Admitting “Egregious Intentional Conduct”
Last week, new SEC Commissioner Mary Jo White announced that the SEC would start to be more aggressive in some settlement negotiations by requiring companies or individuals to admit fault in order to settle civil cases. She emphasized that the SEC would still allow defendants to “neither admit nor deny” wrongdoing in most settlements, but proposed the change in cases of “egregious intentional conduct or widespread harm to investors.” The purpose of the change is to give the public what they apparently crave – an admission of wrongdoing, blame, assurance that the wrongdoer knows what he/she/it did and has been punished.
The new policy brings to mind more questions than answers. Why was the SEC ever allowing defendants to neither admit nor deny in cases of “egregious intentional misconduct”? There are certainly advantages to the “neither admit nor deny” policy. It encourages cooperation from defendants so that the truth will be revealed more quickly and completely. It encourages quick settlements and so avoids litigation costs. Litigating the big cases would be very expensive for everyone involved. Settlement seems much more cost-effective and parties are far more willing to settle if they do not have to admit responsibility. Still, when the SEC has significant evidence of “egregious intentional conduct or widespread harm to investors” and allows the responsible parties to pay a fine (really, allowing the corporation to pay a fine) without so much as admitting responsibility, it is hard to take its role as a law enforcement agency seriously.
Punishing corporations and their officers and directors is certainly a difficult business. We do not want to discourage people from managing firms (or from managing public firms) because of the fear of significant, indiscriminate personal punishment. “Punishing” corporations seems empty because it is the people who animate the firm who commit wrongs and harm investors. It is true that the more severe the punishments we prescribe for those managing corporations, the less likely we are to enforce those punishments (I made this argument about fiduciary duties here). On the other hand, to make recourse against those who have harmed investors, even those who have done so intentionally and egregiously, an elaborate display of smoke and mirrors is to undermine the purposes of accountability and the confidence investors have in the ability of the SEC to enforce its regulations.
Investors are most at risk when they think they are well-protected by regulation and in fact they are not. To the extent the federal government continues to enact post-crisis regulation that merely provides a good sound bite and gives the appearance of stopping or discouraging corporate misfeasance, investors will believe they are safer when little may have actually changed. Investors who are lulled to sleep by the illusion of tough regulation will monitor firms and their managers less carefully and lose any sense that buyers should beware. By the time investors realize regulation did not fully protect them, it will be too late.
It is hard to see how the SEC’s new policy will make very much of a difference to how well investors are actually protected from securities violations. If firms and executives are concerned that they will be more likely to be sued in private actions after admitting fault in an SEC settlement, it seems that most of that damage would be done by the bad press resulting from the SEC investigation in the first place. I doubt plaintiffs’ attorneys investigated Citigroup any less vigorously because it did not admit fault. Granted, it may be easier to make a prima facie case against a firm or individual that admits fault in a settlement, but because the new policy will only affect particularly egregious cases, it’s not clear plaintiffs would need the defendant’s admission to make a case. Even where the admission would help, I would be surprised if companies and executives do not negotiate vigorously about exactly what violations they will admit committing. They are likely to “plead down” and admit to less severe offenses on the way to settling more egregious violations. As they do now, executives may simply blame the firm and allow the SEC to fine it rather than taking personal sanctions. If it turns out that the SEC does have to litigate more cases, that may be a good way to set an example in the most serious cases and make clear that the SEC is willing and able to actually prosecute particularly severe violations of its regulations. That process, though costly, may well enhance the deterrent value of SEC enforcement. I’m back to wondering why they ever had a different policy for the most egregious cases.