Toomre Capital Markets LLC

Real-Time Capital Markets -- Analytics, Visualization, Event Processing, and Intelligence

Former Director Thomas Perkins: Good Guy in HP Spying Scandal

Former director Thomas J. Perkins is one of the good guys in the Hewlett-Packard ("HP") corporate spying scandal. He is largely responsible for ensuring that the leak investigation of the HP Board of Directors (including the use of pretexting) came to public attention.

Mr. Perkins resigned from Hewlett-Packard at a May 2006 Board of Directors meeting in which details of the Kona II leak investigation were shared with the eleven member board. This was the meeting that his ally and fellow director, George Keyworth, was publicly accused of the January 2006 leak(s) to CNET reporter(s). Apparently, the first disclosures to the board of some of the investigative techniques used were also made. Mr. Perkins was reported to be livid that his personal information was accessed without his permission or knowledge, and immediately left the meeting stating that he was resigning.

Under the Sarbanes-Oxley corporate governance law revisions, registered companies now must promptly file 8-K statements with the Securities and Exchange Commission whenever there is an unexpected change in the principal officers of a company (including board of directors) and if there is a disagreement, why the individual left the company. On May 18th 2006, HP filed an 8-K that stated simply "Thomas J. Perkins announced his resignation as a director of Hewlett-Packard Company ("HP"), effective immediately. The text of HP’s press release relating to Mr. Perkins’ resignation is filed with this report as Exhibit 99.1." In the press release, CEO Mark Hurd is quoted as saying:

"On behalf of HP, I wish to thank Tom for his service and dedication to our company. Since he first joined the company nearly 50 years ago, going on to serve as leader of HP’s early computer operations, an executive at HP Labs and ultimately as a director, we have benefited from Tom’s business insights and understanding of technology. He has been instrumental in championing improvements that are leading to a stronger HP. I am particularly grateful for the support he has provided to me over the past year."

This Form 8-K report by HP sounded pretty innocuous, but behind the scenes Mr. Perkins was no doubt upset. After returning from a month off, Mr. Perkins was agitating that this HP Form 8-K be corrected to reveal the true reason(s) for his resignation and that HP review its investigative methods. Partly as a result, the HP board retained the law firm of Wilson, Sonsini, Goodrick & Rosati to conduct an investigation. Mr. Perkins therefore was in contact with the outside counsel to the board, attorney Larry Sonsini. The International Herald Tribune continues:

What Perkins did not know at the time - indeed, H.P. said no one on the board did - was that the leak investigators had used a form of subterfuge known as "pretexting," or false pretenses, to obtain the directors' official phone records. That was revealed in an e-mail response when Perkins directly asked Larry W. Sonsini, the chairman of Wilson Sonsini, about the investigative methods.

The Wilson Sonsini [initial] investigation [in June 2006] concluded that the use of pretexting "was not generally unlawful." But the law firm could not say whether the consulting firm that Hewlett-Packard hired, or the subcontractors it used, "complied in all respects with applicable law."

Meanwhile, the relationship between Perkins and Sonsini's firm has grown strained. A Wilson Sonsini lawyer, Boris Feldman, accused Perkins of discussing internal Hewlett-Packard deliberations with others last month [August 2006]. The lawyer went on to demand that he name those he spoke to and what documents he gave them.

Perkins's response was just as rough. [His attorney Viet] Dinh, who had served from 2001 to 2003 as assistant United States attorney general for legal policy, helping to draft the Patriot Act, accused the law firm of conflicts of interest. He accused the company of "sanitizing" the minutes of the board meeting in which Perkins resigned. He told the company that Perkins was a victim of possible fraud, identity theft and misappropriation of personal records.

Attorney Viet Dinh no doubt has relevant experience in the use of wiretaps and subterfuge to gain information, such as pretexting. (The New York Observer recently published this informative profile of Viet Dihn.) Dinh's demands plus the completion of the more complete Wilson, Sonsini investigation resulted in HP filing on September 6th a revised 8-K dated August 31st 2006. In this Form 8-K, HP explained:

On May 22, 2006, Hewlett-Packard Company (“HP”) announced the resignation of Thomas J. Perkins from its Board of Directors. At the time of his resignation, Mr. Perkins did not provide any written communication to HP concerning the reasons for his resignation. Following his resignation, and after HP on May 22 had disclosed the fact of Mr. Perkins’ resignation on Form 8-K in accordance with the applicable federal securities laws, Mr. Perkins notified HP that he had concerns with the HP Board’s handling of investigations that had been conducted into leaks of confidential HP information from meetings of the HP Board of Directors. HP is filing this Form 8-K to report the following additional information about the circumstances relating to Mr. Perkins’ resignation, to report the findings of its leak investigations, and to report other related events that have occurred subsequent to the completion of those investigations and Mr. Perkins’ resignation.

HP has been the subject of multiple leaks of confidential HP information, including information concerning the internal deliberations of its Board of Directors. HP believes these leaks date back to at least 2005. In response to these leaks, outside legal counsel conducted interviews of directors in early 2005 in order to determine the source of the leaks and to obtain each director’s reaffirmation of his or her duty of confidentiality. The interview process did not yield the source of the leaks. Notwithstanding these actions, the leaks continued. As a result, the Chairman of the Board, and ultimately an internal group within HP, working with a licensed outside firm specializing in investigations, conducted investigations into possible sources of the leaks of confidential information at HP. Those investigations resulted in a finding that Dr. George A. Keyworth II, one of HP’s directors, did, in fact, disclose Board deliberations and other confidential information obtained during Board meetings to the media without authorization. At a Board meeting on May 18, 2006, after Dr. Keyworth acknowledged that he had leaked confidential information, the Board, after deliberation, asked Dr. Keyworth to resign his position as a director, which he declined to do. It is at that meeting that Mr. Perkins resigned from the Board after expressing personal frustration with the Chairman of the Board relating to the handling of the matter with the Board. He stated that he objected to the matter being brought before the full Board and that he believed the Chairman had agreed that he and she would handle the matter privately. The Chairman disputed Mr. Perkins’ assertion, explaining that she was complying with advice from outside counsel on the appropriate handling of the matter. At the time, Mr. Perkins confirmed he did not have any disagreement with HP on any matter relating to HP’s operations, policies or practices.

On June 19, following his resignation and after HP reported Mr. Perkins’ resignation on Form 8-K, Mr. Perkins sought information from HP concerning the methods used to conduct HP’s investigations into the leaks, asserted that phone and e-mail communications had been improperly recorded as part of the investigation, and informed HP that he had recently consulted with counsel regarding that assertion. In response to Mr. Perkins’ request, HP informed Mr. Perkins that no recording or eavesdropping had occurred, but that some form of “pretexting” for phone record information, a technique used by investigators to obtain information by disguising their identity, had been used. Mr. Perkins, although no longer a director, then requested that HP conduct an inquiry into the propriety of the techniques used to conduct the investigation.

HP’s Nominating and Governance Committee thereafter engaged the outside counsel to conduct an inquiry into the conduct and processes employed with respect to HP’s investigation of leaks of confidential information (the outside counsel was not involved in the investigations of the leaks initiated by the Chairman or the internal HP group). The Committee was advised that HP had engaged an outside consulting firm with substantial experience in conducting internal investigations and that this firm had retained another party to obtain phone information concerning certain calls between HP directors and individuals outside of HP. The Committee was further advised that the Chairman and HP had instructed the outside consulting firm to conduct its investigation in accordance with applicable law and that the outside consulting firm and its counsel had confirmed to HP that its techniques were legal. After its review, the Committee determined that the third party retained by HP’s outside consulting firm had in some cases employed pretexting. The Committee was then advised by the Committee’s outside counsel that the use of pretexting at the time of the investigation was not generally unlawful (except with respect to financial institutions), but such counsel could not confirm that the techniques employed by the outside consulting firm and the party retained by that firm complied in all respects with applicable law.

Based upon its investigation, the Nominating and Governance Committee has recommended to HP’s Board and Chief Executive Officer that controls relating to investigations be strengthened and that management should be in a position to assure that all aspects of HP’s investigations comply with applicable laws and HP’s code of ethics as applicable to HP’s directors, officers and employees. HP’s Board and Chief Executive Officer have accepted the conclusions and recommendations of the Committee.

HP recently has been informally contacted by the Attorney General of the State of California requesting information concerning the processes employed in the investigations into the leaks. HP intends to cooperate fully with that inquiry. HP also has received a comment letter from the staff of the Securities and Exchange Commission’s Division of Corporation Finance with respect to its May 22 Form 8-K regarding Mr. Perkins’ resignation. HP intends to respond to the SEC staff that it believes its disclosures in the May 22 Form 8-K with respect to Mr. Perkins’ resignation were accurate and complete at the time of filing and were based upon Mr. Perkins’ actions and representations prior to such time concerning the reasons for his resignation.

In addition, on August 31, 2006 the HP Board of Directors, upon the recommendation of the Nominating and Governance Committee,
also determined that, based on his conduct, Dr. Keyworth should not be nominated for another term on the Board of Directors.

The filing of the above Form 8-K on September 6th resulted in the public disclosure of the HP corporate spying scandal that has since dominated many news cycles. Perhaps lost in the many news stories and opinion pieces was a letter to the editor of The Wall Street Journal on Tuesday, September 26, 2006 entitled Dunn and Dusted written by of all people, Mr. Thomas J. Perkins' lawyer, Viet D. Dinh. This posting by a fellow Georgetown Law professor, Emma Coleman, reports that the Dinh letter included the following:

Justice Felix Frankfurter once wrote, "Wisdom too often never comes, and so one ought not to reject it merely because it comes late." So it is with Hewlett-Packard's decision on Friday [September 22nd] to come clean with the available facts about Chairman Patricia Dunn's ill-advised investigation into board members and journalists, as well as to replace her with CEO Mark Hurd and appoint respected prosecutor Bart Schwartz to mop up the mess. Belated but welcome, these actions show that Mr. Hurd's steady hand will guide H-P out of the scandal and back to its rightful place as the icon of Silicon Valley.

For me the whole saga started in June with dinner at a London restaurant. The News Corporation was welcoming Spanish President José María Aznar to its board, on which venture capitalist Tom Perkins and I also serve as independent directors. Between drinks and glimpses at a World Cup match, as this paper has reported, Mr. Perkins asked me for advice on a confidential matter. He had resigned several weeks earlier from the H-P board, where he chaired the Nominations and Governance Committee, to protest an investigation into disclosures of board information and the decision to ask a fellow director, George "Jay" Keyworth, to resign.

H-P Sauce

That night and on the plane the next day, Mr. Perkins described a four-month operation instigated by Ms. Dunn, which we now know as Kona, to uncover contacts between members of her board and reporters covering H-P. That investigation, according to Mr. Perkins, pointed to Mr. Keyworth as the unnamed source for a January article on the trade Web site

My immediate reaction was that it was unconscionable for a chairman to spy on her own directors. Having participated in and observed a number of leak investigations as a Justice Department official, I also thought it nearly impossible to uncover a confidential source without using government subpoenas, which H-P did not have, or resorting to likely illegal methods, which at the time was unthinkable. Mr. Perkins asked me to serve as his counsel, and I agreed.

Most perplexing was the supposed trigger for this unfortunate foray into corporate intrigue. The CNET article, if anything, burnished the image of H-P and its management. There was no disclosure of material nonpublic financial information to trigger regulatory or legal issues. Amid banal details about how long the days were and how hard the directors worked were glimpses into the company's general strategic and competitive vision. Mr. Hurd was engineering an impressive turnaround, and the article showed that H-P was not simply cutting costs and laying off workers but rather executing a shrewd strategic plan to best its competitors.

It is difficult to see how a puff piece with nuggets already publicized by H-P could be viewed as harmful. The board has since acknowledged that "at H-P's request, Dr. Keyworth often had contacts with the press to explain H-P's interests. The board does not believe that Dr. Keyworth's contact with CNET in January 2006 was vetted through appropriate channels, but also recognizes that his discussion with the CNET reporter was undertaken in an attempt to further H-P's interests." And there is no general duty of confidentiality for directors, only a duty of loyalty to act in the best interests of the corporation and its shareholders.

So the whole thing boils down to Mr. Keyworth deciding to speak favorably to a reporter without asking for permission. The answer to this question of authority is not self-evident as a legal matter. The chairman of the board is first among equals -- entrusted with the responsibility to set agendas, conduct meetings and interact with management. But each board member individually owes a legal duty to act in the best interests of the corporation, a personal duty that cannot and should not be delegated or transferred to anyone else.

It is true that unauthorized disclosures of board information would violate a mutual commitment of confidentiality that H-P directors made to prevent such disclosures following the ouster of Carly Fiorina as chairman and CEO. This is a serious matter, but one that could and should be handled, as Mr. Perkins suggested to Ms. Dunn early on, by a direct personal conversation with the directors. It is therefore understandable for Mr. Keyworth to reportedly exclaim, when confronted with the CNET investigation results, "I would have told you all about this. Why didn't you just ask?" * * *

Overlaying these minutiae is a broader morality tale for the modern era of corporate governance. Enron and WorldCom prompted Sarbanes-Oxley, SEC regulations and a host of corporate "best practices." These requirements emphasized internal controls, divided corporate authority and instituted checks and balances. Essential as these requirements may be to ensure technical compliance with the new rules, they cannot substitute for the guiding light of director conduct: business judgment.

Patricia Dunn reportedly is a "governance perfectionist." When Mr. Perkins's objections to Ms. Dunn's investigation surfaced publicly, she called the conflict "part of the board's progression from one that was more personality driven to one that is process driven and capable of upholding today's highest governance standards." Her supporters whispered that Mr. Perkins had challenged her proposal for a mandatory director education program on corporate compliance. And in resigning last week she emphasized, "I followed the proper processes by seeking the assistance of H-P security personnel." Left unanswered was whether the sub rosa investigation was a good idea or whether the reaction was reasonable to the infraction.

Meanwhile, in June, Tom Perkins wrote to Larry Sonsini, outside counsel to the H-P board, and passed on my view that the investigation was unconscionable and likely illegal. After conversations with [HP] staff, Mr. Sonsini confirmed that Ms. Dunn's Kona investigation "did obtain information regarding phone calls made and received by the cell or home phones of directors" and that it was "done through a third party that made pretext calls to phone service providers." Questions have been raised about Mr. Sonsini's role, but Mr. Perkins's and my impression is that Mr. Sonsini was simply a good, honest lawyer doing his best to represent his client in very difficult situations.

It was Mr. Sonsini's candid acknowledgment of pretexting that prompted Mr. Perkins to contact telephone companies and obtain evidence that his records had been accessed. Wherever responsibility for such actions lie are for prosecutors to determine, but one thing is clear: Using false pretenses to obtain telephone records without the subscriber's consent is illegal under state and federal law.

The Department of Justice wrote to Congress in March that pretexting of telephone records is, under current law, a violation of the Computer Fraud and Abuse Act, the wire fraud statute and the identity theft statute. The Bush administration nevertheless advocated passage of H.R. 4709, the "Law Enforcement and Phone Privacy Protection Act of 2006," because it "would impose sanctions for certain sales of phone records, would criminalize some conduct that is harmful to consumers but that is not addressed by current criminal law." The House heeded the call and unanimously passed the bill, which is currently pending in the Senate.

What happened to Tom Perkins is unique only because of the players involved. Thousands have had their phone records illegally accessed. Ironically, the pervasiveness of the trade in illegally obtained phone records has led many buyers of illicit records to believe that they were not dealing in stolen goods. Perhaps that is one silver lining to this episode: Henceforth, no one, least of all corporate America, should be able to claim that they didn't know that obtaining telephone records without consent is improper and illegal. * * *

H-P is now charting the right course, with Mark Hurd firmly at the helm. There is no better indication of his commitment to doing the right thing than the appointment of Bart Schwartz as counsel to review and revamp H-P's security processes. "Bart is an outstanding lawyer and investigator with excellent judgment and immense integrity," former FBI director Louie Freeh told me. "He will act independently and provide to H-P a 'best practices' architecture for investigations and procedures which is thorough, fair and sensitive to privacy requirements."

Mr. Hurd himself has frankly acknowledged his specific interactions with Ms. Dunn's investigation. Like any good scandal, Kona has sucked everything and everyone, however peripheral, into its vortex. But based on all available information, I believe that his knowledge was tangential and his involvement indirect. It would be surprising -- and much more disturbing -- if Mr. Hurd had zero knowledge of, or involvement in, actions of H-P employees and contractors under the direction of the board chairman.

One may well ask whether Mr. Hurd should have done less to help or could have done more to stop the investigation. But here, too, I think he should get the benefit of any doubt. As CEO, Mr. Hurd was charged with the management and operations of H-P, in the process engineering one of the most remarkable turnarounds in recent corporate history. Even if he had the will, he did not have the unilateral authority to challenge Ms. Dunn's management of the board. Mr. Hurd was, and should have been, doing his job to increase shareholder value; and the machinations of an increasingly dysfunctional board were a distraction.

Hopefully, those distractions are now over. By stepping aside, Ms. Dunn proved her personal commitment to H-P and its shareholders. It is never easy to let go under pressure, and her decision speaks volumes about her courage, her grace and, in Mr. Hurd's words, "her ability to put the interests of H-P before her personal interests."

In the final analysis, the best thing that the H-P board did was to appoint Mark Hurd as CEO. But then it failed him. Ironically, the three persons most instrumental in recruiting Mr. Hurd -- Patricia Dunn, Jay Keyworth and Tom Perkins -- have all resigned, and he is now in charge of both the company and the board. The task may be more challenging, but the odds are good that he will succeed in leading the board as he did in leading the company.

'Dear Mark'

On July 18, the same day that Tom Perkins formally confirmed his protest to the entire board, he wrote Mr. Hurd a personal email that bears quoting in its entirety:

"Dear Mark:

"A while back I promised you that we directors would clean up our act, and free you from worries about the H-P board. I am really sorry that I didn't deliver on this, and I apologize for the necessity of raising the issue of illegal activity by the board chairman in today's email to the board. But, it's an extremely serious matter, and I have legal obligations.

"Aside from this, I worry that Pattie, as new chair of N&G, will 'pack' the board with the kind of directors she so admires -- ciphers from high cap companies, with no fast-cycle technology background, and certainly no Valley entrepreneurial genes.

"I worry that you will wind up with a 'blue ribbon' board that will be of zero, or even negative, value to you when the going gets tough. I don't wish you bad luck -- but life eventually delivers tough scenarios to CEOs of big companies -- and I doubt if H-P will prove to be the exception.

"Anyway, I am rooting for you still, and I hope everything works out as you wish best.

"Sincerely, -- Tom."

As Mr. Perkins has said, "This, too, shall pass." Hopefully, soon.

Mr. Dinh, a Georgetown law professor and principal of Bancroft Associates PLLC, is the attorney for Tom Perkins. He was assistant attorney general for legal policy in the U.S. Department of Justice from 2001 to 2003.

Toomre Capital Markets LLC is a capital markets consultancy specializing in Enterprise Risk Management including the management of reputation. We remain amazed that none of the principal participants in this stupid, bone-headed abuse of corporate power and individual privacy ever stopped to examine the impact of their actions. Did they not understand the value of reputation management? Did they ever think about how they would explain their methods and actions under the cross-examination of an adversarial legal process or before the court of public opinion? This scandal is a prime example of poor Enterprise Risk Management due to pitiful operational risk and corporate governance practices. We salute Thomas Perkins' determination to stand up and be counted when he realized just how far off track this HP corporate leak investigation had gone. The end never justifies the means so to speak. Hats off to Thomas Perkins for speaking up!!

Please feel free to contact Toomre Capital Markets for help in addressing your organization's ERM issues and concerns. Comments and thoughts are welcome.