The National Legal Center Performs Another Public Service - Examining The Unintended Consequences Of The Post-Scandal Reforms

Friday, July 1, 2005 - 01:00

Editors Note: On page 3 is a hypothetical that was discussed at the General Counsel Conference featured by Bill Ide in this interview. The hypothetical illustrates some of the general counsel concerns mentioned in this interview and is referred to in a number of the interviews in our Special Section beginning on page 35.

Editor: On May 10 and 11, a General Counsel Conference took place in Washington sponsored by the National Legal Center for the Public Interest to consider the unintended consequences of developments that followed in the wake of the corporate scandals, including Sarbanes-Oxley, regulatory changes, changes in enforcement practices and efforts on behalf of the plaintiffs' bar to exploit the situation. How would you summarize the impact of the Conference?

Ide: Since Enron, there has been strong support in the corporate community for corporate governance reforms designed to ensure independent director oversight and management accountability. There has also been support for punishing the individuals who have harmed their companies and shareholders. There has been increasing concern, however, that enforcement and regulatory forays on an ad hoc basis into how companies should be governed are creating de facto policies that are not sound. The Conference focused the attention of general counsel on the fact that significant regulatory and enforcement actions taken in the name of reform are having unintended consequences. A number of the general counsel who participated expressed deep concern that the threat of criminal prosecution was being used by prosecutors and regulatory bodies to alter business practices and impose fines and other burdens without such new practices having gone through any policy process that was open and transparent. Such a process should include a cost benefit analysis as to when it would be appropriate to have corporate indictments, mandated governance practices and fines. For example, in the situations where there has been fraud in a corporation, why should shareholders pay twice for wrongdoing that injured their investment? Having suffered the loss in the value of their stock because of the fraud, why should their holdings be subject to fines on the corporation? An entity is not capable of the fraud; therefore, the penalty should be focused on those individuals within a company who were responsible for the fraud. It does not make sense to penalize a company and its shareholders in such circumstances. The indictment of Arthur Andersen raised serious policy questions, yet the decision to destroy it did not go through an open policy process. Now, we are looking at the possibility of KPMG being indicted without any established policies in place.

Editor: Was the compliance-centered approach contemplated by Sarbanes-Oxley viewed by the participants of the conference as an overreaction?

Ide: The application of Section 404 of Sarbanes-Oxley is one of the areas of greatest concern for corporate America. Failure of the SEC and PCAOB to give strong guidance to accountants allowed the auditors to proceed in a way that minimized their own risks while placing unnecessary burdens on their clients. This led to excessive costs when compared to the benefits produced. The Conference highlighted the business community's concern about the application of Section 404, while at the same time affirming the need for strong compliance systems.

Editor: What was the single most important outcome of the Conference?

Ide: It brought to light serious questions that the corporate community and policy makers need to address. It set the predicate for further discussions that could produce more meaningful and balanced reforms. This includes: when corporations should be indicted, when fines should be imposed and how a proper balance can be maintained between costs and benefits in implementing internal controls. It also includes taking a serious look at related developments affecting civil litigation. There is incredible pressure on companies to settle civil cases that should not be settled. There are fewer cases being tried with the result that shareholders are being penalized by the large sums used to pay off plaintiffs' lawyers to get rid of cases. The just claims should be settled, but the more numerous cases without merit should be defended through verdict if necessary. Somehow, we find ourselves today with a litigation system where all of the pressures are to settle no matter how meritorious the defense.

Editor: Why was such great emphasis placed at the Conference on the enhanced exposure of business to prosecution and civil litigation?

Ide: The goal of the civil litigation system is to fully compensate those who are injured. Tremendous costs are being visited on the business community by the litigation system today with too much money going to plaintiffs' and defense counsel for excessive litigation producing no tangible public benefit. The outcome is that legitimate business practices are being penalized by a costly litigation system due to the lack of adequate oversight by judges managing the cases and the failure of legislatures to require adequate safeguards against frivolous suits.

The pattern of prosecutors and regulators cooperating with the plaintiffs' bar has also produced some questionable actions against corporations. There is a feeling in the corporate world that some overzealous prosecutors and regulators have taken it upon themselves to determine the propriety of business conduct that has never been determined to be illegal by any court or legislative or regulatory body.

As a result of criminal or civil proceedings initiated by the government under circumstances where the benefits of the attorney-client privilege and the work product doctrine are waived, information that would otherwise be protected by the attorney-client privilege and the work product doctrine becomes available to plaintiffs' counsel. That information is then used by plaintiffs' counsel to exact extortionate settlements from business based upon the presumed illegality of the very same (and possibly legal) business practices targeted by prosecutors.

Editor: Increasingly, prosecutors and regulators are demanding that corporate defendants waive the benefits of the attorney-client privilege and the work product doctrine.

Ide: There are two major concerns about waiver. The first is that for there to be effective assistance of counsel, there must be confidentiality. That is as true for corporations as it is for individuals. This was recognized in the Upjohn case. Any direct or indirect pressure on a company to waive the privilege is inappropriate. There are federal government communications such as the Thompson Memo that attempt to lend clarity to the situation. But there is still not sufficient clarity as to the government's approach in this area and there is deep concern that pressures are being put on companies to waive their privilege under the threat of prosecution.

The second concern is that there may be situations where corporations do not want to waive the privilege as to civil actions, but are willing to waive the privilege to cooperate with the government. In such cases, the government should protect the information from going to third parties, because such disclosure has been made pursuant to the policy of helping the government in carrying out its mission, but has not been made with intent to waive as to third parties. The case law in this area is very uneven and there are not sufficient protections to companies that wish to voluntarily waive the privilege as to the government, but to maintain the privilege with respect to third party litigants.

Editor: Are steps being taken to protect the privilege?

Ide: The SEC has advocated legislation in Congress to protect the confidentiality of information given to it. However, privileged information furnished selectively to regulatory bodies and prosecutors must be protected against use in civil litigation at both the state and federal levels. The Conference discussed this issue and there was a consensus that corporate counsel must make an effort to support legislation to protect information voluntarily submitted to the government.

The ABA Task Force on Attorney Client Privilege has a report going to the ABA House of Delegates that recommends that the ABA go on record affirming the importance of the privilege and the work product doctrine. It also recommends that the ABA go on record supporting government guidelines that protect companies that desire voluntarily to waive the privilege. It supports a resolution that expresses deep concern that government entities should not have practices that directly or indirectly pressure companies to involuntarily waive the privilege. Secondly, the ABA Task Force is seeking to work with the Department of Justice, SEC and PCAOB to develop guidelines to assure that there should not be any direct or indirect pressure on companies to waive the privilege. Finally, the ABA Task Force is developing safeguards whereby if a company seeks voluntarily to waive the privilege with respect to the government, there will be criteria and processes in place that protect the information from third parties.

Editor: As a result of the Conference, was there a single clear message to corporate counsel.

Ide : Yes, that the corporate community should unite to support reforms addressed to the issues raised at the Conference. Some industries have more litigation and enforcement actions than others, but it is in the best interest of all corporations to have a strong, fair and predictable justice system and effective compliance systems where costs and benefits are appropriately balanced. Achieving these goals is worth a significant investment of time and resources.

The National Legal Center for the Public Interest played a valuable role in organizing the Conference and creating a forum where the unintended consequences of the post-scandal reforms could be identified. I hope they will provide an equally effective forum for discussing the specific ways in which needed reforms can be implemented and how the corporate counsel community can be brought together to support such reforms.