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Would you be ticketed for speeding while your mayor escaped penalty? The extent to which the powerful, especially Wall Street firms, influence their own legal outcomes at enforcement agencies like the SEC and the Justice Department is causing alarm among the U.S. public. An appeals court is set to rule soon on whether a judge has the right to answers or must simply acquiesce to an agreement made between the SEC and Citigroup.  Here’s why the case should go to trial.

The issues began when the SEC accused Citi of “substantial securities fraud” related to “dump[ing] some dubious assets on misinformed investors,” according to a filing in the case. The securities regulator and the financial behemoth then worked out an agreement that the penalty would be $285 million of corporate funds, with no requirement that Citi admit wrongdoing.

Judge Jed Rakoff wanted more information on the settlement before making a judgment that it should go forward. Writing on November 28, 2011, he said “there is little real doubt that Citigroup contests the [SEC’s] factual allegations.” So he ordered the case to trial – and the SEC appealed.

When I spoke with former SEC chair Arthur Levitt in 2012 about the case, he referred me to his statements on Bloomberg TV: “The public is infuriated. They see executives going scot free.” “For Citigroup with the history they’ve had, the repeated number of cases in the past two or three years, I can understand Rakoff’s reaction to this,” he said.

Today, it’s not just regular folks that feel apprehensive about the state of financial regulation and enforcement. Besides Levitt, other former SEC top dogs also fear our regulatory system is failing us.

Last year, former SEC Chief Accountant Lynn Turner expressed his concerns to me about “the level of regulatory capture and close ties to the securities industry at the current SEC.”

In a wide ranging conversation last week, former SEC chair Harold Williams told me, “There is a feeling generally that the SEC is not being as aggressive as it ought to be, as enforcement minded, and that’s an unfortunate impression. If it’s erroneous, the SEC must dispute it. But I’m not sure they can.” The SEC did not respond to a request for comment for this article.

There are also concerns that regulators like the SEC have become a revolving door for professionals who move to private firms and then use their influence on behalf of those companies at the agency. “We’re concerned that the constant movement of SEC employees to and from powerhouse firms, such as Citi can shape the mindset of employees throughout the agency in a way that benefits SEC-regulated businesses,” says Michael Smallberg, an investigator with The Project On Government Oversight (POGO).

POGO has been studying the SEC’s revolving door for some time and their files include cases of individuals who left the SEC, went to work at Citi and then appeared before the SEC representing Citi. Two such cases include Scot Draeger, former counsel to then-Commissioner Roel Campos and Joshua Levine, former senior attorney in the SEC’s Enforcement Division.

Other situations are more opaque and the SEC redacts information in the disclosures. For example, there are filings related to Andrew Lawrence, former senior counsel in the SEC’s Enforcement Division, and Tammy Bieber, former attorney-advisor in the SEC’s Office of the Chief Accountant. Both went to work at private law firms and worked on the “Matter of Trading in the Securities of Citigroup, Inc. (HO-09548).” An SEC spokesperson would not provide a response regarding what HO-09548 was about.

Of course, not all those who move from the SEC to private industry take advantage of their ties to encourage special leniency for their new employers. Some SEC alumni use their experience to encourage their new bosses to meet high standards.

“The door at the SEC has revolved for a long time, but when you tie that to a sense that the Commission is not aggressive in enforcing its mandate, that’s serious. It reinforces the idea that the SEC is not aggressive,” Williams says.

The appeals court is expected to rule soon. Given the revolving door between the SEC and banks like Citi and the lack of public faith in enforcement, it’s important that the trial proceed. If not, maybe it’s time to just hang up a sign that says, “For Sale: Justice, Seldom Used.”

Separately, there are other SEC issues worthy of note, in particular, problems with President Obama’s SEC nominee.

http://management.fortune.cnn.com/2013/01/30/mary-jo-white-sec-obama/

Her ties to JP Morgan may make it difficult to address the disclosure issues there. The bank board’s report provides a cautionary tale for corporate board members.

http://management.fortune.cnn.com/2013/01/22/jp-morgan-london-whale/

Political spending should be on the radar of every corproate board.

http://management.fortune.cnn.com/2013/01/09/corporations-dark-money-qualcomm/

I welcome your comments at ebloxham@thevaluealliance.com

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Board members should be combing through their books for insider trades — and re-examining their stock and option awards programs — after the Columbus Dispatch’s reports on the Big Lots case and the WSJ report on that case and four other companies where executives are under investigation for insider trading.  The WSJ report that at least 4,185 executives may have engaged in suspicious trades since 2004 should be giving board members and shareholders pause.

The use and spread of insider information damages our capital markets – and hurts the reputations of firms that do not comply with rules to keep our markets fair. Morgan Stanley paid $5 million for the part they played in providing information to favored analysts in the Facebook IPO. Netflix has also come under scrutiny for potential leaking of material information to a select group.

Regulation FD (fair disclosure) has been important to our capital markets and was designed to stop insider trading in its tracks so that there is a (more) level playing field for all investors. It’s important that companies comply.

Please read the article here.  (I welcome your comments at ebloxham@thevaluealliance.com)

http://management.fortune.cnn.com/2012/12/17/why-netflix-got-into-hot-water/

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The JP Morgan trading issues reflected a lapse in governance. But beyond risk oversight, they also called into question the way in which top executives at the largest banks are paid. Here’s a link to my article on Fortune.com.

http://management.fortune.cnn.com/2012/06/14/j-p-morgans-debacle-its-time-to-talk-exec-pay/

I had the opportunity to design incentive programs using risk based measures in the mid-90s. Implemented properly, these kinds of pay programs can work very effectively to focus executives and managers on the right measures of success. I have written on this topic over the last 15 years, including further information on the regulatory requirements of the sound compensation guidance.  (See http://www.thevaluealliance.com/publications.htm.)

Related to the New York Fed Staff report, the issues raised in the article today include issues on pay I have elaborated on in more detail in these recent articles.

http://management.fortune.cnn.com/2012/04/16/the-terrible-cost-the-u-s-pays-for-derivatives/

http://management.fortune.cnn.com/2012/01/30/ceo-pay-us-economy/

The implications for our economy are clear. The solutions may not come easily, but it is important that we work together to find them.

If you have comments on this blog post, please ignore the comments are closed notice below and just email me directly at ebloxham@thevaluealliance.com

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Does  CEO compensation in the form of stock and stock options create alignment with company value creation? No.

Current case: The debt ceiling gymnastics.
As the stock market drops, is that reflective of less value creation by a particular CEO? (No.)
Should a CEO receive less income because the stock market is being held hostage by certain members of Congress? (No.)
Conclusion: CEO compensation in the form of stock and stock options does not create alignment with company value creation.

Does enforcement matter? Regarding highway speeds, it does, and one attorney says yes it does matter with companies too.
FT (Richard Waters): Google faces fresh fire over web reviews         “Without proper sanctions, ‘no big company would ever obey the laws, they would do whatever they could get away with until they were caught’, said” Gary Reback, a Silicon Valley lawyer. http://www.ft.com/intl/cms/s/2/561dcd98-b61f-11e0-8bed-00144feabdc0.html#axzz1TP7KiEVv

Just like they predicted in the Weekly Reader in elementary school, fewer work hours are needed today …but then it was just supposed to mean more leisure time not millions unemployed.
FT (John Gapper): America’s turbulent jobs flight           “US manufacturing has a good story to tell but that story is about technology and productivity rather than jobs for the millions of people out of work” http://www.ft.com/intl/cms/s/0/1d467a7c-b883-11e0-8206-0144feabdc0.html#axzz1TP7KiEVv

Civility in America 2011 (See link)http://www.webershandwick.com/resources/ws/flash/CivilityinAmerica2011.PDF
The economics of incivility.
The percentage of people who didn’t buy from a company because of incivility rose 13 percentage points over last year to 69%. The percentage who changed their opinion about a company due to incivility rose 14% (also to 69%). 1 in 5 employees have quit a company due to incivility in the workplace. Company leadership and employees themselves are primarily to blame for incivility according to those surveyed.

 
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 Eleanor Bloxham www.eleanorbloxham.com
 
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_____________________________________________________________________ 

On the debt ceiling crisis: Don’t we have enough crises to deal with without manufacturing one?

Reading (July 27):
NYT (Steven Davidoff): Proxy Access in Limbo after Court Rules Against It        “How do you quantify the costs and benefits of democracy?”   http://dealbook.nytimes.com/2011/07/27/proxy-access-in-limbo-after-court-rules-against-it/?nl=business&emc=dlbkpma21

WSJ (David Wessel): What’s Wrong With America’s Job Engine?          “Over the past 10 years..The labor force has grown by 10.1 million.But the number of private-sector jobs has fallen by nearly two million.”
http://online.wsj.com/article/SB10001424053111904772304576468820582615858.html?mod=ITP_marketplace_0

WSJ (Willa Plank): CEOs in Their Own Words: Don’t Plan on Much Hiring          ”Outside of rail and technology companies, almost none of them discussed long-term plans to significantly expand their work force.” http://online.wsj.com/article/SB10001424053111904772304576470484142293112.html

Writing (July Fortune):
U.S. jobs crisis: It’s time for corporate leaders to step up          “So the real question is what, without government assistance, can the overseers of U.S. corporations do to help solve the national demand for jobs?” http://management.fortune.cnn.com/2011/07/27/us-jobs-crisis-corporate-leadership/?section=magazines_fortune

Apple’s no-win CEO succession efforts          “Taking the work of the board offline means there is a working problem with the board online — signaling that a problem with process, power, or personalities at the board level needs to be resolved. It behooves any board in such circumstances to try to address the real source of the difficulty, rather than use alternate means to accomplish a goal.”
http://management.fortune.cnn.com/2011/07/25/apple%e2%80%99s-no-win-ceo-succession-efforts/

News Corp directors: Half way out the door?      ”Only time will tell whether support of the stock and support of the management go hand in hand. The company used to have “equity ownership requirements” for directors, according to the company’s 2008 proxy. Those requirements were not included in the company’s 2009 or 2010 proxy reports.”
http://management.fortune.cnn.com/2011/07/19/news-corp-directors-half-way-out-the-door/

What’s in store for Rupert Murdoch?         John M.”Nash thinks that CEOs should not sit on any board, including their own company’s board. The CEO can attend board meetings, but ‘shouldn’t have a vote,’ Nash says.”
http://management.fortune.cnn.com/2011/07/19/what%e2%80%99s-in-store-for-rupert-murdoch/

Who can right the ship at News Corp?         The right tone at the top, good governance. None of those words sound so sweet – or powerful – as in the midst of crisis. In the helter and skelter of the every day, they can be brushed off as meaningless. In the midst of an engulfing crisis, though, it is no longer possible to simply repair them, to put lipstick on the pig  – they must be made again whole cloth.     http://management.fortune.cnn.com/2011/07/18/who-can-right-the-ship-at-news-corp/

How to get paid like a U.S. CEO          “The research shows that U.S. CEO pay is higher primarily because U.S. CEOs are awarded high levels of equity compensation, which includes pay in the form of company stock and stock options…When companies have U.S. institutional owners, boards are more likely to offer high levels of equity compensation (and, in turn, total compensation), the research shows.”
http://management.fortune.cnn.com/2011/07/05/how-to-get-paid-like-a-u-s-ceo/

Will Bank of America execs get to keep their bonuses?             “Implement bonus deferrals — so executives have to wait to be paid the full amount of their bonuses. Bonus deferrals help ensure that pay is made on an accurate performance assessment and that there aren’t any billion dollar ‘oops’ moments lurking in the background.” http://management.fortune.cnn.com/2011/07/01/will-bank-of-america-execs-get-to-keep-their-bonuses/

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Why do regulation and public policy and legislative efforts too often fail to do their intended job?

For some time, I’ve argued that one reason is that the inputs are flawed and that there needs to be more inclusiveness in the decision making pool for legislation and regulatory initiatives.

In this article for Fortune I discussed the issue in a particular case related to control frameworks in the Sarbanes-Oxley implementation. http://money.cnn.com/2010/07/16/news/economy/COSO_SEC_flaws_Sarbox.fortune/

I have also written directly to the regulators at the FDIC and SEC about my concerns in this arena, encouraging them to draw in and expand the pool of resources they consult with — in order to combat regulatory capture and make better regulations.

Legislators need to do this also. When I attended a meeting at the Academy of Sciences a few years ago, a congresswomen told the green energy industry members in attendance there that if they hoped to succeed they would need to hire more lobbyists. Clearly, that is the antithesis of a free and open democracy.

In my letters to the regulators I have recommended making greater use of independent experts to supplement industry lobbying. I was pleased therefore to run across this recent working paper on regulatory capture by Professor Lawrence Baxter whcih advocates these ideas.  http://scholarship.law.duke.edu/faculty_scholarship/2355/

The issue of how laws and rules are made is not a small issue and it should be of interest to everyone. Let’s hope when Baxter’s work is published, it will make a difference in encouraging more inclusiveness and as a result better legislation and regulation for all.

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I recently wrote an article for Fortune on shareholder voting and how battles over shareholder votes may intensify next year. http://management.fortune.cnn.com/2010/12/01/why-your-shareholder-vote-may-not-count/

The article stemmed from reviewing a number of papers including a recent report published by IRRC Institute and the Rock Center for Corporate Governance last month entitled Identifying the Legal Contours of the Separation of Economic Rights and Voting Rights in Publicly Held Corporations, which reviewed the legal literature on shareholder voting. http://www.irrcinstitute.org/projects.php?project=49

The report referenced a number of papers, including one by Marcel Kahan and Edward Rock entitled The Hanging Chads of Corporate Voting published in the Georgetown Law Journal in 2008 http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1007065 which I reference in the article along with
Management Wins the Close Ones in which Yair Listokin reviews empirical evidence which shows management is overwhelmingly more likely to win votes by a small margin than to lose by a small margin.  http://papers.ssrn.com/sol3/papers.cfm?abstract_id=980695

From the background work I did for the article, it appears there could be increasing private litigation in this area.

So it is important that boards and companies push for reform. As Thomas Berkemeyer, Assistant Secretary and Associate General Counsel, of AEP writes in his comment: “The SEC should require brokers and other financial intermediaries to produce an eligible-voters list as of the record date for each shareholder meeting” and “The reconciliation methodology should be standardized.” http://www.sec.gov/comments/s7-14-10/s71410-244.pdf

As Carol Hansell, an attorney with Davies Ward Phillips and Vineberg and a co-author of an important 184 page paper entitled The Quality of the Shareholder Vote in Canada http://www.dwpv.com/shareholdervoting/media/The-Quality-of-the-Shareholder-Vote-in-Canada.pdf puts it: will we continue to have a situation where we just don’t know if a shareholder’s vote has been counted or not, a situation that “resembles a party game in which a guest must name an object in a box by asking questions about what it might be rather than just looking into the box.” Will there be transparency and assured accuracy?

I think the question will be how long this issue will go on and whether we’ll wait until we are in crisis-mode. It’s not that this is a new issue, but it is one reaching a critical juncture.

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Insider trading has been at the forefront in the wake of the recent FBI investigations. The investigations should provide caution to board members and others priivy to confidential information on a regular basis.
See my article for Fortune http://finance.fortune.cnn.com/2010/11/29/why-the-stock-market-isnt-fair/ and Nin-Hai Tseng’s article for Fortune here http://finance.fortune.cnn.com/2010/12/01/who-is-an-insider-anyway/

It can be difficult to discern whether or not information – private or public – will result in trades. Enron is a case in point. In Jeff Skilling’s run up to the presidency of Enron, he beat the drums for Enron’s move into the trading businesses. One reason he gave the media? Trading didn’t require capital. This was an immediate red flag to me that Enron was in for trouble and anyone who read his words and understood the trading business should have known that Enron was sailing into dangerous waters. Some may have traded on that information. It was public. Yet, that information never moved the Enron stock. I think it was material – it was my tip off. But it wasn’t one for the market as a whole.

Bottom line, fairness in the capital markets is important — and it requires great care to ensure that they are. Now is a good time for boards and consulting firms to ensure that the rules and their spirit are well understood.

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In one of the many tapings I did about five years ago, one stuck out. It was a director who sits on several boards and made statements along the lines of – we figure out what is legal — and then we know the sphere of action — everything else is fair game.

I was shocked — but was so much so that I was speechless -  and didn’t  respond verbally as such on camera.

What caused this to come to mind was a group email I received with a similar theme this weekend — morality is defined by legality. It read “What ought to be is compliance with the law.”

Of course, if you have considered this idea before you recognize that requiring legality to define morality requires many laws. Ever since that incident about five years ago, I have wondered: is that what directors really want – enough laws and their sufficient enforcement to ensure that directors know what the moral lines are?

What happened to the idea of moral principles which go beyond the law? And law that was circumscribed to the fewest number possible that allow for a civil society and the preservation of rights?

I think we have entered a difficult passage if we are to accept that the law can proscribe all that is right and wrong. I think that we have lost our bearings if this is what we believe.

I like the idea of the fewest laws necessary — but if we insist that the law define our morality — we will need many more indeed.

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We always like to think that conformity and pressure to conform is externally driven. Of course, it isn’t. The pressure is internal — a desire to fit in, to be accepted and a fear of taking on this adventure called life. Maybe it was shaped in childhood but the choice to conform is one each adult must make.

Pressure for conformity does indeed lead to lack of innovation.

Jim McRitchie at Corpgov.net has an interesting story on his website about the reluctance of boards to participate in innovative programs despite the fact that there is a feeling that something more and different would be beneficial. http://corpgov.net/wordpress/?p=2397

Paul Hodgson had an entry in May on The Corporate Library Blog on the lack of conformity in governance thinking http://blog.thecorporatelibrary.com/blog/2010/05/corporate-governance-is-like-religion.html.

Despite this, much of what companies actually do is quite uniform. See http://money.cnn.com/2010/05/25/news/companies/say_on_pay_law.fortune/ and http://money.cnn.com/2010/06/17/news/companies/banker_compensation_finreg_risky.fortune/  on pay.

The uniformity of pracitce is so pervasie that it makes new ideas all the more appealing. It’s why I applaud Bebchuk and others for thinking about new approaches even though in any particular example I may think they aren’t the right solution. http://money.cnn.com/2010/07/02/news/companies/aig_executives_compensation_debt.fortune/index.htm

I had a refreshing conversation with a director a few weeks ago who put it this way: benchmarking is anti-American — it’s the antithesis of innovation.

I agree with this sentiment and even said so when I spoke for the Best Practices Institute a couple of years ago. (So called best practices are often used by firms to “benchmark” their own actions.) I told the BPI audience much of what I described on that subject in this Digest http://www.thevaluealliance.com/PDF/CGADigest122908.pdf i.e. it is important  to innovate beyond benchmarks and so called best practice.

Benchmarking in compensation has been taken to an extreme. Last week Fortune published this article I wrote on an IRRC and Proxy Governance study. http://money.cnn.com/2010/07/15/news/companies/compensation_committees.fortune/

The study showed that quite a few compensaiton committees in their benchmarking pick outsized peers — and quite a few pay markedlly more to their own CEO than the CEOs receive in the peer group selected.

Is this the veneer of conformity? Do the boards recognize that it’s veneer?

Of course, we also often have the reverse issue — the veneer of innovation, the veneer of considering new ideas.

In this article Fortune published on Friday, I talk about the situation of Tim Leech trying to take on that veneer and the conformity he has faced. http://money.cnn.com/2010/07/16/news/economy/COSO_SEC_flaws_Sarbox.fortune/  It is an important story because it goes to the heart of what is plaguing us, mired in conventional wisdom and failing to access the talent which could provide us solutions. It is also important because it gets at some of what caused the “Great Recession”. If you are wondering “why SOX didn’t work”  – and what could make a big difference — the specifics as well as the processes that need to be fixed are told in this tale.

Still the question remains: Will the Great Recession be motivation enough?

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Copyright 2010 The Value Alliance Company. All rights reserved.