October 08, 2008, 9:20 PM — SEATTLE (AP) _ Two former software executives grossly overstated their company's revenue to attract more than $50 million in private investment, prosecutors said Wednesday, adding that the fraud was uncovered late last month when a worker found a set of cooked financial books as she was cleaning out a desk.
Paul Thomas Johnston, a founder and chief executive of Entellium Corp., and Parrish L. Jones, its chief financial officer, resigned Sept. 30 and were charged Wednesday with one count of wire fraud in U.S. District Court. Johnston wrote in his resignation e-mail that he was "deeply shamed and sorry" about what he had done.
Prosecutors said they don't know where all of the money went, but believe the bulk of it was put into the company.
Entellium spokesmen did not immediately return a call or an e-mail seeking comment. Assistant U.S. Attorney Carl Blackstone said about 40 of its 60 employees in Seattle were laid off Friday. The fate of 75 workers at the company's office in Malaysia was not immediately known.
Johnston and Jones were arrested at their homes Tuesday night and made initial court appearances Wednesday. A magistrate judge released Jones on bond, but Johnston, a citizen of the United Kingdom, will remain in custody pending a detention hearing set for Friday. Prosecutors said they believe he poses a flight risk.
The two were each represented by court-appointed lawyers for purposes of Wednesday's hearing, but given their finances, the judge ordered them to hire their own attorneys for future hearings. Neither court-appointed lawyer spoke with reporters after the hearing.
The privately held Entellium makes Web-based programs that help companies track sales and customer information. Most of its clients are U.S.-based, and include small-to-mid-sized manufacturing, technology and construction firms.
"We have both made a grave mistake (in) misrepresenting our revenue to the board," Johnston wrote to two of the company's directors in his resignation e-mail, which was cited in the federal complaint. "Looking back at the time we thought we would be able to right the wrong and correct our representation, but we have not been able to do this."
He added: "Clearly this is devastating news and something we both regret and are deeply sorry for. Our families are not aware of this and we are telling them now."
Johnston and Jones founded the company in 2004 and almost immediately began overstating revenues by $400,000 a month, according to Johnston's e-mail.
Since 2006, they claimed revenue of nearly $15.5 million, when in reality the company took in less than $3.8 million, FBI Special Agent Patrick Garry wrote in the complaint.
Johnston and Jones presented the inflated revenue statements to the company's board to attract private investment, prosecutors alleged. Of the more than $50 million Entellium has raised, more than $19 million came from the Bellevue-based Ignition Partners ? a venture capital firm started by former executives at Microsoft Corp. and McCaw Cellular Communications. The latter became AT&T Wireless.
Two of Ignition's partners serve on Entellium's board, and said they would not have invested had they known the true state of the company's finances, the complaint said.
Most recently, Ignition provided the company with $2 million in April.
Barry Abraham, a shareholder who said he left Entellium in 2005 after serving as vice president of sales, was indignant. He suggested an audit would have uncovered the misrepresentations, and people on the company's board ? especially the Ignition representatives ? must have known what was going on and let it happen while they waited for Entellium's business to take off.
A woman who answered the phone at Ignition said the firm had no comment. Ignition lawyer Steven Yentzer did not return a call.
"When you raise $50 million ? $50 million ? doesn't anybody ever do an audit?" Abraham asked. "You don't hand over $19 million on a hunch, because you feel like (Johnston) is a good guy. The reason there was no audit called was because there was a big white elephant in the room."
Prosecutors said the scheme was uncovered late last month when Melisah Wojtacha, Entellium's vice president of human resources, was cleaning out a desk formerly used by the company's head of sales. Wojtacha found five "board books" ? compilations of financial data presented to board members ? and turned them over to company controller Sonya Huntzinger.
Huntzinger saw the inflated revenue statements and brought them to the attention of a board member on Sept. 29, the complaint said. The next day, the board informed Johnston that a contract CFO would be coming to "check some things out," and Johnston and Jones quickly resigned.
Entellium's legal counsel brought the matter to the attention of the U.S. attorney's office.
"Truthful accounting and transparency are critical to our financial systems," U.S. Attorney Jeffrey C. Sullivan said in a written statement. "I want to commend Entellium for contacting law enforcement when it became aware of inflated revenue claims made by company executives. Corporations are on the front line in rooting out fraud, and we need and expect them to come forward."
One of the 40 people laid off Friday was Erik Krause, director of product management, who had been at the company since 2004.
"When you do work in a startup, that is one of the big risks, that the company doesn't make it," he said. "We knew it was an option, but it's still a big surprise for everybody."
Wire fraud is punishable by a maximum 20 years in prison and a $250,000 fine.
