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The foregoing material weaknesses contributed to the need for the Second Restatement. Upon completion of our assessment of our internal
control over financial reporting as at December 31, 2004 pursuant to SOX 404, we currently expect to conclude that the first five of these six
material weaknesses continue to exist as at December 31, 2004, and we continue to identify, develop and begin to implement remedial
measures to address them, as described below.
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Current Status of Material Weaknesses in Internal Control Over Financial Reporting and Expectations as to Required Management
Conclusions and Independent Auditor Attestation Pursuant to Section 404 of the Sarbanes-Oxley Act
As noted in “MD&A — Risk factors/Forward looking statements”, our 2004 Form 10-K must comply with SOX 404, which requires
management to assess the effectiveness of our internal control over financial reporting annually and to include in our Annual Report on Form
10-K a management report on that assessment, together with an attestation by our independent registered public accounting firm. As noted
above, upon completion of our assessment of our internal control over financial reporting as at December 31, 2004, we currently expect to
conclude that the first five of the six material weaknesses in our internal control over financial reporting described immediately above continue
to exist as at December 31, 2004 (and also constitute “material weaknesses” as now defined under standards established by the Public
Company Accounting Oversight Board). Accordingly, management expects to conclude that our internal control over financial reporting as at
December 31, 2004 is ineffective, and D&T has advised us that they expect their report on management’s assessment of internal control over
financial reporting also to indicate that internal control over financial reporting is ineffective.
******
R
evenue Independent Review
As more fully described above, over the course of the Second Restatement process, management identified certain accounting practices that it
determined should be adjusted as part of the Second Restatement. In particular, management identified certain errors related to revenue
recognition and undertook a process of revenue reviews. In light of the resulting adjustments to previously reported revenues, the Audit
Committee has determined to review the facts and circumstances leading to the restatement of these revenues for specific transactions
identified in the Second Restatement. The
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• lack of sufficient personnel with appropriate knowledge, experience and training in U.S. GAAP and lack of sufficient analysis and
documentation of the application of U.S. GAAP to transactions, including, but not limited to, revenue transactions;
• lack of a clear organization and accountability structure within the accounting function, including insufficient review and
supervision, combined with financial reporting systems that are not integrated and which require extensive manual interventions;
• lack of sufficient awareness of, and timely and appropriate remediation of, internal control issues by Nortel Networks personnel;
and
• an inappropriate ‘tone at the top’, which contributed to the lack of a strong control environment. As reported in the Independent
Review Summary included above, there was a “Management ‘tone at the top’ that conveyed the strong leadership message that
earnings targets could be met through application of accounting practices that finance managers knew or ought to have known were
not in compliance with U.S. GAAP and that questioning these practices was not acceptable”.