Shareholders should not be prosecuted for the sins of the board and employees

Many people were getting in their licks yesterday as the Committee on Banking, Housing, and Urban Affairs gave three top government officials a tongue lashing about the way they are not handling the failure of major financial institutions to comply with two complex regulations governing money laundering and sanctions.

The failure of the board of directors to oversee policies and procedures at HSBC allowed a small but important number of bank employees to knowingly allow transactions they knew at the time were in violation of the law or took no action to control the inefficient management when the violations were first discovered. No doubt, laws were violated and indictments for felonious behavior were called for.

However, let us not throw the baby out with the bath water. There is nothing to be gained by prosecuting a corporation in the banking business for criminal activities when only a few miscreants are to blame. But why, we have asked for months, have the regulatory agencies failed to file criminal indictments against both the lower level managers responsible for the lapsed oversight and the members of the Board of Directors who appear to have been asleep at the switch?

Let’s remember that the former dean of the Stanford School of Business who was a member of the board of Enron was indicted, found guilty and fined down to his basic holdings for not being on top of both the Enron management and a few not so honorable members of the auditing firm, Arthur Andersen. Unfortunately, the shareholders of Enron and the partners and employees of Arthur Andersen were left holding the bag or out of work.

With Sarbanes-Oxley and the more recent Dodd-Frank legislation, the federal government is taking over functions that for two hundred years have been the provenance of the state governments, and without appropriate legislation, they still do not have the legal right to indict a corporation for anything other than tax evasion or violation of the Clean Air Act and other operating functions.

Criminal indictments should have been made by the Securities and Exchange Commission, Office of the Comptroller of the Currency and Federal Reserve Bank by sending their evidence to the Criminal Division of the Department of Justice in the cases of Goldman Sachs, Barclays, AIG, and numerous other financial institutions and asking for formal criminal indictment procedures to follow through.

They did not. SEC claimed that they have preferred really big fines and a slap on the wrist because they have testified the Securities Exchange Acts of 1933 and 1934 are too vague on errors of omission to justify the effort to support a criminal indictment. It must be said that Mary Schapiro, the former head of the SEC had on more than one occasion asked the Congress to clarify and strengthen the legal basis for enforcement and prosecution.

If we are going to obtain discipline in any organization for conduct in accordance with stated principles, policies and procedures, laid down by the Board of Directors, there must be a fear factor. That is achieved by making it clear to all employees from the Board on down that violations of internal governance procedures will result in termination with cause. Violation of external governance regulations will be sent to regulatory agencies with recommendations for both civil and criminal indictments.

There is little doubt that banks have cut back funding and lost board control of the training programs for these critically important functions. They and the perpetrators of violations should be painfully aware of the possible civil and criminal penalties.

Filing federal charges against a corporation registered and governed by a state will open a can of legal worms. It is totally unnecessary. Board members need to take a greater interest in assuring that compliance and internal audit procedures are being implemented effectively. Do not stand by those few employees who, with malice aforethought, violate a law either for recognition of a successful profit making unit or other motivations of avarice and greed.

In any case, send those truly guilty to jail. 

James is executive director of the Center for Global Governance, Reporting and Regulation at Pace University’s Lubin School of Business in New York City. James is also program director of Pace University’s Certified Compliance and Regulatory Professional certificate program.

View Comments

View the original article here