Brocade Blasts 'Consultant' Reyes

Brocade Communications Systems Inc. (Nasdaq: BRCD) executives dont think they’re getting their money’s worth out of former CEO Greg Reyes in his new role as consultant.

During its earnings call Thursday night, CFO Tony Canova indicated Brocade may try to avoid paying Reyes the $1.7 million it owes him under terms of an agreement he signed when stepping down in January (see Ex-CEOs Cash In). Brocade agreed to retain Reyes as a consultant for two years and pay him the same salary and bonuses -- a total of $910,000 per year -- he would have earned as CEO.

With the U.S. Department of Justice and Securities and Exchange Commission (SEC) investigating its stock option grant practices under Reyes’s watches, Brocade execs say Reyes isn’t helping them (see Brocade Being Investigated).

“While the consulting agreement remains in place, the company can no longer demonstrate that services are being received for the payments being made,” Canova told analysts on a Web call. Canova said Brocade and the board are “evaluating what role, if any, Reyes will play going forward and how to proceed with respect to the resolution of his consulting agreement.”

That sounds as if Brocade is trying to get out of the deal, whether by negotiating a new agreement with Reyes or taking him to court. Brocade took an accounting charge of $1.7 million, the amount it still owes Reyes.The agreement Reyes signed in January called for him to receive a $520,000 base salary plus a $390,000 bonus for each of the next two years. Reyes is also eligible for employee benefits. As part of the agreement, Reyes signed a non-compete clause and agreed not to hire any Brocade employee for two years after his consultant contract expires. Reyes also sold all of his stock in Brocade -- worth more than $30 million -- in February, according to SEC filings.

Mike Klayko replaced Reyes as CEO Jan. 24, weeks after Brocade first revealed it would have to restate earnings due to faulty reporting of stock-based employee compensation (see Brocade to Restate ). Dave House replaced Reyes as chairman, and Reyes left the board when his term expired in April (see Brocade Adds New Board Member).

Brocade -- and perhaps Reyes -- have other problems besides the consulting deal. Along with bringing on the SEC probe, Brocade's former stock option policies are forcing it to restate earnings from 2001 through 2004.

Brocade’s switch sales are hurting, too. Its revenues for the quarter of $144.8 million decreased 10 percent sequentially from $161.6 million last quarter and 1 percent from $145.6 million reported a year ago. Klayko estimates Brocade lost two points of market share in the enterprise, as Cisco Systems Inc. (Nasdaq: CSCO) continues to make gains on market leader Brocade and McData Corp. (Nasdaq: MCDTA). (See Cisco's Storage Climbs.)

“I’m not satisfied with our revenue performance in the quarter,” Klayko said.This quarter doesn’t look much better. Brocade’s guidance of $140 million to $145 million is below the $150 million it recorded last year. Klayko pledged to turn things around on the strength of Brocade’s new 4-Gbit/s and blade server switches, as well as new products from its recent investment in Tacit Networks Inc. and purchase of Therion Software (see Brocade's Mystery Buy and Brocade Invests in Tacit).

All the new products won’t remove the cloud of the SEC, though. “We believe the SEC investigation could prove extensive, time consuming, and costly for the company,” Robert W. Baird & Co. Inc. analyst Dan Renouard wrote in a note to clients today.

— Dave Raffo, Senior Editor, Byte and Switch