Tuesday, April 17, 2012

Interim project report (draft)

The instant project was nominally commenced last June.   I have been pushing for more than ten years on the question of entity level liability versus officer and employee individual liability as a means to deter corporate wrongdoing.

While many interested parties have declined to comment or take a position on the issue, I don't think anyone has taken the position that entity level liability is sufficient by itself for trying to deter corporate wrongdoing and that officer and employee individual liability should be dispensed with as a tool.

There is a constituency in the ethics community that would prefer no intrusion of the law and regulators into corporate affairs and that would like self-policing alone to suffice.  Some of this constituency may have such a strong preference and belief that they would advocate relying entirely on self-policing.  Currently, it seems clear that lawmakers, regulators, prosecutors, judges and others are not going to go along with that.

While no interested party seems to be prepared to take the position that entity level liability is adequate by itself,  there are reputable commentators who are clear in a belief that entity level liability alone is not sufficient and are open advocates of individual  liability.  For example, see the March 21, 2009  email here in response to this email inquiry I made regarding the Vioxx litigation of several years ago.

Gretchen Morgenson, the author of Reckless Endangerment: How Outsized Ambition, Greed and Corruption Led to Economic Armageddon,  has been very vociferous in complaining about officers, directors and employees not being held accountable for things that went on during the financial crisis.  See this entry.

Last May I started raising the question whether the Obama administration was shifting to targeting individuals.  See this entry.  Three Wall Street Journal articles at the time were suggestive that this was the case. See thisthis, and this.

The Ethics Resource Center endeavored in 2010 to engage with federal enforcement officials related to the ERC's white paper Too Big To Regulate: Preventing Misconduct in the Private Sector .  This white paper was predicated on a view that recent events had raised "significant" questions about the effectiveness of government regulation and the ability of regulators to prevent misconduct. The paper listed eight such questions, the last of which was one of possible resignation, to wit: "Have we simply reached the point where regulating corporate conduct is an impossible job?"

The paper did a lot of circling around the government's enforcement approach and the corporation's self-regulatory approach. The paper covered numerous points and issues, variously supportive of and questioning of the two sides. The paper acknowledged that differences persisted and called on the two sides to continue to try to bridge the gap.

I wrote this email to the Ethics Resource Center and this email to the government officials that urged consideration of the issue of entity level versus officer and employee liability as means to try to deter corporate wrongdoing.  These emails produced no response.

Generally, I have encountered widespread disinterest.

In some cases, it seems clear that  parties who should have an interest in my project are not interested in responding to me, because it does not entirely suit their interest to respond or because they have other more important interest.

For example, in the case of state attorneys general, entity level liability has important publicity value to them, and I believe that reduces their interest in determining their position on the issue of entity level liability versus officer and employee individual liability as a means to deter corporate wrongdoing. State attorneys general also have significant "turf" issues vis a vis the United States Justice Department that are of much greater priority for them.  See this link and this link (no response received to the email in the latter link).

Corporate management I am quite sure has little interest in responding to a project like mine that asks questions that may lead to suggestions for altering the legal machinery to increase officer and employee individual liability in connection with corporate wrongdoing.

Plaintiffs' lawyers have a huge financial interest in entity level liability, so much so that, thus far, I have made little effort to contact them regarding my project.  Defense lawyers rake in millions of dollars defending against the plaintiffs' lawyers, and it is not in the interest of the defense lawyers to scrutinize the deterrence value of entity level liability.

I think corporate ethics officers, including the Ethics & Compliance Officer Association, are not able to respond very well, because they cannot diverge publicly from views of their corporate management bosses who, as mentioned above, want to stay away from anything that might lead to increasing officer and employee liability.

Consultants in the business ethics field have been non-responsive to my project. This is probably due to there being little revenue potential for them from my project and follow up that might grow out of my project, such as efforts to educate and persuade lawmakers, judges, and state attorneys general regarding the subject matter.

In the academic community, there currently seems to be greater interest in internal corporate culture, corporate leaders cultivating it positively, and the same being transmitted to employees through internal programs, and there is much less interest in how intrusive externalities of the law, courts, prosecutors and regulators should best be brought to bear on improving corporate behavior. This seemed supported by a review I did of articles in the Business and Ethics Quarterly from the past couple of years and the email correspondence I attempted with authors that is posted here and here.

Also, there are limits on the current ability of science and research to produce sufficient proof about  relevant matters to satisfy other "players," such as lawmakers, judges and regulators.  A good example is whistleblowing.   The Comment from the Business Roundtable Institute for Corporate Ethics, which is second comment at this link, cites the 1999 article Trust and Distrust in Organizations  in support of  the statement "Well intended actions can have unintended consequences, as illustrated by one academic study showing that employees who are subjected to additional, compulsory oversight measures often 'become less committed to internal standards of honesty and integrity in the workplace,' which are precisely the standards that promote sustainable, long-term value."  This probably provides little evidentiary proof to regulators about what regulations shall be promulgated.  By the same token, there is probably little scientific measurement of the societal benefit from paying whistleblowers (or from allowing whisteblowers to go directly to governmental authorities).  This current limitation of science and research probably applies to measuring the deterrent effect of entity level liability versus officer and employee individual liability.

If other parties are not interested, how bothered should I and the few others referred above (Gretchen Morgenson, the Vioxx commentator) be?  How big deal is there here?  Other interested parties need to answer that for themselves, and I can only reprise the possible important considerations I see.

The main problem with entity level liability is that most of the punishment is imposed on shareholders, employees and others who are "innocent" (in the sense of not being active and knowledgeable participants in the wrongdoing) and it does not target directly the officers and employees who were active and knowledgeable in the perpetration of the wrongdoing.  Frequently the latter escape any financial punishment, and they may, in fact, have profited significantly through higher compensation from the corporation while the wrongdoing was going on.

Also, if there has been wrongdoing that has resulted in gains and profits, many of the "innocent" shareholders, employees and others who bear the burden  of the entity level liability may not have received any benefit from the wrongdoing.  (Think about shareholders who have purchased their stock recently in a situation where profits from previous wrongdoing have been paid out as dividends or as salaries and wages, or reflected in a higher stock price at which the new shareholders purchased their stock.  Such new shareholders have not benefited from the wrongdoing, but they bear part of burden ofthe corporate level liability for the wrongdoing.)

This entity level liability lends itself to significant abuse by plaintiffs' lawyers, and arguably by corporate management ("heads I win bonuses and stock options, tails you stockholders pay the corporate liability").  Entity level liability contributes to the widespread phenomenon of "settlements" in which there is no determination of what wrongdoing, if any, took place.  Absent such determinations, society's actors (including those engaged in the ethics mission) are deprived of important guidance.  I have long considered the Vioxx case as a particularly good example.  See this entry.

As the Vioxx entry indicates, besides the failure to provide "guidance," there is also arguably a great waste of economic resources that could be deployed in better ways for advancing the mission of business ethics.

To me, cases like the Vioxx litigation and the recent $25 billion "robo-signing" bank settlement cry out for asking and trying to answer the question "what kind of deterrence effect is achieved by this type of entity level liability?"  (As to the "robo-signing" settlement, neither the Mortgage Bankers Association (link) nor the Conference of Bank Supervisors (link)  wishes to engage in any discussion about what deterrent effect is achieved.  The National Association of Attorneys General is also not interested in discussing the same.)

On the other side from the foregoing problems posed by entity level liability, first, it needs to be kept in mind that, as regards civil law liability, deterrence is secondary to the primary objective of compensating persons who have been harmed by wrongdoing.  This can lessen the impetus to try to fix the problems of entity level liability described above from a deterrence standpoint.  More important are the problems that are posed by trying to impose any liability on officers and employees in the modern, complex business world..  The activities of large corporations are designed and carried out through the collective action of numerous corporate officers, employees and other agents. Amidst complexity, there are many nooks and crannies for employing deceptions and tricks to obtain wrongful gains, and there are myriads of conflicts of interest in which persons can improperly exercise their authority in one position to favor another economic interest they have in a different position.  Discovering all the relevant facts and elements of wrongdoing, including identifying all the officers and employees involved and determining their respective responsibilities, can obviously be extremely difficult, time consuming and expensive.

It would seem that the problems on both sides of entity level liability and of individual liability create a very difficult choice for society.  Society has a hard time measuring the increased deterrent effect, if any, of holding responsible officers and employees liable and a hard time weighing that against the cost and expense of constructing legal machinery that will undertake determinations about, and impose punishments on, responsible officers and employees.  The primary objective of compensation as regards civil law liability also contributes much difficulty in the societal choices.

As a result, there is thus plausible reason for business ethicists not to weigh in on the issue of entity level liability versus individual liability.

To the extent they do not weigh in, they marginalize themselves.  Many of the other interested parties have a stake in staying away from the issue, and the issue is in the moral bailiwick of the business ethicists to take a position on.  If they don't, they are in effect saying, "we are not up to reaching a position on this issue."  If they do not weigh in, they are sidelining themselves if and to the extent the Obama administration and its prosecutors are engaged in making decisions about pushing for individual liability. They further lose stature in trying to engage with the governmental authorities on whistleblowing and the "governmental approach." They also lose ability to engage with management about whether legal settlements are an acceptable modus operandi in light of the "guidance failure" accompanying the same, the large diversion and possible waste of corporate and societal resources that could be better deployed in prosecution of the ethics mission, and arguing that the corporate world needs to modify its stance against plaintiffs' lawyers by offering more officer and employee individual liability in exchange for reduced entity level liability.

I will continue to try to get business ethicists to react.

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