Earlier this summer, the Supreme Court substantially limited the breadth of a statute that prosecutors had been using aggressively to criminalize corporate executives' and public officials' failure to disclose personal gains from corporate or government business. In a series of cases decided together, including an appeal by former Enron CEO Jeffrey Skilling, the Court ruled that "honest-services" fraud under 18 U.S.C. § 1346 only prohibits bribes and kickbacks.
As a result, the government can no longer use the statute to prosecute executives, fiduciaries and public officials merely for "undisclosed self-dealing," or taking official action to further their own interests while purporting to act in the interests of those owed a fiduciary duty. Courts have already begun to apply the ruling from Skilling v. United States to overturn verdicts in a variety of honest-services fraud cases involving public officials and corporate officers. These decisions are an early indicator of the breadth of the Skilling ruling and the impact it will have on federal white collar prosecutions. Of course, the Supreme Court's ruling does not go so far as to immunize business actions committed for personal gain from other legal consequences; it simply removes one tool from prosecutors' arsenals and clarifies the scope of an ill-defined criminal statute.
Prosecutors Take Advantage Of A Vague Statute
The honest-services fraud statute has evolved from the traditional fraud statute, which generally prohibits a "scheme or artifice to defraud, or for obtaining money or property by means of false or fraudulent pretenses, representations, or promises." 18 U.S.C. § 1341. Although the statute does not refer to "honest services," courts historically interpreted it to involve both property and intangible rights. A number of courts held that fraud occurred even if a victim did not actually lose money or property to an offender; a fraud victim could have lost the intangible right to an offender's "honest services." For example, if a government official had offered a contract to a company in which the official secretly owned a stake, that deal could have given rise to honest-services fraud, even if the general public paid no more for the contract than it would have paid if a different contractor were used.
Prosecutors traditionally enjoyed broad discretion under the fraud statute and brought charges against fiduciaries and public officials for a wide range of unethical actions for personal gain. The Supreme Court first limited this discretion in 1987, declaring that the fraud statute protected only property rights. See McNally v. United States , 483 U.S. 350.
In response, Congress quickly passed a statute clarifying that fraud could include "a scheme or artifice to deprive another of the intangible right of honest services." 18 U.S.C. § 1346. The new statute, however, offered no definition of "honest services" or guidance about what actions constituted a scheme to deprive others of such intangible rights. This enabled prosecutors to continue to bring charges under the honest-services fraud statute in a wide variety of cases, including bribery, kickbacks, conflicts of interest and other more amorphous misdeeds, such as concealment of material information. Courts have since struggled to determine the limits of the statute and came to diverging conclusions about what actions could be considered honest-services fraud.
The Supreme Court Imposes Limits
Faced with such a potentially vague criminal statute, the Supreme Court ruled on June 24, 2010 that the honest-services fraud only applied to narrow, well defined circumstances. In Skilling , the government had charged the former CEO of Enron with conspiring to commit honest-services wire fraud by misrepresenting the company's financial health, resulting in artificially inflated stock prices. At no time, however, did the defendant accept payments from third parties in conjunction with his misrepresentations. Skilling argued that the honest-services fraud statute was unconstitutionally vague because it could apply to an innumerable range of actions. Alternatively, he argued that his conduct did not fall under the statute.
While the Supreme Court declined to deem the entire statute unconstitutionally vague, it did determine that the honest-services statute, as written, could only prohibit bribes and kickbacks. In coming to this conclusion, the Supreme Court examined the legal precedent prior to McNally , noting that the bulk of the honest-services fraud cases traditionally arose from bribes and kickbacks. The Court also found persuasive that Congress passed the honest-services statute in response to McNally , which was a kickback case. The Court concluded that because Skilling did not accept payments from third parties in conjunction with his actions, his actions did not constitute bribery or a kickback, and he did not violate the honest-services fraud statute.
In two other decisions issued simultaneously, the Court applied Skilling to vacate honest-services fraud convictions of corporate executives and an elected official. In Black v. United States , Conrad Black and other executives of Hollinger International, a publicly held company that owned newspapers, were charged with honest-services fraud for failing to disclose their receipt of bogus "noncompetition fees." The Hollinger executives had arranged for a subsidiary to pay them millions of dollars not to compete with the subsidiary's small town newspaper. Neither Hollinger's audit committee nor its board of directors was informed about this transaction between the company and the executives, and the payments were backdated and never disclosed in securities filings. In Weyhrauch v. United States , a member of Alaska's House of Representatives, who also worked as a private attorney, submitted his resume to an oil company and offered to vote favorably on oil legislation in exchange for receiving future legal work from the company.
The Impact Of Skilling
Lower courts have already begun to apply Skilling . In Geddings v. United States , Kevin Geddings was appointed to serve as a North Carolina lottery commissioner. After accepting the appointment, Geddings failed disclose that a company bidding for a contract to run the North Carolina lottery had paid about $160,000 to entities under his control. In 2007, a federal jury convicted Geddings on five counts of honest-services fraud, and a judge sentenced him to four years in prison. In the wake of the Skilling decision, the government acknowledged that Geddings' conviction should be vacated, and Geddings was released.
In Hope for Families & Cmty. Svc., Inc. v. Warren , the Alabama legislature entrusted the sheriff of Macon County to draft and enforce charitable bingo regulations. The sheriff's lawyer, who happened to be the son and law partner of the counsel and minority shareholder of a charitable bingo operator called VictoryLand, drafted the regulations. Subsequently, a single charitable bingo operator obtained licensure in Macon County: VictoryLand. In a civil suit, the sheriff, his lawyer and VictoryLand were accused of Racketeer Influenced and Corrupt Organizations Act (RICO) violations predicated on honest-services fraud for self-dealing, conflicts of interest and bribery. Based on the Skilling decision, the court awarded summary judgment to the defendants on the charges of honest-services fraud for self-dealing and conflicts of interest.
Despite these recent cases reining in honest services fraud, the Skilling ruling should not be interpreted as a license for executives and government officials to engage freely in business activities that result in personal gain. Other statutes and regulations continue to govern self-dealing. For instance, corporate executives and government contractors who engage in business for personal gain may still be violating securities laws, insider trading, conflict-of-interest regulations and other forms of fraud, plus face civil liability from shareholders. Even with his victory, Mr. Skilling, for example, will likely still face a jail sentence for his securities fraud charge. Likewise, public officials and those who deal with public officials (including government contractors) are still subject to a host of other criminal statutes encompassing conduct that may have previously been covered by the honest services fraud statute, including for example, statutes regarding conflicts of interest, bribery, gifts and gratuities, kickbacks, false statements and fraud or false claims.
Additionally, Congress may respond to Skilling as it did to McNally . It may revise the statute to explicitly include conduct not covered by the current law. Thus, while certain actions may no longer (at least for the present) be considered honest-services fraud, they may result in a host of other repercussions both now and in the future, meaning that those in positions with the government or as fiduciaries should remain extremely cautious about engaging in undisclosed business activities that result in personal gain.
Published August 30, 2010.
