Ex-KIT Official Says Fake Revenue Was `Elephant in the Room'

(Bloomberg) -- "Let’s kill some elephants!"

That’s how former KIT Digital Inc. Chief Executive Officer Kaleil Isaza Tuzman concluded a 2011 email as he scrambled to reduce the video-software firm’s reliance on bogus revenue from fake license agreements, which he referred to as the elephant in the room.

Robin Smyth, KIT’s former chief financial officer, testified Wednesday in Manhattan federal court that he helped Tuzman hide the fake deals for more than two years by transferring cash to customers who then sent it right back to KIT, creating the illusion of revenue.

"The software was never delivered," Smyth said. "The amounts that were under the contracts were never going to be paid."

KIT used a lawyer in Dubai and shell companies across the globe to move the money, which went to small firms in Taiwan, Cyprus, the U.K. and Little Rock, Arkansas, among many others, Smyth said. Copies of the bogus licenses, as well as some emails leading up to them, were displayed for the jury.

Tuzman and his former business associate, technology entrepreneur Omar Amanat, are on trial in federal court in Manhattan accused of manipulating KIT’s shares with help from a North Carolina hedge fund, Maiden Capital LLC. The hedge fund’s founder, Stephen Maiden, pleaded guilty and testified against the men as the government’s star witness.

KIT Auditor Tells Jury of Confronting CEO About Hedge Fund Cash

Smyth kept track of the fake licenses in five hand-written notebooks, copies of which were displayed for the jury. He testified that after he was fired by KIT in 2012, he put the notebooks in a box along with his company BlackBerry and a laptop computer, sealed it with tape and gave it to a friend in Australia for safekeeping. After his arrest, his friend sent the box to New York.

Smyth, 64, told the jury how he and Tuzman were among a small group of KIT officials who knew the truth about the bogus licenses, and that dealing with those "elephants" became urgent amid shortfalls in the company’s financial accounts, which were carefully hidden.

"It was like the elephant in the room," Smyth testified. "It was things that we knew of but no one else knew."

Tuzman was often searching for additional deals that would allow KIT to transfer cash to the escrow account under false pretenses and "fill the hole," Smyth said. When such deals involved an acquisition of a smaller company, much of the reported cost of the deals were falsely diverted to the account as "post-acquisition costs," he said.

"We could slay a big elephant with this," Tuzman wrote in another 2011 email about one such deal with a company in Abu Dhabi.

"Good work," Smyth responded, according to a copy of the message displayed to jurors. "Sounds like you are killing elephants with your bare hands."

Tuzman’s lawyer, Avi Weitzman, declined to comment after court. But during the start of the trial more than two weeks ago, Weitzman told the jury in his opening statement that Smyth and others had carried out the fraud behind Tuzman’s back and that the former CEO had been too busy expanding the company to notice what they were up to.

China Deal

Prosecutors said one such fake license was generated as part of KIT’s plan to expand into China in 2010. KIT entered into a partnership that year with Morse Chen, the founder and CEO of a the Chinese video-portal company Webs-TV, to start an office in China with about 30 employees, they said.

Tuzman insisted Chen agree to a bogus $2.5 million software license as part of the deal "because we needed to have more revenue for the end of the year," Smyth said. Chen balked, but Tuzman wrote in an email that refusal would be a "deal breaker," according to a copy of the message displayed for jurors. Chen ultimately agreed, Smyth said.

After the deal, Smyth said he became nervous because Chen’s English interpreter, KIT employee Steve Chung, had heard too much about the plan.

"I was nervous Steve would understand what was going on," Smyth testified.

The shell companies allegedly were set up for KIT by Tuzman’s attorney at the time, Rima Jameel, who was based in Dubai and has also been charged in the case. Jameel, who remains a fugitive, is accused of setting up the escrow fund that KIT used to fund the fraudulent transactions. The scheme went on for 2 1/2 years, the U.S. says.

Smyth pleaded guilty to misleading investors and regulators about KIT’s financial health and is testifying as a government witness. KIT’s ex-president, Gavin Campion, also pleaded guilty and is scheduled to testify later.

The case is U.S. v. Amanat, 15-cr-536, U.S. District Court, Southern District of New York (Manhattan).

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