Brocade: Stung By Stock Options

As the government investigates Brocade and ex-CEO Reyes, he may sue the board

After Greg Reyes suddenly resigned as chief executive of Brocade Communications Inc. a year ago, the reputation of the swashbuckling onetime billionaire immediately went from gold to mud. The reason: His ouster came just weeks after Brocade announced options accounting irregularities that required a restatement of earnings. But now, more than his image is on the line. Three sources tell BusinessWeek that the Securities & Exchange Commission is likely to bring civil charges against him in the coming weeks. The Justice Dept. is also investigating a criminal case. "I'm scared," says Reyes.

He should be. Twice in the last year, Brocade admitted that it incorrectly accounted for options it granted new hires. The probe comes when the government is investigating many former tech high-fliers for similar practices. Predicts one tech lawyer, "Someone is going to get the opportunity to be the Martha Stewart of options pricing, and Brocade is a leading candidate."

But Reyes, who loves to hunt big game, plans to fight back. And he plans to do it in a way that could put a spotlight on Brocade's board -- including Silicon Valley super-lawyer Larry W. Sonsini, who left the board soon after Reyes' departure. The 43-year-old Reyes insists he did nothing to enrich himself and says the mistakes were primarily paperwork errors by a former human resources executive. Even if he had approved the practices, he says, it would have been within his authority, given the sweeping powers the board gave him in 1999. Now, he argues, seven current and former directors are scapegoating him to minimize their own liability. "What better way to do that than to throw me under the bus," he says. Neither Brocade, Sonsini, the SEC, or the Justice Dept. would comment for this story.

Reyes was planning to file a civil suit against the directors on Jan. 24, before Brocade persuaded him to hold off by extending the statute of limitations on a potential wrongful termination charge. And he's also mulling a shareholder suit, alleging that the investigation by the board's audit committee did far more to hurt investors than the alleged accounting miscues. In particular, he says he was in the final stages of selling Brocade to Cisco Systems Inc. (CSCO ) for $9 a share in November, 2004. Brocade makes data storage gear and was one of the hottest stocks of the Net bubble, with a onetime market cap of $24 billion. But talks with Cisco stalled after the board disclosed the investigation. Other inside sources say that Cisco got cold feet after finding the accounting irregularities on its own but confirm that Reyes' departure two months later further diminished its interest. Cisco declined to comment.

Much of Reyes' ire is saved for Sonsini, a power broker who has advised everyone from Steve Jobs to Google (GOOG ) during a storied 40-year-career. Reyes says Sonsini urged the board to make Reyes a "committee of one" to dole out options as he wished in 1999. The next he heard from the board, he claims, was after a disgruntled former employee threatened to file a whistleblower suit in 2004 alleging improprieties related to options.

After an investigation, Reyes says Sonsini persuaded him to resign because the evidence pointing to him was "overwhelming and conclusive." Only after Reyes had seen the evidence and, unimpressed, tried to rescind his resignation did Sonsini reveal that Brocade's outside auditor had refused to certify Brocade's financials with Reyes as CEO, says Reyes. His argument: that members of the board overstated his role in order to deflect the auditor's attention from themselves.

With possible SEC charges looming, Reyes is pressing his demands. He told Brocade he would drop talk of lawsuits if it publicly exonerates him, puts him back on the board, and pays him a rich consulting package it rescinded last summer. But if the government's case is as strong as some insiders close to Brocade hint it is, this big-game hunter may be feeling less like the pursuer and more like prey.

By Peter Burrows

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