September 07, 2006
"Pretexting" at HP
Posted by Gordon Smith

By now, you have heard the basic facts underlying the scandal at HP: "confidential information" was appearing in media reports about HP as early as 2005, so HP's non-executive chairman, Patricia Dunn, authorized the hiring of a consulting firm -- which, in turn, hired a subcontractor -- to investigate HP's directors to determine the source of the leaks. The investigation also extended to nine journalists.

The private investigators (working for the subcontractor) impersonated the directors and reporters to obtain their personal phone records. This practice is called "pretexting," and as luck would have it, the California legislature recently passed a bill that would ban the buying and selling of information obtained via pretexting. (See here.) Governor Schwarzenegger has not taken a position on the bill, but if he signs, it will go into effect in January. In the meantime, the California Attorney General is investigating other possible criminal violations.

In May, when venture capitalist and romance novelist Tom Perkins discovered that he was one of the subjects of the investigation, he resigned from HP's board of directors. But Perkins wasn't the source of the leaks. HP claims that the source was another director, George Keyworth. You can find HP's side of the story in its recent SEC filing, but the SEC is now investigating whether HP adequately disclosed the facts underlying Perkins' resignation in a May 22 filing. (The short press release issued by HP at that time is here.)

In our haste to condemn pretexting, it's easy to forget that HP had a serious problem on its hands. Consider this from the NYT:

The [company's] concern over leaks from its board began while Ms. Fiorina was chief executive. She asked the Silicon Valley law firm of Wilson Sonsini Goodrich & Rosati to interview board members to discover the source of the leak. But nothing came of that investigation. After [Mark V.] Hurd succeeded Ms. Fiorina, the leaks stopped.

But in January, an article appeared on the technology news Web site CNET about a management meeting. The report described the company’s strategy in dealing with the chip makers Intel and Advanced Micro Devices, as well as possible acquisitions. It struck a nerve among the top executives not only because strategy was revealed but because leaks could open the company up to charges of securities violations because of selective disclosure of information.

Ms. Dunn, who had been named chairwoman after Ms. Fiorina’s ouster, wanted to restore the trust among the board members — a trust that had been tested as the company went through three years of infighting, beginning with a proxy fight over its acquisition of Compaq Computer. Mr. Perkins, according to a top company executive, was as enthusiastic as Ms. Dunn was to catch the leaker.

With a good reason: a board can not function if its members do not trust each other. “Leaky boards are a huge issue,” said Jeffrey A. Sonnenfeld, a professor at the Yale School of Management who advises companies on corporate governance issues. It undermines trust among members and prevents a free flow of advice that board members are paid to provide to corporate managers. Stopping leaks, he said, “really is a noble motive here, but the techniques used is a separate issue.”

The obvious irony is that Dunn was attempting to "restore trust" by spying on the other directors, but the company had a serious functional problem on the board of directors, plus some potential disclosure issues. The straightforward investigation by the law firm did not work. What to do? HP's answer: hire someone to do the dirty work.

The case raises all sorts of interesting legal and ethical issues, including HP's responsibility under the law of agency and Wilson Sonsini's ethical obligations. This one should keep us busy for awhile.

Corporate Governance, Crime and Criminal Law | Bookmark

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