’s CFO. These three

defendants removed certain distressed Russian

loans from Hamilton Bank’s books by recording

that these assets had been successfully sold for

no loss, despite consequent multi-million dollar

losses realized from the sales, which was accom-

plished through fraudulent accounting entries.

The undisclosed quid pro quo for these sales

consisted of the bank’s concurrently conducted

purchase of various Latin American securities

from the same foreign banks also at fraudulent-

ly inflated prices. In order to conceal this

accounting fraud, the fortuitous Russian loan

sales were recorded without revealing the related

and necessary purchase transactions. Masferrer

was convicted in the Southern District of

Florida in May 2006 of all 16 counts alleging

securities fraud, bank fraud, wire fraud, false

statements, obstruction of regulatory proceed-

ings, and conspiracy. Bernace and Jacobs each

had pled guilty to securities fraud charges and

testified against Masferrer. Masferrer was sen-

tenced to 30 years’ imprisonment (what is

believed to be one of the lengthiest sentences

for a corporate accounting fraud scheme in

American history) and ordered to pay $17.2

million in restitution to the FDIC as receiver

for Hamilton Bank, as well as $14.5 million to

investors who had purchased Hamilton Bancorp

stock. Bernace and Jacobs were each sentenced to

28 months’ imprisonment and were also ordered

to pay $14.5 million to the investor victims.

1.14

Corporate Fraud Task Force Member Contributions

Chiquita Brands International, Inc.

In March 2007, Chiquita Brands

International, Inc. ("Chiquita" or "Company")

pled guilty in the District of Columbia to the

felony charge of engaging in transactions with

a specially designated global terrorist. On

September 17, 2007, the Company was sen-

tenced to a criminal fine of $25 million and

five years of probation. From 1997 through

early 2004, Chiquita paid money to the

Colombian terrorist organization Autodefen-

sas Unidas de Colombia (“the AUC”), a spe-

cially designated global terrorist organization.

Chiquita paid the AUC in total over $1.7 mil-

lion in over 100 installments. The investigation

into the Company's conduct revealed that

Chiquita had violated the “books and records”

provision of the Foreign Corrupt Practices Act.

In connection with the guilty plea, the

Company admitted that its corporate books

and records never reflected that the ultimate

and intended recipient of these funds was the

AUC.

Suprema Specialties Inc

Suprema Specialties, Inc., was a public

company that manufactured, processed, and

distributed a variety of purportedly all natural

cheese products. Between the mid-1990's and

early 2002, various individuals at Suprema,

with the assistance of some of their customers,

engaged in a massive fraud by fraudulently

inflating Suprema’s sales, inflating the value of

Suprema’s inventory, and misrepresenting the

nature of some of Suprema’s products. They

then used these misrepresentations to obtain

money from Suprema’s banks under a line of

credit and from the investing public through a

secondary offering of stock in November 2001.

This fraud resulted in losses to banks and the

investing public of more than $100 million.

(Suprema entered Chapter 7 liquidation in

2002 and is no longer operational.). Mark

Cocchiola, a Suprema founder and former

CEO and chairman of the board of directors,

and Steven Venechanos, its former CFO and a

director, were found guilty on 38 counts of

conspiracy, bank fraud, securities fraud, mail

fraud and wire fraud. Six individuals pled

guilty in U.S. District Court for the District of

New Jersey in connection with this fraud and

agreed to cooperate with the Government.

CUC/Cendant Cor

From the late 1980s through April 15, 1998,

executives Walter A. Forbes and E. Kirk

Shelton, together with their coconspirators,

artificially inflated the earnings at CUC

International and its corporate successor,

Cendant Corporation, to create the appearance

that CUC/Cendant was meeting the growth

targets set by Wall Street stock analysts. The

defendants and their coconspirators engaged in

four separate accounting frauds to inflate CUC’s

earnings: (1) improperly reversing merger

reserves; (2) understating the membership can-

cellation reserve; (3) delaying recognition of

rejects-in-transit; and (4) engaging in early rev-

enue recognition. Between 1995 and 1997

alone, those four separate accounting frauds

overstated CUC’s income by more than $252

million. When Cendant publicly announced its

initial findings regarding the fraud in the former

CUC businesses, Cendant’s stock price declined

by 47% in a single day, and Cendant’s share-

holders lost more than $14 billion in market

value. Cendant remains one of the largest

accounting frauds of the 1990s. In 2005, a jury

found Shelton, who was Cendant’s vice chair-

man, guilty on 12 counts, and he received a sen-

tence of 120 months of imprisonment and was

ordered to pay $3.275 billion in restitution. A

jury found Forbes, who was Cendant’s chair-

man, guilty on three counts: one count of con-

spiring to file false statements with the SEC

1.15

Report To The President – Corporate Fraud Task Force 2008

and to commit securities fraud; and two counts

of filing false statements with the SEC. In

January 2007, the U.S. District Court for the

District of New Jersey imposed a sentence of

151 months’ imprisonment and $3.275 billion

in restitution.

Terry Manufacturing Company

Roy and Rudolph Terry were brothers who

owned and managed Terry Manufacturing

Company (“TMC”), a manufacturer of uniforms

in Roanoke, Alabama. TMC began to decline

financially in the late 1990s. In order to keep

TMC afloat, Roy Terry began a four-year-long

campaign to fraudulently obtain financing for

TMC. Through the use of false financial state-

ments, Roy Terry fraudulently obtained over $20

million for TMC from banks and individual

investors. Roy Terry also embezzled funds from

the TMC pension plan. Rudolph Terry partici-

pated in the defrauding of individual investors to

the extent of $5.5 million. In a case handled in

the Middle District of Alabama, on June 17,

2005, Roy Terry pled guilty to an information

charging mail, wire, and bank fraud; misuse of

pension funds; and interstate transportation of

fraudulently obtained proceeds. On April 3,

2006, Rudolph Terry pled guilty to an informa-

tion charging conspiracy. Rudolph Terry was sen-

tenced to 41 months’ imprisonment. Roy Terry

was sentenced to 78 months’ imprisonment.

World Auto Parts

This case concerns fraud by an owner and

top management of a privately held company,

World Auto Parts, against Chase Bank. The

defendants engaged in fraud against the bank,

in particular, falsifying asset information pro-

vided to the bank, for the purpose of keeping

the bank's revolving line of credit going. Had

the bank been aware of the true financial status

of the company, it would likely have called the

loan. The company comptroller has pled guilty

and was a key witness during the trial. His sen-

tencing was adjourned until after the trial,

which concluded with a verdict convicting the

owner of six counts of the indictment against

him. Three of those counts carry statutory max-

imum penalties of 30 years’ imprisonment,

while the other three counts have 20-year max-

imums. The total loss to the bank as a result of

his conduct was approximately $11 million.

Sentencing is pending in the Western District

of New York.

National Air Cargo, Inc.

National Air Cargo, Inc., a national air freight

forwarder based in Orchard Park, New York, and

owned by Christopher Alf, entered into a corpo-

rate plea in the U.S. District Court for the

Western District of New York to a felony charge

of making a material false statement to the

Government. National Air Cargo, which con-

tracts with the Department of Defense to trans-

port freight, admitted falsifying a document to

show an "on time" delivery date to the

Government, when in fact, that delivery had

been made later than the date reported. This plea

resolved an ongoing multi-agency investigation

into defendant’s domestic billing and shipping

practices. Pursuant to Rule 11(c)(1)(C) of the

Federal Rules of Criminal Procedure, defendant

agreed, upon the acceptance of the plea and at the

time of sentencing, to make payments totaling

$28 million. Such payments would represent the

largest criminal monetary resolution in the his-

tory of the Western District of New York. Of

that amount, defendant, in addition to agreeing

to pay the maximum fine of $8.8 million, has

also agreed to pay restitution to the United

States in the amount of $4.4 million, and to set-

tle a related civil forfeiture claim with a payment

of $7.429 million, as well as an additional $7.129

million in settlement of a related civil qui tam

action.

1.16

Corporate Fraud Task Force Member Contributions

International Heritage

In November, 2006, Stanley H. Van Etten

was sentenced in the Eastern District of North

Carolina following his conviction for charges

related to his activities as founder and CEO of

the former International Heritage, Inc. (IHI),

a Raleigh-based multilevel marketing company

and for fraud related to Mayflower Venture

Capital Fund III (Mayflower) and its purport-

ed investment in BuildNet, a Durham-based

software company. Van Etten was given 10

years’ imprisonment and ordered to make resti-

tution in the amount of $14,484,620 to the

victims of the now defunct Mayflower Venture

Capital Fund III. The case involved two

schemes: first was IHI, determined by federal

regulators to be one of the biggest pyramid

schemes they had ever seen, involving over

150,000 individuals and gross receipts of over

$150 million at its peak; and second,

Mayflower Fund III, a Raleigh-based capital

venture fund which was supposed to invest in

the BuildNet IPO. It was discovered that 120

investors were defrauded of over $15 million

when the Mayflower funds were used for other

purposes without the investors’ knowledge.

Five former Van Etten IHI associates pled

guilty to IHI-related charges including co-

founders Claude Savage and Larry G. Smith.

Also VP John Brothers was found guilty.

Convictions were further obtained against the

IHI principal accountant and an attorney.

innacle Development Partners, LLC

Gene A. O'Neal served as CEO and presi-

dent of Pinnacle Development Partners, LLC

("Pinnacle"), a real estate investment fund

headquartered in Atlanta. Between October

2005 and October 2006, O'Neal raised more

than $60 million in investment from more

than 2,000 nationwide investors. The scope

and rate of investment in Pinnacle flowed from

O'Neal's promise of a 25% rate of return in 60

days, which O'Neal falsely represented was

generated by Pinnacle's real estate develop-

ment activities. The returns were in fact paid

solely by later investors' capital contributions,

resulting in a huge, and undisclosed, debt bur-

den. By the time the SEC and FBI interceded

in October 2006, O'Neal's investors had lost

over $20 million. He was indicted by the

Northern District of Georgia U.S. Attorney’s

Office in March 2007, pled guilty, and was

sentenced to 144 months in prison in

September 2007.

Key Bank

David Verhotz was a senior vice president

and the head of international banking for Key

Bank in Cleveland. During a nine-year period

from October 1997 to November 2006, Verhotz

fraudulently obtained 106 loans totaling $40.6

million. When this activity was discovered in

November 2006, there were 29 unpaid loans

totaling $18.6 million. In a case prosecuted by

the U.S. Attorney’s Office for the Northern

District of Ohio, Verhotz pled guilty to bank

fraud on January 25, 2007. He was sentenced to

97 months’ imprisonment, five years’ supervised

release, and ordered to pay $18.6 million restitu-

tion. Verhotz agreed to forfeit substantial real

and personal property, including a $5.6 million

home in Sagaponack, New York; $2.7 million in

escrow for the purchase of a condominium on

Park Avenue in New York; and more than $2

million in jewelry.

Fruit of the Loom, Inc.

Kalen Watkins, the former director of envi-

ronmental services for Fruit of the Loom, Inc.,

located in Bowling Green, Kentucky, was

charged by the U.S. Attorney’s Office for the

Western District of Kentucky with seven

counts arising from a conspiracy to defraud

1.17

Report To The President – Corporate Fraud Task Force 2008

Fruit of the Loom of approximately $1 million.

In this case, which involves self-dealing by a

corporate insider, Watkins enlisted co-conspira-

tors to submit false invoices to Fruit of the

Loom for services never rendered, or to submit

inflated invoices. When the invoices were paid,

Watkins’ co-conspirators paid kickbacks to

Watkins in return for Fruit of the Loom busi-

ness. On April 25, 2007, Watkins pled guilty to

three counts of the indictment: conspiracy to

commit mail fraud, and two counts of money

laundering. Watkins was pending trial on the

remaining four counts of the indictment. On

August 24, 2007, three days before two of

Watkins’ co-conspirators went to trial, Watkins

pled guilty to additional counts of money laun-

dering and obstruction of justice for creating

fraudulent correspondence that was produced in

response to a grand jury subpoena.

National Century Financial Enterprises,

Inc. (“NCFE”)

NCFE was the largest healthcare finance

company in the United States prior to its col-

lapse in November 2002. Through two of its

subsidiaries, NCFE sold billions of dollars of

asset-backed securities to large institutional

investors from around the world by representing

that investor funds would be used to purchase

health care accounts receivable. From about

1994 through October 2002, NCFE’s owners

and executives diverted billions of investor dol-

lars for other purposes, including the unjust

enrichment of NCFE’s owners. The loss to

investors in NCFE asset-backed securities was

in excess of $2.88 billion at the time the com-

pany collapsed. Four of NCFE’s executives,

including its CFO and another executive vice

president, pled guilty to conspiracy, money

laundering, and/or securities fraud offenses.

Seven other owners and executives of NCFE

are awaiting trial on an indictment that charges

them with conspiracy, money laundering, mail

fraud, wire fraud, and securities fraud offenses,

and that includes a $1.9 billion forfeiture count.

The charges against these individuals were the

result of one of the largest fraud investigations

involving a privately held corporation ever con-

ducted by the FBI. The U.S. Attorney’s Office

for the Southern District of Ohio and the

Criminal Division prosecuted this case.

A Financial Corp.

MCA Financial Corp., based in Southfield,

Michigan, was a privately held mortgage company

that made conventional and subprime loans to

individual homebuyers in Michigan and several

other states. MCA was also a mortgage and land

contract broker and servicer. MCA defrauded

both its investors, who purchased MCA’s bonds

and mortgage-backed securities, and institutional

lenders by misrepresenting its true financial condi-

tion in financial statements that were regularly

filed with the SEC. As the result of paper transac-

tions involving low-income housing in the City of

Detroit between MCA and numerous off-book

partnerships controlled by MCA’s top two execu-

tives, tens of millions of dollars in sham assets and

revenues were booked. Seven former MCA exec-

utives, including its chairman and CEO, president

and COO, CFO, and controller, were convicted in

the Eastern District of Michigan of conspiracy,

wire fraud, mail fraud, bank fraud, and filing false

statements with the SEC. Their sentences, the last

of which were imposed in 2006, ranged from 10

years’ imprisonment, for the former chairman, to

12 months of alternative confinement, for a senior

vice president who cooperated. The defendants

were also ordered to pay restitution, jointly and

severally, to investors and lenders in the amount of

$256 million.

Electr

o Scientific Industries

On June 25, 2007, James T. Dooley, the for-

mer CEO of Electro Scientific Industries, a

high tech manufacturer headquartered in

Portland, pled guilty to one count of making

1.18

Corporate Fraud Task Force Member Contributions

false statements to a publicly traded company.

During the process of closing the books for the

first quarter of FY 2003, he unilaterally elimi-

nated the retirement benefits for all employees

in Asia. He falsely represented to the compa-

ny’s auditor that legal counsel had approved

the decision, when in fact no such legal advice

had been procured. During the second quar-

terly review process of 2003, a second employ-

ee, James Lorenz, failed to disclose that he had

made a significant change in the way a certain

category of inventory was treated, changing the

item from an expense to a company asset.

Lorenz pled guilty to making false statements

to the auditor. Sentencing is scheduled for

February 2008 in the District of Oregon.

Federal Bureau of Investigation

Securities Fraud Market Manipulation

Initiative

The FBI has undertaken several proactive

ecurities Fraud Market Manipulation initiatives

that aggressively pursue corrupt participants in

the financial markets.These initiatives use under-

cover techniques not only to target traditional

market manipulation schemes, but also to curb

the rising threat posed by market manipulations

carried out via computer intrusion.

Corporate Fraud Response Team

The Corporate Fraud Response Team

(CFR

T) is designed to provide a rapid start to

complex corporate fraud matters through a team

deployment of Special Agents, Financial

Analysts, and Asset Forfeiture investigators.

CFRT members have the experience and finan-

cial expertise necessary to provide expert advice

and assistance to case agents investigating large-

scale corporate frauds. CFRT members assist

case agents in the planning and execution of

searches, the immediate identification of perti-

nent documents, efficient document manage-

FBI Corporate & Securities Fraud Statistics

Fiscal Years 2003-2007

2003 2004 2005 2006 2007

500

1000

1500

2000

1215

1319

1562

1655

1746

Cases

Over the five year period from FY 2003 to FY 2007, the FBI has opened a

consistent average of 505 new Corporate and Securities Fraud cases each year.

Informations/indictments and convictions have also remained relately stable

at an average of 531 and 458 each year, respectively.

2003 2004 2005 2006 2007

200

300

400

600

463

431

513

413

473

Convictions

500

100

2003 2004 2005 2006 2007

200

300

400

600

Fiscal Years

508

585

505

496

567

Informations & Indictments

500

100

Percent change from FY01- FY07

43.70%

Percent change from FY01- FY07

2.16%

Percent change from FY01- FY07

11.61%

ment, interviews, and by providing "best practice"

guidance for large-scale corporate fraud investi-

gations. CFRT deployments produce well-

organized corporate fraud investigations that will

ultimately lead to more efficient prosecutions.

The CFRT is available for temporary deploy-

ment to any field office nationwide.

1.19

Report To The President – Corporate Fraud Task Force 2008

FBI Corporate Fraud Statistics

Fiscal Years 2003-2007

2003 2004 2005 2006 2007

100

300

400

600

287

332

423

490

529

Cases

Over the past five years, the FBI has opened a consistent average of 161 new

Corporate Fraud investigations each year. Informations/indictments and

convictions have also remained relatievely stable at an average of 175 and

145 each year, respectively.

500

200

2003 2004 2005 2006 2007

120

160

200

143

126

150

134

173

Convictions

120

160

200

2003 2004 2005 2006 2007

Fiscal Years

150

192

178

176

183

Informations & Indictments

Percent change from FY01- FY07

84.32%

Percent change from FY01- FY07

20.98%

Percent change from FY01- FY07

22.00%

FBI Securities/Commodities Fraud Statistics

Fiscal Years 2003-2007

2003 2004 2005 2006 2007

400

800

1000

1400

928

987

1139

1165

1217

Cases

Over the past five years, the FBI has opened a consistent average of 344 new

Securities/Commodities Fraud investigations each year. Informations/indict-

ments and convictions have also remained relatively satble at an average of 356

and 313 each year, respectively.

1200

600

200

2003 2004 2005 2006 2007

200

250

300

400

320

305

363

279

300

Convictions

350

100

150

200

250

300

400

350

100

150

450

2003 2004 2005 2006 2007

Fiscal Years

358

393

327

320

384

Informations & Indictments

Percent change from FY01- FY07

31.14%

Percent change from FY01- FY07

(6.25%)

Percent change from FY01- FY07

7.26%

Department of the Treasury

Within the Treasury Department, the

Criminal Investigation Division (CI) of the

Internal Revenue Service (IRS) is responsible

for taking steps to combat corporate fraud.

Combating corporate fraud continues to be a

priority for the IRS and CI. Most recently, in

CI’s FY 2007 Annual Business Plan, targeting

cor

porate fraud is identified as a compliance

strategy supporting the IRS’ strategic goals:



Corporate corruption, designated as a high

priority for the Department of Justice, con-

tinues to be a priority in CI as well. Criminal

Investigation will continue to work with the

1.20

Corporate Fraud Task Force Member Contributions

Small Business/Self-Employed (SB/SE) and

Large & Mid-Size Business (LMSB)

Divisions to identify and investigate alleged

violations by corporate officers and executives.

To identify and investigate high-impact cor-

porate fraud cases, CI will also work with the

United States Attorneys’ Offices (USAO),

the Federal Bureau of Investigation (FBI), the

Securities and Exchange Commission (SEC),

and other federal and state agencies. Field

office corporate fraud coordinators will con-

tinue to serve as liaisons with our civil part-

ners, helping to facilitate fraud referrals.

CI’s involvement in most of the regional

corporate fraud task forces has resulted in the

following:

Activity



CI maintains Corporate Fraud Coordin-

ators in each field office



CI conducts Corporate Fraud Training for

Special Agents and Coordinators



CI works closely with IRS’s Large and

Mid-Size Business (LMSB) Operating

Division promoter teams investigating abu-

sive tax shelters



CI works closely with LMSB Issue

Management Teams (IMT) focused on

executive compensation abuses (e.g., back-

dating stock options)

FY 2005 FY 2006 FY 2007

Investigations Initiated

102 40 124

Prosecution Recommendations

115 76 77

Indictments/Informations

69 78 53

Sentenced

51 36 51

Incarceration Rate

80.4% 86.1% 68.6%

Avg. Months to Serve

23 49 20



CI established a specific program area ded-

icated to Corporate Fraud

Recent Significant Cases

Beaulieu Group Pays $32 Million; Two

Executives of Beaulieu Step Down from

Corporate Positions. On July 11, 2007, in Rome,

GA, Beaulieu Group, LLC (Beaulieu), of Dalton,

Georgia, paid $32 million in back taxes, penalties

and other costs as a result of filing false tax returns.

As part of the plea agreement, Carl M. Bouckaert,

chairman and CEO of Beaulieu, and Mieke D.

Hanssens, executive vice president, agreed to step

down as corporate officers of Beaulieu. In addition,

the company was placed on five years’ probation.

Additionally, both the company and the offi-

cers stepping down were ordered not to commit

any other federal state or local tax violations. The

company was also re-quired to submit quarterly

reports to update the court on its business ethics

policies. The court reserved the right to inspect re-

cords of the company to ensure compliance.

Former Chief Financial Officer of Superior

Electric Company Sentenced to 15 Months In

Prison for Tax Conspiracy. On March 28, 2007,

in Columbus, OH, John P. McShane was sen-

tenced to 15 months in prison and ordered to

pay $1.6 million in restitution to the IRS for

his role in a tax fraud scheme. McShane was

the CFO of Superior Electric Company, a

Columbus commercial electrical contracting

company that is now

defunct. McShane and

his company president,

Jerry P. Gemeinhardt,

each pled guilty in

November 2006 to con-

spiracy to impede and

impair the IRS.

The decline in the FY 2007 incarceration rate is the result of a larger number of sentenced

cases identified as a corporate entity in the FY 2007 data, when compared to FY

2006.Corporate entities do not result in months to serve, and therefore reduce the incar-

ceration rate.

1.21

Report To The President – Corporate Fraud Task Force 2008

Former Cable Television Executive Sentenced to

108 Months on Tax and Fraud Charges. On

March 5, 2007, in Miami, FL, Charles C.

Hermanowski, aka John Stobierski, was sentenced

to 108 months in prison, followed by three years of

supervised release, and ordered to pay a $4 million

fine. On December 15, 2006, Hermanowski pled

guilty to 39 tax and fraud charges arising out of

Hermanowski’s operation of a series of Miami-

based cable television companies.

Jury Convicts Former Chief Executive Officer of

Digital Consulting, Inc. of Conspiracy and Tax

Evasion. On January 25, 2007, in Boston, MA,

George Schussel was convicted by jury of tax

fraud conspiracy and tax evasion for spearhead-

ing a scheme in which he diverted millions in

unreported income generated by his company,

Digital Consulting, Inc. (DCI), to an off-shore

account in Bermuda to avoid paying taxes. On

July 12, 2007, in Boston, MA, George Schussel

U.S. Postal Inspection Service

Corporate Fraud Investigations Statistics

Fiscal Years 2004-2007

was sentenced to 60 months in prison, followed

by two years of supervised release, and fined

$125,000 for tax fraud conspiracy and tax eva-

sion. Schussel was also ordered to meet with

the IRS to resolve his outstanding tax liability on

millions of dollars that he evaded.

Former Vice President of Taxation at Tyco

Sentenced to Prison for Filing a False Corporate

Tax Return. On November 29, 2006, in Miami,

FL, Raymond Scott Stevenson, former vice

president of taxation at Tyco, was sentenced to

36 months in prison, one year of supervised

release, and ordered to pay a $100,000 fine for

filing a false corporate tax return. In

September 2006, Stevenson entered a plea of

guilty to intentionally failing to report more

than $170 million in income on Tyco

International Ltd.’s 1999 corporate tax return,

which would have resulted in an additional tax

liability of approximately $50 to $60 million.

Open Cases

Jacketed Cases

Work Hours

Information/Indictments

Arrests

Convictions

Fiscal Year

2004

123

63,554

Fiscal Year

2005

146

57,378

Fiscal Year

2006

135

45,996

Fiscal Year

2007

112

36,192

Court Ordered Restitution

Criminal Fines

Voluntary Restitution

$75,016,835

$275,000

$138,100,000*

$63,645,399

$1,280,600

$25,067,997

$599,138

$650,000

$496,770,514

$19,185,000

Symbol Technologies Settlement Agreement with Government/SEC. Entered in Case Management System as

Voluntary Restitution.

1.22

Corporate Fraud Task Force Member Contributions

Ralphs Grocery Company Pays $70 Million in

Criminal Fines; Placed on Three Years Corporate

Probation. On November 14, 2006, in Los

Angeles, CA, Ralphs Grocery Company was

placed on corporate probation for three years,

during which time it will be required to estab-

lish court-supervised training and compliance

programs. Ralphs and its parent company,

Kroger, have agreed to cooperate fully with the

Government in its continuing investigation.

Recently, Ralphs has paid $70 million dollars

in criminal fines as well as compensation,

health benefits, and pension funds for Ralphs’

workers and their unions, after pleading guilty

to several criminal charges for illegally rehiring

hundreds of locked-out union members during

the 2003-2004 labor dispute.

Civil Enforcement

The Department of Labor

The Department of Labor’s Employee

Benefits Security Administration (EBSA) con-

tinues to aggressively protect employee benefit

plans from the effects of corporate fraud. Since

the creation of the Corporate Fraud Task Force,

EBSA completed over 40 civil and criminal

investigations opened due to potential corporate

fraud issues affecting employee benefit plans. In

connection with its corporate fraud investiga-

tions, EBSA has obtained more than $790 mil-

lion for the benefit of employees, cooperating

with other federal enforcement agencies includ-

ing the Department of Justice, the Federal

Bureau of Investigation, and the Securities and

Exchange Commission.

EBSA filed successful civil lawsuits against

numerous fiduciaries of Enron Corporation’s

retirement plans, including Kenneth Lay and

Jeffrey Skilling; against Scott Sullivan, who

was the plan fiduciary for the MCI Worldcom,

Inc., 401(k) plan; and against Franklyn Bergonzi,

the plan fiduciary for the Rite Aid 401(k) plan.

EBSA also obtained permanent injunctions

against Aaron Beam, Jr., Anthony Tanner and

Michael D. Martin, who were the fiduciaries of

the HealthSouth Rehabilitation Corporation

and Subsidiaries Employee Stock Ownership

Plan; and Gary Winnick, Dan Cohrs, Joseph

Perrone, and John Comparin, the fiduciaries of

the Global Crossing Employees’ Retirement

Savings Plan. EBSA also worked with the

Department of Justice and the Federal Bureau

of Investigation in bringing criminal actions

that resulted in convictions or guilty pleas by

several defendants involved with the U.S.

Foodservice and Ahold USA 401(k) plans.

The Department filed amicus briefs in 13

corporate fraud cases: In re Schering-Plough

ERISA Litigation on October 20, 2004; Lang-

becker v. EDS on April 26, 2005; Vaughn v. Bay

Environmental on June 6, 2006; Holzscher v.

Dynegy on June 28, 2006; Dickerson v. Feldman

on July 18, 2006; Kirschbaum v. Reliant Energy

on August 16, 2006; Graden v. Conexant on

September 1, 2006; Bridges v. Am. Elec. Power

on October 19, 2006; Howell v. Motorolla on

November 1, 2006; Phelps v. Calpine on

November 15, 2006; Rogers v. Baxter on

December 8, 2006; Harsewski v. Guidant on

January 2, 2007; Wangberger v. Janus Capital on

January 10, 2007; and Lively v. Dynegy on

October 10, 2007.

Office of Federal Housing Enterprise

Oversight (OFHEO)

The Office of Federal Housing Enterprise

Oversight (OFHEO) serves as the safety and

soundness regulator for the government-spon-

sored enterprises Fannie Mae and Freddie Mac

(the Enterprises). OFHEO provides on-site

supervision through its examination force,

including oversight of Enterprise efforts to

resist and detect fraudulent activities from

1.23

Report To The President – Corporate Fraud Task Force 2008

internal or external threats. When OFHEO

discovers criminal activities, it refers its findings

to the appropriate federal or state authorities.

Over the last few years, OFHEO’s efforts

regarding corporate fraud have centered on

remedial steps at the Enterprises to strengthen

their internal controls, including internal audit;

on adding stronger rules for corporate gover-

nance and responsibility; and on Enterprise

programs to resist fraudulent activities in the

mortgage markets.

The Corporate Fraud Task Force has been

important to OFHEO’s supervisory program,

with members providing valuable contributions

such as briefings on white collar crime and for-

eign asset control rules for OFHEO front-line

examiners, and enhancing OFHEO’s work on

mortgage fraud.

Mortgage Fraud

Following litigation brought by the U.S.

Attorney for the Western District of North

Carolina involving mortgage fraud against

Fannie Mae, OFHEO examiners analyzed the

controls and operating systems for any short-

comings that permitted such a fraud to be

attempted against the Enterprise. Enterprise

remediation began immediately.

With the cooperation and assistance of

members of the Corporate Fraud Task Force,

OFHEO published a regulation for mortgage

fraud reporting that brought information pro-

vided by the Enterprises to OFHEO into the

reporting regime administered by the Treasury

Department’s Financial Crimes Enforcement

Network (FinCEN). The regulation required

ongoing employee training, internal reporting

improvements, and enhanced mortgage fraud

detection regimes.

Following OFHEO testimony in 2005, lan-

guage regarding mortgage fraud was added to

bills now pending before Congress to revamp

supervision of the Enterprises.

Since the creation of the regulation and a

clarifying guidance, OFHEO has worked close-

ly with law enforcement around the country on

matters involving cases of suspected mortgage

fraud reported by the Enterprises. OFHEO

participates regularly with the Justice

Department’s Mortgage Fraud Working Group

to share information and experience regarding

mortgage fraud with law enforcement and

financial regulators.

In 2006 and 2007, OFHEO was consulted

by law enforcement as a result of its filing of

Suspicious Activity Reports to FinCEN based

on a MOU regarding information sharing. The

FBI, Department of Justice, IRS and other

agencies in various localities have sought addi-

tional information on specific cases based on

OFHEO reports. Further, OFHEO continues

to provide public outreach through publications

and public appearances and has raised concerns

that the subprime lending problems of 2007

may prove to be rife with fraudulent activities.

Examinatio

n of Enterprise Accounting and

Controls

From 2004 to the present, OFHEO contin-

ued overseeing the remediation of Enterprise

accounting and control structures. These efforts

have included putting in place new corporate

risk, audit and compliance structures at the

Enterprises and deploying increased resources to

prevent opportunities for falsification of records

or other fraud and to increase overall manage-

ment control. Other structural and cultural

changes were also part of the OFHEO agree-

ments with the Enterprises.

OFHEO during the past five years has

responded to the challenges of overseeing

Enterprise activities by enhancing both the size

and diversity of its staff and by creating two new

1.24

Corporate Fraud Task Force Member Contributions

examination groups—the Office of Accounting

and the Office of Compliance. In addition,

OFHEO has published guidances relating to

accounting, executive compensation and corpo-

rate governance that seek to clarify the policies

of the agency regarding the responsibilities of

the Enterprises in these areas.

Corporate Governance Regulation

In 2005, OFHEO amended its corporate

governance regulation. In large measure, the

revisions to the corporate governance rule were

aimed at increasing management responsibility

at the Enterprises and enhanced oversight by

the Board of Directors.

The amended rule elaborated upon the cor-

porate governance responsibilities of officers

and directors at the Enterprises, including (1)

mandatory, annual officer and director training

on legal responsibilities, (2) enhanced rules

providing for director independence, (3) exec-

utive compensation standards tied not only to

revenue production but also to law and regula-

tory compliance and operational stability, (4)

mandatory review and updating of conflict of

interest standards, and (5) mandating audit

partner rotation. An OFHEO guidance in

2006 went further, requiring not only rotation

of audit partners, but also rotation of audit

firms. That guidance also enhanced board

independence by requiring a separation of the

board chair and Enterprise CEO. Finally, the

amended rule called for the creation of compli-

ance offices to oversee compliance with law

and regulations related to OFHEO and corpo-

rate and financial disclosure.

Enforcement Actions

As part of its enforcement activities,

OFHEO entered into a consent agreement

with Freddie Mac that included a $125 million

penalty (subsequently an additional $50 mil-

lion penalty was imposed by the SEC) and a

consent agreement with Fannie Mae that

included a $400 million penalty. OFHEO also

entered into consent agreements in 2007 with

former Freddie Mac chairman and CEO

Leland Brendsel that included penalties, dis-

gorgement, and waiver of claims totaling $16.4

million, and with former Freddie Mac CFO

Vaughn Clarke that imposed a civil money

penalty of $125,000. Also, a consent agreement

was entered into with former Freddie Mac

President & COO David Glenn, with an

attendant civil money penalty of $125,000.

Outstanding enforcement actions remain

against former Fannie Mae CEO Franklin

Raines, CFO Timothy Howard and Controller

Leanne Spencer.

Securities and Exchange Commission

American International Group, Inc.

On February 9, 2006, the Commission filed

settled charges against American International

Group, Inc. (AIG) for securities fraud, alleging

that AIG misled investors about its financial

results by entering into sham reinsurance

transactions. The settlement required AIG to

pay a penalty of $100 million and disgorge ill-

gotten gains of $700 million.

Time Warner Inc.

On March 21, 2005, the Commission

charged Time Warner Inc. with materially

overstating online advertising revenue and the

number of its Internet subscribers and with

aiding and abetting three other securities

frauds. The Commission also charged that the

company violated a prior Commission cease-

and-desist order. In a separate administrative

proceeding, the Commission charged the

CFO, the controller, and a deputy controller

with causing violations of the reporting provi-

sions of the federal securities laws. Time

Warner consented to the entry of a judgment

that, among other things, ordered it to pay

1.25

Report To The President – Corporate Fraud Task Force 2008

$300 million in penalties. The executives con-

sented to the entry of a Commission cease-and-

desist order.

Federal Home Loan Mortgage Corporation

(Freddie Mac)

On September 27, 2007, the Commission

filed a settled enforcement action charging

Freddie Mac with securities fraud in connection

with improper earnings management. The

Commission’s action also charged former Freddie

Mac executives David W. Glenn, its former pres-

ident, COO, and vice-chairman of the board;

Vaughn A. Clarke, its former CFO; Robert C.

Dean, a former senior vice president; and Nazir

G. Dossani, a former senior vice president. The

Commission alleged that Freddie Mac engaged

in a scheme that deceived investors about its per-

formance, profitability, and growth trends and

that the company misreported its net income in

2000, 2001, and 2002. In its settlement with the

Commission, Freddie Mac agreed to pay a $50

million penalty. Glenn, Clarke, Dossani, and

Dean agreed to pay penalties of $250,000,

$125,000, $75,000, and $65,000, respectively, in

addition to disgorgement.

MBIA Inc.

On January 29, 2007, the Commission filed

a settled civil action against MBIA Inc. alleging

securities fraud. The Commission alleged that,

to avoid a loss of $170 million from the default

on bonds it had guaranteed, MBIA entered into

improper, retroactive reinsurance contacts and

falsely represented that it had obtained reinsur-

ance coverage for the bonds. In connection with

the settlement, MBIA agreed to pay a $50 mil-

lion penalty.

Tyco International Ltd.

On April 17, 2006, the Commission filed a

settled civil injunctive action against Tyco

International Ltd. The Commission alleged that,

from 1996 through 2002, Tyco violated the feder-

al securities laws through various improper

accounting practices and that it overstated its

reported financial results by at least one billion

dollars. Tyco agreed to pay a $50 million penalty.

McAfee, Inc.

On January 4, 2006, the Commission filed

securities fraud charges against McAfee, Inc.,

formerly known as Network Associates, Inc.

The Commission’s complaint alleged that, from

the second quarter of 1998 through 2000,

McAfee overstated its revenue and earnings by

hundreds of millions of dollars. McAfee agreed

to pay a $50 million penalty.

ConAgra Foods, Inc.

On July 24, 2007, the Commission filed civil

charges against ConAgra Foods, Inc., alleging

that it engaged in improper, and in certain

instances fraudulent, accounting practices dur-

ing its fiscal years 1999 through 2001. The

fraudulent practices alleged involved the misuse

of corporate reserves to manipulate reported

earnings and a scheme at a former subsidiary

that involved improper and premature revenue

recognition. Additionally, the complaint alleged

that ConAgra's tax department made numerous

tax errors, causing the company to misstate its

reported income tax expense by $105 million.

To settle the charges, ConAgra agreed to pay a

$45 million penalty.

Cardinal Health, Inc.

On July 26, 2007, the Commission an-

nounced that Cardinal Health, Inc., a pharma-

ceutical distribution company, agreed to pay a

$35 million penalty and settle charges that it

engaged in a fraudulent revenue and earnings

management scheme, as well as other improper

accounting and disclosure practices, from

1.26

Corporate Fraud Task Force Member Contributions

September 2000 through March 2004. Cardinal

materially overstated its operating revenue,

earnings, and growth trends in certain earnings

releases and filings with the Commission.

Adelphia Communications Corp.

On April 25, 2005, Adelphia Communi-

cations Corporation, its founder John J. Rigas,

and his three sons settled civil and criminal

charges in one of the most extensive financial

frauds ever to take place at a public company.

Under the settlement agreement, the Rigas

family members forfeited in excess of $1.5 bil-

lion in assets that they derived from the fraud.

Qwest Communications International Inc.

On March 15, 2005, the Commission

charged Joseph P. Nacchio, former co-chairman

and CEO of Qwest Communications

International Inc., and eight other former

Qwest officers and employees with fraud and

other violations of the securities laws. According

to the SEC's complaints, Nacchio and others

made numerous false and misleading statements

about Qwest's financial condition in annual,

quarterly, and current reports; in registration

statements that incorporated Qwest's financial

statements; and in other public statements,

including earnings releases and investor calls.

AremisSoft Corp.

On June 9, 2006, Roys Poyiadjis, a former

CEO at AremisSoft Corporation, settled the

Commission's securities fraud charges against

him brought in October 2001. Poyiadjis agreed

to disgorge approximately $200 million and to

accept an officer-and-director bar. The

Commission's complaint charged that Poyiadjis

made fraudulent statements in public filings and

press releases.

National Century Financial Enterprises, Inc.

On December 21, 2005, the Commission

filed a civil injunctive action alleging that four

NCFE executives participated in a scheme to

defraud investors. In October 2002, NCFE

suddenly collapsed, causing investor losses

exceeding $2.6 billion.

Mercury Interactive, LLC

On May 31, 2007, the Commission filed

civil fraud charges against Mercury Interactive,

LLC and four former senior officers: former

Chairman and CEO Amnon Landan, former

CFOs Sharlene Abrams and Douglas Smith,

and former General Counsel Susan Skaer. The

Commission alleged that from 1997 to 2002,

Mercury, acting through Landan, Abrams,

Smith, and Skaer, fraudulently awarded undis-

closed compensation to executives and

employees by backdating every stock option

granted and failed to record over $258 million

in compensation expenses. Mercury settled,

paying a $28 million penalty and agreeing to

be permanently enjoined. The case against the

other defendants is ongoing.

Brocade Communications Systems, Inc.

On May 31, 2007, the Commission filed a

settled civil action against Brocade Communi-

cations Systems, Inc. for falsifying its reported

income from 1999 through 2004. The Com-

mission alleged that Brocade's former CEO,

president, and chairman, Gregory L. Reyes,

routinely granted in-the-money stock options

for which a financial statement expense was

required, but not recorded. Brocade agreed to

pay a penalty of $7 million to settle the

charges. On August 17, 2007, the Commission

filed fraud charges against Michael J. Byrd,

Brocade’s former CFO and COO, alleging

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Report To The President – Corporate Fraud Task Force 2008

that Byrd, who himself received backdated

options, received information suggesting that

certain of the company’s grants were backdated,

but failed to ensure that the grants were proper-

ly accounted for or disclosed to investors.

Juniper Networks, Inc.

On August 28, 2007, the Commission filed

fraud charges against Lisa C. Berry for backdating

option grants from 1997 to 2003, first as general

counsel of KLA-Tencor Corporation and then as

general counsel of Juniper Networks, Inc. The

Commission also filed a settled enforcement

action against Juniper. The Commission alleges

that Berry routinely used hindsight to identify

dates with historically low stock prices, facilitating

the backdating of option grants by KLA's stock

option committee. According to the Commission,

Berry then moved to Juniper, establishing a simi-

lar backdating process there. The Commission's

complaint alleges that the backdated grants result-

ed in KLA overstating its net income in fiscal

years 1998 through 1999 by as much as 47% and

Juniper overstating its 2003 net income by nearly

22%. Juniper agreed to settle the matter by con-

senting to an injunction.

KLA-Tencor Corp.

On July 25, 2007, the Commission filed charges

against Silicon Valley semiconductor company

KLA-Tencor Corporation (KLA) and its former

CEO, Kenneth L. Schroeder, alleging that they

engaged in an illicit scheme to backdate stock

option grants. The Commission alleged that KLA

concealed more than $200 million in stock option

compensation by providing employees and execu-

tives with in-the-money options while secretly

backdating the grants to avoid recording the

expenses. In a separate complaint filed against

Schroeder, the Commission charged that he repeat-

edly engaged in backdating after becoming CEO in

1999. KLA-Tencor agreed to settle the matter and

accept an injunction for certain non-fraud charges.

Integrated Silicon Solution, Inc.

On August 1, 2007, the Commission filed

charges against Integrated Silicon Solution, Inc.

(ISSI) and its former CFO alleging that they

engaged in a long-running scheme to backdate

stock option grants and conceal millions of dol-

lars of stock option compensation expenses. The

former CFO agreed to settle the matter by con-

senting to a permanent injunction, paying

$414,830 in disgorgement and interest and a

$125,000 penalty, and consenting to an order

barring him for five years from acting as an offi-

cer or director of a public company. ISSI agreed

to settle the matter by consenting to a permanent

injunction.

Apple, Inc.

On April 24, 2007, the Commission filed a

civil action against two former senior executives of

Apple, Inc. in connection with stock options back-

dating. Apple’s former CFO agreed to accept an

injunction for non-fraud violations and to pay

approximately $3.5 million in disgorgement,

interest, and penalties. The Commission alleges

that Apple’s former general counsel engaged in

fraudulent options backdating, and litigation

against her is ongoing. The Commission also

announced that it would not bring an enforcement

action against Apple in light of the company’s

swift, extensive, and extraordinary cooperation in

the Commission’s investigation.

Engineered Support Systems, Inc.

On July 12, 2007, the Commission filed a civil

injunctive action against Michael F. Shanahan, Sr.,

the former CEO of Engineered Support Systems,

Inc., and his son Michael F. Shanahan, Jr., a for-

mer member of Engineered Support's Compen-

sation Committee of its Board of Directors, alleg-

ing that they participated in a fraudulent scheme

to grant undisclosed, in-the-money stock options

to themselves and other engineered support offi-

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Corporate Fraud Task Force Member Contributions

cers, employees, and directors. The complaint

alleged that the employees and directors received

approximately $20 million in unauthorized and

undisclosed compensation.

Collins & Aikman Corp.

On March 26, 2007, the Commission filed

civil fraud charges against auto parts manufac-

turer Collins & Aikman Corporation (C&A);

David A. Stockman, C&A's former CEO and

chairman of the board of directors; and eight

other former C&A directors and officers. The

Commission alleged that between 2001 and

2005, Stockman personally directed fraudulent

schemes to inflate C&A's reported income by

improperly accounting for supplier payments

and that the other former officers, including

the CFO, controller, treasurer, and a former

member of C&A's board of directors, partici-

pated in the accounting schemes. C&A settled

the charges, agreeing to permanent injunc-

tions. The case against the other defendants is

ongoing.

DHB Industries, Inc.

On October 25, 2007, the Commission filed

fraud charges against David H. Brooks, the for-

mer CEO and chairman of DHB, a major sup-

plier of body armor to the U.S. military and to

law enforcement agencies. The Commission

alleges that Brooks manipulated the company's

gross profit margin and net income, that he fun-

neled millions of dollars out of DHB through

fraudulent transactions with a related entity he

controlled, and that he used company funds to

pay millions of dollars in personal expenses. The

complaint also alleges that, while in possession

of material, non-public information, Brooks

sold his personal DHB stock for proceeds of

about $186 million in late 2004 at the height of

DHB's stock price.

First BanCorp.

On August 7, 2007, the Commission filed

financial fraud charges against First BanCorp,

alleging that former senior management hid

the true nature of more than $4 billion worth

of transactions involving “non-conforming”

residential mortgages. The complaint alleged

that First BanCorp, which purportedly pur-

chased non-conforming mortgages in transac-

tions that were not “true sales,” earned more

than $100 million in interest income at little or

no risk.

Commodity Futures Trading

Commission (CFTC)

The CFTC regulates the commodity futures

and option markets in the United States. The

CFTC's mission is to protect market users and

the public from fraud, manipulation, and abusive

practices related to the sale of commodity and

financial futures and options, and to foster open,

competitive, and financially sound futures and

option markets. During the time that the CFTC

has been a Task Force member, the CFTC has

been responsible for the filing of more than 295

civil enforcement actions. As a result of these

actions, the CFTC obtained fines and restitution

orders totaling about $1.8 billion.

Since the creation of the Task Force, the

CFTC has devoted considerable efforts to

address manipulation of the energy markets and

commodity pool/hedge fund fraud. The

CFTC has actively investigated instances of

manipulation and attempted manipulation in

the energy markets by numerous energy compa-

nies. During this time, the CFTC filed 39

enforcement actions, charging 64 companies

and individuals with attempted manipulation,

manipulation and/or false reporting. These

actions have resulted in civil monetary penalties

1.29

Report To The President – Corporate Fraud Task Force 2008

totaling approximately $435 million. The CFTC

also filed more than 60 civil enforcement actions

against individuals and firms that fraudulently

operated multi-million dollar commodity pools

and hedge funds. These actions have resulted in

fines and restitution totaling almost $235 million.

CFTC v. Enron Corp., et al.

On March 12, 2003, the CFTC filed a civil

injunctive action against Enron Corp. (Enron),

and Hunter S. Shively, who was the supervisor of

the Central Desk of Enron’s natural gas trading

operation. The complaint alleged that the defen-

dants engaged in manipulation or attempted

manipulation, and further alleged that Enron

operated an illegal futures exchange, and traded an

illegal, off-exchange agricultural futures contract.

Until its bankruptcy in December 2001,

Enron was one of the largest energy companies

in the United States. Its natural gas trading unit

was based in Houston and managed several nat-

ural gas over-the-counter (OTC) products.

Enron’s natural gas trading unit was divided into

geographical regions and included a natural gas

futures desk. Shively was the supervisor and

trading manager of Enron’s Central Desk from

May 1999 through December 2001. From Nov-

ember 1999 through at least December 2001,

Enron Online (EOL) was Enron’s web-based

electronic trading platform for wholesale energy,

swaps, and other commodities, including the

Henry Hub (HH) natural gas next-day spot

contract that was delivered at the HH natural

gas facility in Louisiana. The HH is the delivery

point for the natural gas futures contract traded on

the New York Mercantile Exchange (NYMEX),

and prices in the HH Spot Market are correlated

with the NYMEX natural gas futures contract.

During its existence, EOL became a leading

platform for natural gas spot and swaps trading.

The complaint alleged that on July 19, 2001,

Shively, through EOL, caused Enron to pur-

chase an extraordinarily large amount of HH

Spot Market natural gas within a short period

of time, causing artificial prices in the HH Spot

Market and impacting the correlated NYMEX

natural gas futures price. The complaint also

alleged that in September 2001, Enron modi-

fied EOL to effectively allow outside users to

post bids and offers. Enron listed at least three

swaps on EOL that were commodity futures

contracts. The complaint alleged that with this

modification, Enron was required to register or

designate EOL with the CFTC or notify the

CFTC that EOL was exempt from registration.

Enron failed to do either of these things, and the

complaint charged that, because of this failure,

EOL operated as an illegal futures exchange.

Finally, the complaint alleged that Enron with

offering an illegal agricultural futures contract on

EOL. According to the complaint, between at

least December 2000 and December 2001, Enron

offered a product on EOL it called the US

Financial Lumber Swap. The complaint alleged

that the EOL lumber swap was an agricultural

futures contract that was not traded on a designat-

ed exchange or otherwise exempt, and therefore

was an illegal agricultural futures contract. CFTC

v. Enron Corp., et al., No. H-03-909 (S.D. Tex.

filed March 12, 2003).

On May 28, 2004 and July 16, 2004, the

court entered separate consent orders of perma-

nent injunction against Enron and Shively,

respectively. The sanctions imposed included:

permanent injunctions from further violations,

as charged; 18-month prohibition against

Shively from applying for registration with the

CFTC or acting in a capacity requiring such

registration; and civil monetary penalties

(Enron $35 million and Shively $300,000).

TC v. American Electric Power

Company, Inc., et al.

On September 30, 2003, the CFTC filed a

civil injunctive complaint against American

Electric Power Company, Inc. (AEP), and its

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Corporate Fraud Task Force Member Contributions

wholly-owned subsidiary, AEP Energy Services,

Inc. (AEPES). The complaint alleged that the

defendants, from at least November 2000

through October 2002, knowingly reported

false natural gas trading information, including

price and volume information, to certain

reporting firms that used such information in

publishing surveys or indexes (indexes) of nat-

ural gas prices with the intent to skew the

indexes to benefit their trading positions.

Specifically, the complaint alleged that the

defendants knowingly delivered to one report-

ing firm, Platts, over 3,600 purported natural

gas trades, 78% of which were false, misleading

or knowingly inaccurate. The complaint fur-

ther alleged that defendants conduct consti-

tutes an attempted manipulation, which, if suc-

cessful, could have affected prices of NYMEX

natural gas futures contracts. On January 26,

2005, the CFTC settled this enforcement

action. The Final Judgment and Consent Order

requires the defendants to pay a $30 million civil

monetary penalty in settlement of charges that

defendants falsely reported natural gas trades

and attempted to manipulate natural gas

prices. In addition, in related actions, AEPES

agreed to pay an additional $30 million to the

DOJ, and $21 million to the Federal Energy

Regulatory Commission. CFTC v. American

Electric Power Company, Inc., et al., No. C2 03

891 (S.D. Ohio filed Sept. 30, 2003, settled

Jan. 26, 2005).

Oper

ation Wooden Nickel

On November 18, 2003, the CFTC filed six

civil enforcement actions against 31 persons and

entities alleging forex fraud and other violative

conduct within the CFTC’s jurisdiction. These

enforcement actions, and related criminal

actions, were the culmination of the 18-month

“Operation Wooden Nickel” undercover inves-

tigation into forex and bank fraud conducted by

the U.S. Attorney and FBI in the Southern

District of New York. On November 19, 2003,

as part of a broader operation, the U.S. Attorney

filed criminal charges against 47 defendants and

arrested many of them. As part of the undercov-

er operation, federal criminal agents infiltrated a

forex boiler room in the World Financial Center

and captured hundreds of hours of video and

audio recordings of defendants allegedly schem-

ing to deceive unsuspecting customers and steal

millions of dollars. Operation Wooden Nickel is

the largest undercover operation in which the

CFTC has participated. As a result of these

efforts, the CFTC was successful in obtaining

fines and restitution totaling more than $100

million, and 56 individuals were convicted.

CFTC Operation Wooden Nickel Enforce-

ment Actions: CFTC v. First Lexington Group,

LLC, et al., No. 03 CV 9124 (S.D.N.Y. Nov. 18,

2003); CFTC v. Bursztyn, et al., No. 03 CV

9125 (S.D.N.Y. Nov. 18, 2003); CFTC v.

Walter, Scott, Lev & Associates, LLC, et al.,No. 03

CV 9126 (S.D.N.Y. Nov. 18, 2003); CFTC v.

ISB Clearing Corp., et al., No. 03 CV 9127

(S.D.N.Y. Nov. 18, 2003); CFTC v. Madison

Deane & Associates, Inc., et al., No. 03 CV 9128

(S.D.N.Y. Nov. 18, 2003); CFTC v. Itradecur-

rency USA LLC, et al., No. 03 CV 9129

(S.D.N.Y. Nov. 18, 2003).

In r

e Reliant Energy Services, Inc.

On November 25, 2003, the CFTC simulta-

neously filed and settled an administrative action

against Reliant Energy Services (RES), in which

the CFTC found that from at least February

1999 through May 2002, respondent’s Houston

offices of RES delivered false reports to certain

reporting firms and attempted to manipulate

natural gas prices. Moreover, the Order found

that on seven occasions between April and

November 2000, respondent executed non-com-

petitive, prearranged wash sales during off-

exchange trading of electricity contracts. The

CFTC Order required respondent to pay a civil

monetary penalty of $18 million. In March

2007, RES agreed to a deferred prosecution

1.31

Report To The President – Corporate Fraud Task Force 2008

agreement with the U.S. Attorney for the

Northern District of California. As part of the

agreement, RES agreed to pay a penalty of $22.2

million (in addition to a $13.8 million credit for

January 2003 settlement with the FERC pertain-

ing to the same incident). In re Reliant Energy

Services, Inc., CFTC Docket No. 04-06 (CFTC

filed Nov. 25, 2003).

CFTC v. BP Products North America, Inc.

On June 28, 2006 the CFTC filed a civil

enforcement action against BP Products North

America, Inc., a wholly owned subsidiary of BP

plc, alleging that BP manipulated the price of

February 2004 TET physical propane by, among

other things, cornering the market for February

2004 TET physical propane. The CFTC also

charges BP Products North America, Inc., with

attempting to manipulate the price of April 2003

TET physical propane by attempting to corner

the April 2003 TET physical propane market.

The term “TET propane” refers to propane that

is deliverable at the TEPPCO storage facility in

Mont Belvieu, Texas, or anywhere within the

TEPPCO system. “TEPPCO” is an acronym for

Texas Eastern Products Pipeline Co, LLC.

According to the lawsuit, “TET” propane is the

primary propane used for residential and com-

mercial heating in the Northeast United States,

particularly in rural areas which are not served by

natural gas pipelines; and, the price of TET

propane at Mont Belvieu affects the price of

propane paid by consumers. Furthermore, prices

of TET propane affect the price of the NYMEX

futures contract for propane, in part, because the

NYMEX propane contract provides for delivery

of propane at TEPPCO, according to the com-

plaint. The CFTC received assistance from the

President’s Corporate Fraud Task Force and in

this matter. CFTC v. BP Products North America,

Inc., No. 06C 3503 (N.D. Ill. filed June 28,

2006). On the same date that the CFTC filed its

complaint, the Criminal Fraud Section of the

DOJ filed an information against Dennis Abbott

based upon the same underlying facts of the

CFTC’s complaint that charges him with con-

spiracy. Abbott entered a plea of guilty to the

conspiracy charge.

On October 25, 2007, BP agreed to a settle-

ment order requiring it to pay a $125 million

fine, establish a compliance and ethics program,

and install a monitor to oversee BP’s trading

activities in the commodities markets. The

order also recognized the payment of approxi-

mately $53 million by BP into a restitution set-

tlement fund. In a separate criminal action by

the DOJ, BP agreed to pay a $100 million fine,

pay $25 million into a consumer fraud fund, and

comply with restitution payments and installa-

tion of the monitor. In addition, four BP traders

were indicted on charges of conspiracy, com-

modities market manipulation, and wire fraud in

the Northern District of Illinois.

TC v. MF Global

In December 2007, futures and options bro-

ker MF Global Ltd. agreed to pay more than

$77 million to settle CFTC charges that it

failed to watch over a hedge fund charged with

fraud. The CFTC asserted the company did not

adequately supervise accounts used by Philadelphia

Alternative Asset Management Co., a hedge

fund that the CFTC charged with fraud in

summer 2005. The CFTC, which pursued the

case with the receiver in charge of the hedge

fund's assets, settled the charges with both MF

Global and a former account executive, Thomas

Gilmartin, who also had an ownership stake in

the hedge fund and failed to tell his employer.

The hedge fund lost about $133 million in MF

Global accounts, but hid large losses by restrict-

ing Internet access to accounts and backdating

execution dates of some trades executed through

MF Global. In a related criminal proceeding,

the U.S. Attorney for the Eastern District of

Pennsylvania indicted the hedge fund's presi-

dent and founder on two criminal counts of

commodities fraud.

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Corporate Fraud Task Force Member Contributions

CFTC v. Amaranth Advisors, L.L.C., et al.

On July 25, 2007, the Commission filed a

civil enforcement action charging Amaranth

Advisors, L.L.C., Amaranth Advisors (Calgary)

ULC (collectively Amaranth), and Brian

Hunter with attempted manipulation.

Specifically, the complaint alleges that the

defendants intentionally and unlawfully

attempted to manipulate the price of natural gas

futures contracts on the NYMEX on February

24 and April 26, 2006. February 24, 2006 was

the last day of trading (expiry day) for the

March 2006 NYMEX natural gas futures con-

tract, and April 26, 2006, was the expiry day of

the May 2006 NYMEX natural gas futures con-

tract. The settlement price of each NYMEX

natural gas futures contract is determined by the

volume-weighted average of trades executed

from 2:00-2:30 p.m. (the closing range) on the

expiry day of such contracts. The Complaint

alleges that, for each of the expiry days at issue,

the defendants acquired more than 3,000

NYMEX natural gas futures contracts in

advance of the closing range, which they

planned to, and for the most part did, sell dur-

ing the closing range. The Complaint also

alleges that defendants held large short natural

gas financially-settled swaps positions, primari-

ly held on the Intercontinental Exchange

(ICE). The settlement price of the ICE swaps is

based on the NYMEX natural gas futures set-

tlement price determined by trading done dur-

ing the closing range on expiry day. The

Complaint alleges that defendants intended to

lower the prices of the NYMEX natural gas

futures contracts to benefit defendants’ larger

swaps positions on ICE and elsewhere. The

Complaint also alleges that, in response to an

inquiry from NYMEX about the April 26, 2006

trading, Amaranth Advisors L.L.C. made false

statements to NYMEX to cover up defendants’

attempted manipulation. The Commission

received cooperation from the FERC, SEC and

NYMEX in connection with this matter. CFTC

v. Amaranth Advisors, L.L.C., et al., No. ’07 CIV

6682 (S.D.N.Y. filed July 25, 2007).

TC v. Energy Transfer Partners, L.P.

On July 26, 2007, the Commission filed a

civil enforcement action charging Energy

Transfer Partners, L.P. (ETP), and three ETP

subsidiaries – Energy Transfer Company

(a/k/a La Grange Acquisition, L.P.) (ETC),

Houston Pipeline Company (HPLC), and

ETC Marketing, Ltd. (ETC Marketing) –

with attempted manipulation. Specifically, the

complaint alleges that the defendants attempt-

ed to manipulate the price of physical natural

gas at the Houston Ship Channel (HSC)

delivery hub during September and November

2005. The Complaint further alleges that the

defendants attempted to manipulate the

October 2005 and December 2005 HSC

monthly index prices of natural gas published

by Platts (a division of The McGraw-Hill

Companies, Inc.) in its Inside FERC’s Gas

Market Report (Inside FERC). The Com-

plaint alleges that the defendants used

Hurricane Rita as a pretext for their scheme.

Specifically, the Complaint states that Hurricane

Rita made landfall in the Texas and Louisiana

Gulf region on September 24, 2005, and

demand for natural gas in Houston dropped as

residents fled the hurricane. Anticipating this

occurrence, the defendants allegedly devised a

four-step plan to take advantage of — and

financially benefit from — Hurricane Rita’s

impact.

As alleged, the first step in the defendants’

plan was to build their short position in the

October 2005 HSC financial basis swap. A basis

swap is a swap whose cash settlement price is

calculated based on the basis between a futures

contract and the spot price of the underlying

commodity or a closely related commodity on a

specified date. In this instance, the two legs of

the swap are the monthly HSC index price pub-

1.33

Report To The President – Corporate Fraud Task Force 2008

lished by Inside FERC and the final settlement

price of the Henry Hub futures contract traded

on the NYMEX. As a short, the defendants were

obligated to pay the HSC index price; thus they

benefited from a lower HSC index price. Second,

in the days just before and after Hurricane Rita,

the defendants allegedly built up a huge invento-

ry of physical gas with the intent to deliver that

gas to HSC, despite the lack of demand in the

Houston area. Third, on September 28, 2005, the

defendants sold a vast quantity of natural gas for

delivery during October 2005 at HSC with the

intent to push down, or cap, the price of physical

natural gas at HSC. They purportedly made

most of these sales on the ICE. In fact, the

defendants represented 96 percent by volume of

all the trades that took place that day on ICE in

the HSC contract. The fourth and final step in

the defendants’ plan allegedly occurred when

they reported the September 28, 2005, sales to

Platts with the intent and belief that Platts would

use these transactions in calculating the October

Inside FERC monthly price index at HSC, pre-

sumably at lower or stabilized prices to the bene-

fit of the defendants’ short swaps positions. The

Complaint further alleges that the defendants

attempted to manipulate the price for November

2005 physical natural gas at HSC and attempted

to manipulate the December Inside FERC

monthly index price. Defendants purportedly

repeated the same course of action in the

November/December 2005 time period as they

did during September/October 2005. The Com-

mission received cooperation from the FERC in

connection with this matter. CFTC v. Energy

Transfer Partners, L.P., No. 3-07CV1301-K

(N.D. Tex. filed July 26, 2007).

In r

e Marathon Petroleum Company

On August 1, 2007, the Commission filed

and simultaneously settled an administrative

enforcement action against Marathon Petroleum

Company (MPC), a subsidiary of Marathon Oil

Corporation, finding that MPC attempted to

manipulate a price of spot cash West Texas

Intermediate (WTI) crude oil delivered at

Cushing, Oklahoma on November 26, 2003, by

attempting to influence downward the Platts

market assessment for spot cash WTI for that

day. The Platts market assessment for WTI is

derived from trading activity during a particular

30-minute period of the physical trading day.

The Platts market assessment for WTI is used as

the price of crude oil in certain domestic and for-

eign transactions. At the time in question, MPC

priced approximately 7.3 million barrels of phys-

ical crude oil per month off the Platts market

assessment for WTI. As a net purchaser of for-

eign crude oil priced off of the Platts spot cash

WTI assessment, if its conduct was successful,

MPC would have benefited from a lower Platts

spot cash WTI assessment. The order finds that,

on November 26, 2003, MPC purchased

NYMEX WTI contracts with the intention of

selling physical WTI during the Platts window

at prices intended to influence the Platts WTI

spot cash assessment downward. Further, during

the Platts window, MPC knowingly offered

WTI through the prevailing bid at a price level

calculated to influence downward the Platts WTI

assessment. The Commission assessed sanctions

including a cease and desist order and a civil mon-

etary penalty ($1,000,000). In re Marathon

Petroleum Company, CFTC Docket No. 07-09

(CFTC filed Aug. 1, 2007).

Federal Communications Commission

Over the last five years, the Federal Com-

munications Commission (FCC or Commis-

sion) has made preventing, detecting, and deter-

ring waste, fraud, and abuse by its regulatees an

agency-wide priority. As described below, the

FCC’s fraud-related actions advance the

President’s goals of promoting corporate respon-

sibility and ensuring just and effective punish-

ment of those who perpetrate financial crimes. In

addition, the Commission has been an active

participant in the President’s Corp-orate Fraud

1.34

Corporate Fraud Task Force Member Contributions

Task Force. Through this participation, the Com-

for ineligible services, false and fraudulent

mission has learned a great deal from the efforts

invoices, kickbacks and bribes. These joint

of other agencies, and has used this knowledge

efforts have yielded nearly $50 million in civil

in its own efforts to prevent, detect, and deter

recoveries, over $20 million in criminal penal-

waste, fraud, and abuse.

ties and restitution, and numerous indict-

ments, prison terms, and plea agreements.

Universal Service Fund Fraud.



Mandatory Debarments. The Commission

Much of the agency’s fraud-related activity

views debarment as a critical tool in deterring

involves its oversight of the Universal Service

waste, fraud, and abuse, and it has established

Fund (USF), a multi-billion dollar federal pro-

mandatory debarment procedures triggered

gram that helps communities across America

by civil or criminal judgments to prevent cor-

obtain affordable telecommunications services.

porations and individuals who have defrauded

In addition to its collaboration with law

the Government from participating in the

enforcement on False Claims Act and antitrust

USF program for schools and libraries. Over

cases related to universal service funds, the

the last several years, eight individuals and

Commission has also debarred wrongdoers,

four companies (NEC-Business Network

launched an unprecedented audit program of

Solutions, InterTel Technologies, Inc., Premio

the USF, and used its rulemaking authority to

Inc., and NextiraOne LLC) convicted of

establish a regulatory framework inhospitable

fraud-related offenses in connection with the

to fraudulent activity.

USF have been debarred for periods ranging

from six months to three years.



$70 Million from Fraud Investigations and

Prosecutions. In investigating and support-

ther Significant Fraud Enforcement

ing the prosecution of fraud and other finan- Actions.

cial crimes, the Commission ultimately seeks

to ensure that the USF is made whole for all



$130 Million to Settle Spectrum Auction

direct and collateral damages and that Fraud Case. In July 2006, DOJ and the FCC

amounts disbursed through fraud are avail- reached a $130 million settlement with Wall

able to other program participants. This Street money manager Mario Gabelli and

effort involves multiple bureaus and offices affiliated entities and individuals to resolve

within the Commission, including the Office civil allegations of fraud in connection with

of General Counsel, Office of Inspector wireless spectrum license auctions conducted

General, Wireline Competition Bureau, and by the FCC. In these auctions, the FCC had

Enforcement Bureau. In addition, building established rules that, depending on the auc-

on the 2003 Memorandum of Understand- tion, permitted only small businesses to par-

ing with the DOJ on corporate fraud coor- ticipate or to qualify for bidding credits and

dination, the Commission has continued to favorable financing. The Government alleged

nurture interagency relationships. The Com- that various friends and relatives of Gabelli

mission has actively supported DOJ and the were recruited to serve as officers of “sham”

FBI in 90 investigations over the last five small businesses, solely to certify that these

years, 60 of which have closed. Working businesses met the FCC’s eligibility rules for

closely with these agencies, the Commission participation in certain auctions, bidding

has moved aggressively to investigate allega- credits, and favorable Government financing.

tions of bid-rigging, over-billing and billing In reality, however, these businesses were con-

1.35

Report To The President – Corporate Fraud Task Force 2008

trolled by Gabelli. This settlement helped to

accepting cash or other valuable considera-

ensure the integrity of the FCC’s auction

tion from record labels in exchange for airplay

program.

of artists from those labels, without disclosing

the pay-for-play arrangement. In addition to



$9.3 Million for “Slamming” Violations.

$12.5 million in voluntary contributions to

Another significant area of corporate fraud

the U.S. Treasury, the broadcasters agreed to

enforcement activity is “slamming,” the unau-

implement certain business reforms and com-

thorized change of a consumer's preferred

pliance measures.

telecommunications carrier. Over the last five

years, the Commission has investigated thou-

$7 Million in Forfeitures Related to Junk



sands of slamming complaints and recouped

Faxes. Finally, the Commission continues to

over $1 million directly for consumers; the

take aggressive enforcement action against

Commission has also issued forfeitures and

companies that send unsolicited faxes, pro-

entered consent decrees for an additional $8.3

posing or issuing forfeitures totaling over $7.8

million. Beyond these payments, the Com-

million since 2000. The agency has also

mission has often required companies to

issued over 600 citations concerning junk fax

adopt compliance programs, including em-

violations. A significant portion of junk fax

ployee training, periodic audits, and records

complaints involve stock touting and so-

retention requirements. We also enforce our

called “pump and dump” schemes. The

slamming rules in partnership with the States

Commission’s staff shares information con-

and maintain consumer education efforts on

cerning these complaints with the SEC.

slamming, cramming, and various scams such

as modem redialing, voice mail fraud, and cell

phone cloning.

Federal Energy Regulatory Commission

In August 2005, the Energy Policy Act of



$8 Million to Settle Fraud Case Involving the

TRS Fund. In 2005, the FCC entered into a

consent decree with the Publix Companies to

2005 (EPAct 2005) went into effect, enhancing

the regulatory authority of the Federal Energy

Regulatory Commission (FERC). EPAct 2005

resolve allegations that the company unlawful-

ly and fraudulently collected or attempted to

collect over $10 million from the national

gave the FERC increased civil penalty authori-

ty of up to $1 million per day per violation for

violations of the Federal Power Act and Natural

Telecommunications Relay Services (TRS)

Fund, which supports critical telecommuni-

cations services to persons with disabilities.

Gas Act, and any rules, regulations, restrictions,

conditions, or orders made or imposed by

FERC thereunder. EPAct 2005 also gave the

Publix also agreed to relinquish its authori-

zation to operate as a common carrier, reim-

burse the TRS Fund $7.9 million, and forego

FERC express jurisdiction to prohibit energy

market manipulation.

another $2.3 million in TRS payments.

Pursuant to the EPAct 2005, FERC imple-

mented new anti-manipulation regulations mak-



$12.5 Million Consent Decree Regarding

ing it unlawful for any entity, directly or indirectly,

“Payola” Schemes. In April 2007, the Com-

mission entered consent decrees with CBS

Radio, Citadel Broadcasting Corporation,

Clear Channel Communications, Inc., and

Entercom Communications Corp. to address

alleged “payola” violations — the practice of

in connection with the purchase or sale of natu-

ral gas or the purchase or sale of transportation

services subject to the jurisdiction of the FERC,

or in connection with the purchase or sale of elec-

tric energy or the purchase or sale of transmission

services subject to the jurisdiction of the FERC,

1.36

Corporate Fraud Task Force Member Contributions

(1) to use or employ any device, scheme, or arti-

fice to defraud, (2) to make any untrue state-

ment of a material fact or to omit to state a

material fact necessary in order to make the

statements made, in the light of the circum-

stances under which they were made, not mis-

leading, or (3) to engage in any act, practice, or

course of business that operates or would oper-

ate as a fraud or deceit upon any entity.

Prohibition of Energy Market Manipulation,

Order No. 670, FERC Statutes & Regulations

¶ 31,202 (2006), reh’g denied, 114 FERC ¶

61,300 (2006).

Prior to the promulgation of FERC's anti-

manipulation rule, FERC issued its Policy

Statement on Enforcement (113 FERC ¶

61,068) to provide the public with guidance

and regulatory certainty regarding FERC's

enforcement of the statutes, orders, rules and

regulations it administers. Among other

things, the Policy Statement on Enforcement

details the FERC's penalty assessment process.

Shortly after the issuance of the Policy

Statement on Enforcement, FERC instituted a

No-Action Letter Process (113 FERC ¶

61,174) whereby regulated entities can seek

informal staff advice regarding whether a

transaction would be viewed by staff as consti-

tuting a violation of certain orders or regula-

tions. In both Orders, FERC drew on the best

practices of other economic regulators includ-

ing the DOJ, SEC and Commodity Futures

Trading Commission (CFTC).

EPAct 2005 also directed FERC and the

CF TC to enter into a Memorandum of

Understanding. The MOU provides both

agencies with enhanced ability to efficiently

and effectively detect manipulation in both gas

and electric markets by allowing the agencies

to share information and thereby reduce

duplicative efforts. FERC and CFTC are

actively conducting joint investigations.

Since January 1, 2006, FERC has employed

its new civil penalty authority in 12 cases

resulting in a total of $39.8 million in civil

penalties and tailored compliance plans. These

are set forth below. Recent enforcement actions

under the FERC’s anti-manipulation rules set

forth in 18 C.F.R. Part 1c demonstrate that

FERC is dedicated to ensuring the markets

subject to its jurisdiction are well-functioning

and free from corporate fraud.

ignificant Cases – Amaranth and Energy

Transfer Partners Show Cause Orders

FERC used its enforcement authority in

two market manipulation cases when it issued

show cause orders that made preliminary find-

ings of market manipulation and proposed civil

penalties totaling $458 million in two investi-

gations involving traders’ unlawful actions in

natural gas markets.

Amaranth. This case was brought under

the FERC’s new anti-manipulation rule, and

involves the Greenwich, Connecticut-based

hedge fund Amaranth LLC and traders Brian

Hunter and Matthew Donohoe. FERC’s staff

observed, in real-time, anomalies in the price

on the NYMEX of NG Futures Contracts and

informed the CFTC of our observations. For

more than a year, FERC and the CFTC coor-

dinated their respective investigations into

whether the Amaranth Entities and their

traders manipulated the settlement price of the

NG Futures Contracts. That settlement price

is explicitly used to determine the price for a

substantial volume of FERC-jurisdictional

physical natural gas transactions. After a unan-

imous vote on July 26, 2007, FERC issued an

order requiring Amaranth and the traders to

show why they should not be assessed civil

penalties and disgorge profits totaling $291

million for manipulating the price of FERC-

jurisdictional transactions by trading in the

1.37

Report To The President – Corporate Fraud Task Force 2008

NYMEX Natural Gas Futures Contract in

ther Significant Cases

February, March, and April 2006. FERC’s

Order was issued within one day of the CFTC’s



Two electric energy companies, PacifiCorp,

civil action against certain Amaranth entities 118 FERC ¶ 61,026 ( Jan. 18, 2007) and

and Hunter. SCANA, 118 FERC ¶ 61,028 ( Jan. 18,

2007), agreed to pay $10 million and $9 mil-

In separate federal court actions filed in the lion in civil penalties, respectively, to resolve

U.S. District Court for the District of Columbia claims arising from their violation of

and the Southern District of New York seeking FERC’s transmission open access rules.

to enjoin FERC’s Order to Show Cause pro-

ceedings, the Amaranth Entities and Hunter



BP Energy Company (BP), 121 FERC ¶

challenged FERC’s subject matter jurisdiction 61,088 (Oct. 25, 2007), paid a $7 million

to assess civil penalties and require disgorge- civil penalty to resolve multiple self-report-

ment of unjust profits for Amaranth’s trading in ed violations of competitive bidding regula-

Natural Gas Futures Contracts, which had a tions, the shipper-must-have-title require-

direct and substantial effect on the price of ment, and the prohibition on buy/sell

FERC-jurisdictional transactions. Both the arrangements.

U.S. District Court for the Southern District of

New York and the U.S. District Court for the



Calpine Energy Services, 119 FERC ¶

District of Columbia denied the motions for a 61,125 (May 9, 2007), a subsidiary of

preliminary injunction. Calpine Corporation, an integrated power

company, and Bangor Gas Company, 118

Energy Transfer Partners, LP. This case, FERC ¶ 61,186 (Mar. 7, 2007), a subsidiary

which came to the FERC’s attention through its of Sempra Energy, an energy-services hold-

Enforcement Hotline, involved alleged manipu- ing company, agreed to pay $4.5 million and

lation by Energy Transfer Partners, LP (ETP), $1 million in civil penalties, respectively, for

a Texas-based owner of pipeline assets, and a failing to hold good title to the gas shipped

natural gas trading affiliate ETP of wholesale on their capacity on interstate pipelines.

natural gas markets at Houston Ship Channel

and Waha, Texas, trading hubs on various dates



To resolve claims arising out of the Califor-

from December 2003 through December 2005. nia energy crisis of 2000-2001, including

On July 26, 2007, the FERC voted unanimous- the proceedings alleging market manipula-

ly to order ETP to show that it did not violate tion by Enron, FERC Office of Enforce-

the FERC’s former market behavior rule by ment staff has helped facilitate, and FERC

manipulating the wholesale natural gas market has approved, 16 settlements representing

at Houston Ship Channel on certain dates in $6.5 billion in refunds to California parties.

2003, 2004, and 2005. The FERC is proposing

more than $167 million in total penalties and



American Electric Power Corp., 110 FERC

disgorgement of unjust profits. Following the ¶ 61,061 ( Jan. 26, 2005), one of the largest

FERC’s initiation of the investigation of ETP, electric utilities in the United States, agreed

the CFTC joined the investigation and then to pay a $21 million civil penalty under the

brought its own action against ETP in the Natural Gas Policy Act of 1978 for allowing

Southern District of Texas. In both the an affiliate, AEP Energy Services, to

Amaranth and ETP cases, FERC’s actions are improperly receive confidential information

preliminary; there has been no final agency about non-affiliated customers.

action.

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