Nortel slashes '03 profit by 41%

THE BALTIMORE SUN

OTTAWA - Nortel Networks Corp. slashed its 2003 profit by 41 percent in much-delayed audited financial statements for 2001 to 2003 released yesterday and said an internal inquiry showed that executives had manipulated the initial results to obtain bonuses.

Nortel, the biggest maker of telecommunications equipment in North America, said a dozen current executives who played no role in the manipulation would repay $8.6 million in bonuses voluntarily over three years. They will also give up the last two installments of a restricted stock payout dating to 2003.

Brian Foley, an expert in executive compensation in White Plains, N.Y., said he could not recall a situation in which executives returned bonuses because they were based on financial results later found to be misstated.

But he said some companies had begun considering adding provisions in their executives' compensation agreements that would require repayments under those circumstances.

"You can imagine the appetite in the executive suite to having such a provision put in," Foley said. "I'd question why you need a provision to go after the money. In the right circumstances, you ought to be able to go back for it anyway. But you have to have a board that is willing to step up to the table and say, 'You didn't make it; I want it back.' "

The Sarbanes-Oxley Act addresses the matter, stating that chief executives and chief financial officers may have to forfeit bonuses when they have certified their companies' financial results and willful misconduct is involved. But it says nothing about other executives whose pay also is based on financial hurdles.

Nortel's announcement comes as current and former executives at several companies have been under pressure to return bonuses.

The Office of Federal Housing Enterprise Oversight is seeking to force two top executives ousted from Fannie Mae as a result of its accounting scandal to repay bonuses they received. In another case, shareholder pressure caused the FPL Group to announce that it was recouping $22.5 million in bonuses given to eight executives as part of a failed merger agreement.

Nortel has been seeking the return of another $10 million in bonuses from Frank A. Dunn, the former chief executive who was fired last spring, and other executives who were dismissed.

In a conference call with reporters, William A. Owens, the current chief executive, said Nortel had not begun any legal action against those people, but the company would take that step if necessary.

The financial review, which has cost Nortel $115 million to date, found that its 2003 earnings were $434 million, down from the $732 million reported originally.

While that disclosure, as well as adjustments to revenue and earnings in the previous two years, is a step toward putting Nortel's accounting scandal in the past, its current financial status is still unclear.

Nortel has missed several deadlines for its 2004 results. Owens promised yesterday to make results for the first half of the year available by the end of this month.

A summary of the independent review into the company's accounting practices lays much of the blame on Dunn and the former chief financial officer, Douglas Beatty, who also was dismissed along with eight other executives.

Under Dunn, Nortel created a financial operation that "conveyed the strong leadership message that earnings targets could be met through application of accounting practices that finance managers know or ought to have known were not in compliance," said the report.

Within Nortel, "questioning these practices was not acceptable," said the report, prepared by Washington law firm Wilmer Cutler Pickering Hale & Dorr.

The result, the report said, is that Nortel increased revenue and profit by prematurely reporting sales of equipment and improperly reversing reserves, money previously set aside to cover anticipated costs.

While the report traces the poor accounting practices to 1999, when Dunn became chief financial officer, a bonus plan linked to profits that was introduced in late 2002 appears to have particularly skewed financial controls.

Dunn developed quarterly "road maps," as they were known internally, that involved improperly transforming hundreds of millions of dollars in provisions into revenue to meet profit goals, the report said.

However, Dunn also used the process in the reverse. During the fourth quarter of 2002, it became apparent that Nortel would show an unexpected profit.

Dunn, the report said, "determined that it was unwise to report profitability and pay bonuses because performance for the rest of the year had been poor." As a result, the company spent two days creating $175 million in unjustified provisions to wipe out the profit.

Nortel's restatements are in line with earlier indications from the company. It said revenue for 2003 rose to $10.1 billion from $9.8 billion. A loss during 2001 of $8.52 a share was cut to $8.08 a share, and the 2002 loss went to 78 cents a share from 85 cents.

The Securities and Exchange Commission has begun a formal inquiry into accounting practices at the company. The Ontario Securities Commission and the Royal Canadian Mounted Police are investigating as well.

Nortel also said yesterday that five longtime directors, including its chairman, Lynton Wilson, would not seek re-election. Owens said the decisions were not related to criticism by some investors.

Nortel also appointed Susan E. Shepard, a New York state ethics commissioner, as the company's chief ethics and compliance officer, effective Feb. 21.

Shares of Nortel rose 14 cents to close at $3.48.

The Associated Press and Bloomberg News contributed to this article.

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