Corporate Versus Individual Accountability
posted by Michelle Harner
The recent announcements that the SEC reached a new $150 million settlement with Bank of America (see here) and that the New York Attorney General commenced civil litigation against certain current and former Bank of America executives (see here) are an interesting study in corporate versus individual accountability for corporate misconduct. The SEC did not pursue any actions against the individual executives at Bank of America (see here); rather, the SEC’s action and resulting settlement focus on the corporate entity. The Attorney General’s action, on the other hand, focuses on alleged individual misconduct.
The different approaches may be due in part to different legal standards of liability. In general, the SEC must establish intentional misconduct on the part of individuals in this context (see also here); the applicable New York law does not include this type of scienter requirement. (A cynic also might say that the difference relates to public opinion and Andrew Cuomo’s potential campaign for the governor’s office.) Nevertheless, the New York Attorney General’s approach appears to address more directly the concerns expressed by Judge Rakoff when he rejected the SEC’s original $33 million settlement with Bank of America (see also here).
The different approaches also raise an important question regarding whether corporate or individual liability is a more appropriate or effective remedy and deterrent for corporate misconduct. How far do we want to extend the legal fiction of the corporation? How in either situation do we avoid the corporation and its shareholders paying for individual misconduct that harms the corporation and its shareholders (e.g., indemnification)? How do we distinguish between good faith, honest mistakes and reckless, cavalier misconduct? And how do we level appropriate sanctions against individual wrongdoers without deterring other qualified individuals from serving on corporate boards?
These are difficult questions that courts, legislatures and commentators try to balance and address. I am not convinced that we have reached an appropriate equilibrium, and perhaps we never will. But I think we could benefit from acknowledging that corporate misconduct is caused by individuals and that some individual accountability is necessary to deter future misconduct. Notably, that remedy does not need to be a monetary penalty. In fact, public reprimands and temporary and permanent bars could be even more effective because those remedies impact reputation and arguably make it more difficult for the individual to commit similar wrongs in the future. (For a discussion of bars and the SEC’s and courts’ use of them, see here and here.) They also may ameliorate the concern that holding an individual liable for the amount of losses typically associated with corporate misconduct is too punitive. (For other means to address this concern, see here.) As we continue to reflect on and try to learn from the economic crisis of the past few years, I hope we consider alternatives to link more directly corporate misconduct and corporate accountability.
February 5, 2010 at 8:09 am
Tags: Corporate Law, Current Events
Posted in: Uncategorized
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Responses (6)
Ken Rhodes - February 5, 2010 at 12:53 pm
>>How do we distinguish between good faith, honest mistakes and reckless, cavalier misconduct?>>
Well, we may drive ourselves crazy trying to make that distinction, and for what purpose? The result is what it is. When Wachovia bought Golden West it was a “good faith, honest mistake.” Golden West was making money hand over foot, and the price was in line with their profitability. There was no hidden agenda at Wachovia. They were simply trying to make money.
But Ken Thompson got the ax because his failure to pursue “due diligence” with due diligence cost Wachovia not only a few dollars, but their corporate life. Wachovia shareholders would certainly characterize that activity as reckless and cavalier.
The bottom line in business is the bottom line. Lacking a criminal element to their actions, executives don’t go to jail, they just have to go sit in the “time out” chair. So maybe we don’t need to make moral distinctions, as long as the actions and results speak for themselves.
Michelle Harner - February 5, 2010 at 1:49 pm
Ken:
Thank you for the comment; I like the difficult distinction you highlight. I agree with most of what you say, but I am perhaps more skeptical that executives deserving of time out actually receive even that reprimand. And I struggle with this distinction myself, which is why I raised it. I do not think we should punish directors and senior officers who try but just get it wrong, but I do think we could do more when the facts suggest otherwise. But again, I do appreciate your point.
Best regards, Michelle.
Patrick S. O'Donnell - February 5, 2010 at 6:17 pm
You raise exemplary questions in lucid fashion, all of which I believe are in need of urgent address.
Of course individual liability is more directly grounded in principles of legality in criminal law and thus we are rightly moved to flesh things out in that direction, but we might also look at “corporate accountability” in the broader ethical terms of “collective responsibility,” a topic of vigorous debate in philosophical circles and about which Larry May has written several things that I would think are requisite reading (see, first, Larry May and Stacey Hoffman, eds., Collective Responsibility: Five Decades of Debate in Legal and Applied Ethics (1992) and then May’s The Morality of Groups… (1987) and Sharing Responsibility (1992)). Also seminal here, as you probably know, is Christopher Kurtz’s book, Complicity: Ethics and Law for a Collective Age (2000).
SOME of the issues of accountability and ethical responsibility are similar if not identical to those raised in international criminal law with regard to States, heads of State, and State leaders (about which May has also written).
A.J. Sutter - February 5, 2010 at 11:28 pm
Suppose an individual executive, say a COO or division head, makes a decision to flout some environmental law or regulation. Suppose further that the all-in cost (direct costs, transaction costs, etc.) of compliance is higher than the legal penalty, and that the non-compliance results in increased CO2 emissions, or some other form of pollution or environmental harm that doesn’t directly and adversely impact a private interest (i.e., private plaintiffs not on the horizon). If the executive repeatedly thumbs his nose at this regulation, I take it under Ken’s formulation (i) he’s a hero because he’s protected the bottom line, and (ii) it’s the fault of the legislators or regulators for setting too low a penalty?
Michelle Harner - February 6, 2010 at 8:04 am
Patrick: Thank you for the comment and cites to the collective responsibility literature. I think that reference is an interesting and useful analogy and relates in part to the debate regarding whether the SEC should invoke “collective scienter” to establish the intent necessary for a successful securities fraud claim against individuals. For an example of a court accepting collective scienter, at least at the pleading stage, see City of Monroe Employees Retirement Sys. v. Bridgestone Corp., 387 F.3d 468 (6th Cir. 2004). Best regards, Michelle.
Michelle Harner - February 6, 2010 at 8:28 am
A.J.:
I actually use a similar hypothetical in my Business Associations class—the shipping company that ignores/encourages its drivers to violate applicable traffic laws in the name of faster and better service to customers. It sparks an interesting debate regarding duties and enforcement. And whether we are talking about a decision to violate environmental laws, traffic laws or securities laws, I think we need to focus on enforcement and the subjects of those enforcement efforts. For example, in the Bank of America litigation, the SEC basically determined that the corporation failed to disclose key information to the public—a violation of U.S. securities laws. And how does a corporation decide to disclose or not to disclose information—through its individual directors and senior officers. Yet, it is very unlikely that those individuals will experience any adverse consequences, other than perhaps the unpleasant experience and distraction of being named a defendant in the state litigation.
Now it may be that the individuals could justify the conduct by pointing to the bottom line and arguing that the upside was worth the risk, but when that risk crosses the line and violates applicable law, I think the individuals need to be held accountable on some level. (And of course the nature of the violation may dictate that level and the resourcs devoted to enforcement, etc.) Otherwise, individuals have no incentive to change their behaviors, and corporate misconduct and scandals will continue (which I should note is good for academics who write in the area but probably not so good for investors and the markets). Nevertheless, I recognize the competing perspectives on this point.
Thanks for the comment.
Best regards, Michelle.
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