When former Qwest CEO Joseph Nacchio was convicted of insider trading in Denver in April 2007, the jury was not permitted to hear what may well have been his strongest defense: that his company’s stock went south because it lost federal government contracts after Nacchio refused to provide the feds with access to private customer data.
And while that defense may have painted a picture of National Security Agency retribution against the CEO for not engaging in a questionable monitoring campaign, the amount of those government contracts doesn’t appear to account for Nacchio’s positive outlook on the company’s fiscal situation on the eve of its financial collapse.
Nacchio’s seemingly less-effective defense against the claim that he sold off $52 million in stocks because he knew their value was about plummet included his attorney’s argument that he needed to sell them because the options were about to expire. The defense also argued that Nacchio’s insistently positive public forecasts about the company’s financial future were legitimately based on a 1999 report from a consultant, and that his decision to sell so much stock in the first half of 2001 may have been affected by stress over one of his sons attempting suicide.
Nacchio claimed that the NSA withdrew a $200 million contract after Qwest declined to participate in an agency program that Qwest attorneys said was illegal, but that amount doesn’t seem significant enough to have caused the downward financial spiral that ensued, when compared with figures that the Securities and Exchange Commission charged Qwest with fudging. And while that contract may indeed have been accompanied by other government contracts that Qwest stood to lose, the SEC charges paint a picture that makes those amounts seem like a drop in the bucket when compared with the company’s alleged accounting falsehoods.
According to the SEC’s filing against Qwest, between June 1999 and April 2002, the company “engaged in a massive financial fraud designed to mislead the investing public about its revenue and growth.” The SEC claims that Qwest “fraudulently recognized approximately $3.8 billion of spurious revenue, and fraudulently excluded $231 million in expenses. The fraudulent scheme, approved and directed by Qwest’s senior management and implemented by numerous other managers and employees, was orchestrated to meet the company’s outrageously optimistic revenue projections, artificially inflate Qwest’s stock price, and falsely present Qwest as a ‘new technology’ company with enormous earnings growth and potential.”
The SEC filing alleges that Qwest’s “lack of internal controls and inadequate books and records resulted in numerous other accounting errors during the same period, including a $56 million overstatement in operator services revenue, $200 million in improper capitalized costs associated with its design service centers, and a total of $850 million understatement of expenses in accounting for its merger with US West, Inc. and in certain restructuring charges.”
According to the redacted pretrial documents released about six months after the conviction, the defense was prepared to put Nacchio on the stand to testify about the lucrative federal government contracts, how they factored into his optimistic financial projections, and his claim about losing them only after refusing to provide the NSA with private customer data. According to media reports, Nacchio’s attorneys opted against putting the CEO on the stand because allowing him to be cross-examined was too risky — and he would not have been permitted to outline the allegation about retaliation by the federal agency.
Ultimately, bolstered by testimony from former Qwest executives who said Nacchio’s optimistic predictions and aggressive goals were not in line with deep concerns within the company about how Qwest was faring financially, the jury sided with the prosecution, finding him guilty on 19 of 42 counts of insider trading. In July 2007, Nacchio was fined $19 million, forced to repay the $52 million in stocks and sentenced to six years in federal prison. He was unsuccessful in appealing the conviction.