The person who would be best able to determine if this is a case of intentional misconduct or an unfortunate combination of supervisory neglect and student inexperience is Sara Bridges. She should be allowed to handle this within her own lab, assuming that Bob Smith only contacts the PI.
Clearly, Sara needs to begin by talking with Terry to determine the cause and extent of the perceived discrepancies. William Lowe has to be part of this initial conversation to establish the degree of his "guidance." Did he have any knowledge or suspicions of fabrication? Sara placed too much confidence in William to oversee Terry's research, but unless he was a knowing participant, he should not be held accountable. The other co-authors of the paper are innocent and should not be held accountable for problems with the original data. This must be addressed in all retractions.
It is regrettable that Terry's research became "Sara's findings" and fueled such intense public attention. However, in spite of the project's publicity, the "inquiry" should remain within the department under the guidance of the department's chairperson and selected faculty. This situation could become a confusing and damaging scandal if institutional processes and hearings are initiated. Public backlash could harm the reputations of all involved. Therefore, it is best if this is handled within the department as much as possible--at least until the facts have been reviewed. Initiating an official inquiry would be advisable only in the event of threatened legal action against Sara by either Bob Smith or Terry.
If Terry intentionally fabricated results, he should be dismissed from the program. A personal retraction must be sent to the publishing journal. Clearly, Sara was not doing her job as a mentor or as a PI. On the other hand, I do not think she is ultimately responsible. Terry may be only a grad student, but he is also an adult working at a professional level where it should be safe to assume that responsibility and integrity are hard-wired characteristics.
It is ludicrous to think that PIs should have to micromanage their students to ensure that they behave ethically. If an atmosphere of intrinsic mistrust and paranoid scrutiny must exist to guarantee self-protection, scientific research and the mentoring process will grind to a halt.
I'm not suggesting that Sara Bridges provided effective leadership by delegating her mentoring responsibilities and unwittingly giving Terry enough rope to hang himself and everyone around him. Nor do I feel she is deserving of respect by taking public credit for work she did not adequately supervise. Nevertheless, a student's growth as a scientist depends on gaining self-confidence through the freedom to initially succeed and fail in a protected environment. How can a student become an independent researcher without this freedom? If trust does not exist between a mentor and a student, this process becomes irretrievably handicapped.
Perhaps Terry was a victim, caught in the pressure, excitement, and attention generated by his apparent success. Maybe he never anticipated that his results would create such an enormous public stir. When everything exploded, it probably became impossible to retract information. Whatever the impetus, Terry should be held completely liable for his actions. If individuals are not held accountable for their intentional actions, regardless of their academic positions, ethical scientists will have to become both parents and police officers in order to guarantee responsible behavior. I think the way to encourage this accountability is to prevent suspicions of misconduct from becoming uncontrolled scandals by allowing academic departments to handle these situations independently.