EXHIBIT 10.2
DEBEVOISE & PLIMPTON LLP 919 Third Avenue
New York, NY 10022
Tel 212 909 6000
Fax 212 909 6836
www.debevoise.com
September 28, 2004
Seth Levine, Esq.
Assistant United States Attorney
United States Attorney's Office
One Pierrepont Plaza
Brooklyn, NY 11201
WHITEHALL JEWELLERS, INC.
Dear Mr. Levine:
We write on behalf of our client, Whitehall Jewellers, Inc. ("Whitehall"
or the "Company"): (1) to describe the remedial measures which either have been
implemented, or will be implemented by Whitehall, as a result of its internal
investigation relating to Whitehall's relationship with Cosmopolitan Gem Corp.
and Joshua Kestenbaum; and (2) to describe the restitution and other payments
which Whitehall plans to make upon execution of a non-prosecution agreement with
your Office.
Remedial Measures
Since the commencement of its internal investigation, Whitehall has taken
extensive measures to further its commitment to maintaining a corporate culture
driven by ethical conduct and compliance with the laws. The Company has: (1)
terminated the employment of all personnel it determined, following an internal
investigation, to have engaged in misconduct; (2) hired an Internal Audit
Director and authorized the hiring of a General Counsel; (3) committed to hiring
and has engaged a search firm to recruit a President and COO with significant
public company experience; (4) taken measures to
Seth Levine, Esq. 2 September 28, 2004
continue to increase the Board's independence; (5) instituted a comprehensive
compliance program; and (6) implemented numerous policies, procedures, and
controls to address issues identified in the internal investigation. In short,
Whitehall has strengthened and codified its culture of compliance and business
ethics, encouraged all employees to conduct the Company's business activities
according to the highest ethical standards, and taken measures to increase
management's compliance and financial reporting expertise.
A. Termination of Certain Personnel
In the midst of the internal investigation, Whitehall's Board and
management acted swiftly to terminate the employment of all personnel it
determined had engaged in misconduct. Both Jon Browne and Lynn Eisenheim were
placed on leave almost immediately after the Company became aware of
circumstances which suggested that they had engaged in misconduct. Neither was
permitted to continue to conduct Company business after they were placed on a
leave of absence. Then, after the investigation had further progressed, Browne
and Eisenheim were promptly terminated.
B. Personnel Changes Relating To Compliance And Accounting
In addition to terminating certain employees, Whitehall also has committed
to making personnel changes to enhance its focus on compliance with laws and
regulations, and to ensure that any future wrongdoing is more promptly detected.
First, in March 2004, the Company hired an Internal Audit Director, a certified
public accountant ("CPA"), who reports directly to the Audit Committee of the
Board, with additional dotted line reporting to the Chief Executive Officer. The
Internal Audit Director is responsible for, among other things, evaluating the
Company's financial data, internal controls, department procedures, and
compliance with regulatory rules and regulations and Company policies.
Second, the Board has authorized the hiring of a full-time General Counsel
to oversee all legal matters. Once appointed, the General Counsel also is
expected to assume the role of Chief Corporate Compliance Officer, and thus
oversee the compliance program and any disciplinary activity arising out of that
program. Having an on-site General Counsel will no doubt solidify the Company's
focus on legal and regulatory compliance. The Company expects that the General
Counsel will be hired in the coming months.
Seth Levine, Esq. 3 September 28, 2004
In addition, the Company has made personnel additions which have enhanced
its financial reporting and compliance. In particular, the Company has hired two
additional CPAs to work in the accounting department. One of those CPAs manages
the general ledger department. The other CPA is responsible for assisting the
Vice President-Controller and Chief Financial Officer in completing the
Company's compliance with Section 404 of the Sarbanes-Oxley Act, which requires
that the Company make certain assessments and document its internal controls by
January 31, 2005. These CPAs have increased the level of accounting expertise at
the Company.
Seth Levine, Esq. 4 September 28, 2004
C. Other Personnel and Board Changes
In addition to the above-noted personnel changes, the Company also is in
the process of making additional management and Board changes to improve the
Company's overall management structure and to increase Board independence. In
the coming months, the Company intends to hire a President and Chief Operating
Officer ("COO"). The new President and COO will report to Hugh Patinkin, who
will continue to serve as Chairman and CEO. The Company has retained a search
firm and is seeking an individual for President and COO who has substantial
public company financial experience. As currently anticipated (and subject to
finding the appropriate person for the position), certain Executive Vice
Presidents, including the Chief Financial Officer, will report directly to the
President and COO to further strengthen Whitehall's management.
Moreover, the Company's Board has reduced the number of management
directors, increased the proportion of Board members who are independent outside
directors, and intends, in due course, to add additional financial and
regulatory expertise to the Board. First, in January 2004, John Desjardins and
Matthew Patinkin resigned as Board members. The sole reason for these
resignations was to increase the proportion of Board members who are independent
outside directors. Currently, the Board numbers five, with only one management
director -- Hugh Patinkin. Second, the Board's current intention is to attempt
to add two additional independent outside directors. To fill these two Board
positions, the Board will attempt in due course to recruit one Board member with
significant legal or regulatory experience, and another Board member with a
significant financial background. The Board is in the process of hiring a search
firm to assist in this search for additional Board members. The Board's success
in recruiting individuals with these skills will enhance the Company's focus on
compliance and financial reporting issues.
D. Compliance Program
Besides new personnel, Whitehall has already implemented a comprehensive
compliance program aimed at ensuring that Whitehall employees are sensitive to
ethical and regulatory issues, are imbued with an understanding of the need to
report any ethical or legal concerns, and are provided with the means and
protection necessary to facilitate such reporting. The program includes several
components:
Seth Levine, Esq. 5 September 28, 2004
1. Code of Conduct: Whitehall's Board has adopted a Code of
Conduct (the "Code") which summarizes the principles of conduct that are
expected from all employees and directors to ensure that Whitehall's business is
conducted with integrity and in compliance with the law. The Code generally
requires that employees comply with the law and act ethically, including that
they: (a) comply with insider trading laws, (b) reduce the likelihood of
conflicts of interest, (c) abide by confidentiality obligations, (d) properly
use Company assets, (e) ensure the accuracy of financial statements, and (f)
report illegal or unethical conduct or conduct not in compliance with Company
policy. All active employees have certified compliance with the Company's Code
of Conduct. New employees must certify in writing their awareness of the Code
upon commencement of their employment, and continuing employees must certify in
writing their awareness and compliance annually.
2. Appointment of a Chief Corporate Compliance Officer: The Board
has appointed a Chief Corporate Compliance Officer, who will oversee the
development, implementation, and operation of the Compliance Program, including
the enforcement of policies and training programs. John Desjardins has been
appointed the Chief Corporate Compliance Officer until the hiring of a General
Counsel, who is expected to then assume those responsibilities.
3. Appointment of Divisional Compliance Officers: The Company has
appointed compliance officers for numerous functional areas of the Company to
address particular compliance issues arising out of those functional areas and
to serve as a conduit for ethical or legal concerns raised by employees. Each of
these Divisional Compliance Officers serves on the Compliance Committee, which
assists the Chief Corporate Compliance Officer with the implementation and
operation of the compliance program. The Divisional Compliance Officers
currently include: the Senior Vice President of Merchandise Control, the Vice
President for Loss Prevention, the Vice President-Controller, the Vice President
for Human Resources, and the Internal Audit Director.
4. Reporting Hotline: The Company has contracted with an outside
vendor to provide an 800-number reporting hotline. The hotline provides
employees with an additional avenue for reporting ethical or legal concerns
through a forum outside of the Company's management hierarchy. The service was
operational starting January 5, 2004.
5. Whistleblower Protection Policy: The Company has implemented a
policy which protects employees who raise ethical and legal concerns from
retaliation as a result of such reporting.
Seth Levine, Esq. 6 September 28, 2004
6. Compliance Training: The Company has begun a training program
through which employees are educated about the Code of Conduct and the reporting
mechanisms for ethical or legal misconduct. The program is designed to reinforce
the message to Whitehall personnel that misconduct will not be tolerated and
that employees are required to report such misconduct immediately. By February
2004, all employees attended a training session on these matters (store
employees received the training through video presentations), and had certified
their participation in the training. Top management, as well as Company
attorneys and members of E&Y, have conducted the training. In addition, all new
employees will receive such training through a video presentation as part of
their new employee orientation. Follow-up training sessions will also be held at
least annually for all employees.
E. New Policies and Procedures
In addition to a compliance program, the Company also has implemented
specific policies designed to respond to some of the concerns raised by the
internal investigation. These include:
1. Revised Gift Policy: In November 2003, the Board adopted a
revised gift policy, which prohibits solicitation or receipt by Company
employees of gifts worth a total of more than $50 from any vendor during a
calendar year. The policy also places limits on the amount and nature of
employee entertainment expenses that can be paid by Company vendors, requiring
that: (a) such entertainment be limited to meals and industry business
functions, (b) that only the employee and his or her spouse or domestic partner
be permitted to attend these meals or industry business functions, and (c) the
entertainment be reasonable in light of the nature of the vendor and the
seniority level of the employee. The policy also requires quarterly reporting of
all entertainment received by Company employees, and annual certification of
compliance with this policy by all officers and supervisors. All vendors were
notified of the gift policy in advance of the holiday season to ensure that
their gifts complied with the policy. Vendors have been and will be notified of
the policy annually to ensure compliance with Company policy. Moreover, the
Company will modify its standard Vendor Trading Agreement to incorporate the
gift policy.
2. Prohibition of On Account Payments: In September 2003, the
Company prohibited all on account payments. Accordingly, all check payments to
vendors now must be accompanied by a remittance advice identifying the invoices
and credit memos covered by that check. Remittance advices relating to wire
transfers must be sent to the vendor by fax contemporaneously with the wire
transfer. In order to verify that this process is followed, each packet of
invoices and/or credit memos supporting a
Seth Levine, Esq. 7 September 28, 2004
payment is reviewed by an individual outside of the accounts payable process
prior to payment being sent.
3. Vendor Approval Process: The Company has implemented a vendor
approval policy which will ensure that, among other things, new vendors are
appropriately screened, and are, based upon the information available,
financially sound and operating ethically. The policy provides for a background
and credit check on each new and existing merchandise vendor. The existing
vendors all will be screened in a cycle over the course of the year. Once that
cycle is complete, each vendor will be required to certify annually its
familiarity and compliance with Whitehall's Code of Conduct and its gift policy,
as well as other elements of the Company's Vendor Trading Agreement. In
addition, the approval process will identify whether the vendor uses a factor to
secure its receivables, and if so, identify the specifics of the arrangement
between the vendor and the factor.
4. Vendor Statement Reconciliation Process: The Company has made
substantial improvements to its vendor statement reconciliation process. The
Company hired a new Supervisor of Inventory Reconciliation Control (who began
work on December 8, 2003). Under new procedures adopted in November 2003, the
supervisor must review the vendor statement reconciliation for the Company's top
ten vendors at least once every two months, and report any material
discrepancies between vendor statements and Whitehall records, in appropriate
cases, to more senior Whitehall management. Further, the Company has adopted a
new format for the reconciliations, which attempts to make the results of the
reconciliations more understandable, and is in the process of making additional
improvements in the reconciliation process.
5. Disbursement and Cash Management Controls: In October 2003,
the Company implemented improvements to its controls on disbursements and its
cash management procedures. For example, checks are not generated until they are
ready to be sent to vendors. Similarly, tighter controls have been placed on
actual disbursements, with strict enforcement of the pre-existing policy
requiring two signatures for disbursements over $20,000. In addition, the cash
requirements report, which documents open invoices and credit memos, is reviewed
on a regular basis by the Vice President-Controller and the CFO to ensure that
invoices and credit memos are being applied promptly.
6. Formalized Procedures For Communicating With Factors: In
October 2003, the Company implemented formalized procedures for communicating
with vendor factors. All day-to-day communication with such factors (except for
incidental contact) must be conducted through the Company's Vice
President-Controller or another
Seth Levine, Esq. 8 September 28, 2004
employee designated by the Chief Financial Officer. Further, factors are
notified promptly of any material discrepancies between vendor or factor
statements, and Whitehall records. When factors make requests for information,
Company policy requires that those requests are processed promptly and
accurately.
7. Buyout Approval Procedures: In November 2003, the Company
implemented additional procedures for approving consignment buyouts. Prior to
committing the Company to any buyouts, buyers must complete a form identifying
the merchandise being purchased and the business justification for the purchase,
as well as the vendor's stated justification for the buyout. Any buyouts over
$50,000 require prior written approval of the Executive Vice President,
Merchandising, and the Chief Financial Officer. In addition, the Company has
created a monthly report, circulated to all appropriate personnel, which lists
all conversions between consignment and asset inventory from the prior month.
8. Purchasing Commitment Approval Procedures: As of November
2003, all purchases or purchase commitments in excess of $1 million must be
approved by the Executive Vice President, Merchandising and the CFO. In
addition, the Company has implemented a policy which provides for approvals by
appropriate executive officers for certain purchase commitments for amounts
below $1 million.
9. Accelerated Payment Approval Procedures: As of December 2003,
all payments to vendors prior to an invoice due date must be approved by three
individuals: (1) the Vice President-Controller or Senior Vice President of
Finance; and (2) two other executive officers (Executive Vice Presidents, COO or
CEO). The documentation supporting those approvals must identify the amount of
the payment, the amount of the discount, a description of how the discount was
determined, and an explanation of the business purpose for the early payment. In
addition, in February 2004, the Company began the circulation of a monthly
report to all appropriate individuals, listing all accelerated payments made to
vendors in the prior month.
10. Controls on Re-PLUing Activity: Starting January 2004, the
Information Technology Department has been generating a monthly report of all
new PLU or product identification numbers created in the prior month. That list
is reviewed by the Loss Prevention Department to verify that there is a
legitimate reason for assigning a new PLU number.
Restitution and Other Payments
Seth Levine, Esq. 9 September 28, 2004
Upon execution by all parties of a non-prosecution agreement with your
Office, the Company intends to enter into a settlement agreement with Capital
Factors, under which Whitehall will pay Capital Factors approximately
$10,847,000 - a figure which includes full restitution to Capital Factors for
all losses which may have resulted to Capital Factors from any actions taken by
Whitehall or any of its officers or employees. The agreement will also provide
that Whitehall will make such payments to Capital Factors on the following
schedule: (a) $7,847,000 in cash within five business days following the closing
of the agreement; and (b) the remaining $3 million in cash to be paid by
December 23, 2004. In addition, under the settlement agreement, Capital Factors
will assign to Whitehall all of its rights with respect to: (a) payables due to
Colorcast or Cosmopolitan, which currently amount to approximately $1 million
(approximately $1 million of which is currently on deposit in Friedman, Kaplan,
Seiler & Adelman's attorney trust account); and (b) consignment goods provided
by Colorcast or Cosmopolitan, which currently amount to approximately $1,276,000
worth of goods. In addition, under the agreement, Capital Factors and Whitehall
will mutually release each other from any claims relating to Whitehall's actions
in connection with Cosmopolitan, Colorcast or Joshua Kestenbaum, and Capital
Factors will agree to a dismissal of its pending civil suit.
In addition, upon execution by all parties of a non-prosecution agreement
with your Office, the Company intends to enter a settlement agreement with
International Diamonds LLC/Astra ("International"), under which Whitehall would
pay International $1.93 million. Under this settlement agreement, International
and Whitehall will mutually release each other from any claims, and
International will agree to a dismissal of its pending civil suit.
Finally, the Company has deposited in three safe deposit boxes consignment
goods originally provided to Whitehall by Ultimo, which currently amount to
approximately $1,446,985 worth of consignment goods. The Company intends to
deposit these goods with an escrow agent approved or appointed by the New York
State Supreme Court, New York County, once such an agent is approved or
appointed by the court, or, if no such agent is appointed, will transfer these
goods from the safe deposit boxes solely upon and pursuant to an order of the
New York State Supreme Court, New York County. In addition, it is understood
that Whitehall has already deposited into Friedman, Kaplan, Seiler & Adelman's
attorney trust account the proceeds of Ultimo consignment goods, which currently
amount to approximately $558,017 in cash. Such funds shall be paid from this
account solely upon order of the New York State Supreme Court, New York County.
Finally, upon execution by all parties of the non-prosecution agreement
with your Office, the Company shall pay $350,000 by certified check or bank
cashier's check to the United States Postal Inspection Service Consumer Fraud
Fund.
Seth Levine, Esq. 10 September 28, 2004
Conclusion
As demonstrated by these numerous measures, the Company has taken real and
substantial steps towards improving its procedures to address issues raised by
the Company's internal investigation. Further, the Company is continuing to
evaluate other processes to ensure that its internal controls prevent employee
misconduct. Finally, the Company is making full restitution for any losses which
may have resulted to Capital Factors from any actions taken by Whitehall or any
of its officers or employees.
Please let me know if you would like any additional information.
Sincerely yours,
/s/Andrew Ceresney
Bruce E. Yannett
Andrew Ceresney