It is my belief that if we place you a position of public trust with all its honors and privileges we’re justified in holding you fully responsible. You break our trust and you go to jail. There will be no safety in D&O insurance. There are no plea bargains. Political connections won’t help. You can make a lot of money but break our trust and you’ll never enjoy that money. You know this before signing up and the justice system backs us up.
We do not define in advance what determines a breach of trust. We look at results. Whatever turns out to be a material cause for adverse results, as determined after the fact, will be considered a breach. It doesn’t matter whether an i- was dotted or a t- crossed on a regulatory document. You have adverse results, we dig in to find the cause, and it better not be you.
There is a mindset that thinks it can over time devise a comprehensive set of restrictions. They promise to put a stop to corruption before it starts. In the end they precipitate corruption by fostering a false sense of security. They put in place regulations, have a few show-trials, and think to cow businessmen into compliance. Instead businessmen increase their D&O insurance, hire more lawyers and consultants, and do whatever they need to do in order to earn their high levels of executive compensation. Some simply move regulated operations outside the reach of regulations.
I was told the following story by a colleague working at one of the major NYC consulting firms.
The Brazilian government enacted new regulations. Within a day we were able to find a way around them so our client could do what the regulations intended to stop.
She told me this story with obvious pride. Think you can outsmart these clever advisers? Think whack-a-mole.
The more regulations proliferate the more you breed a legalistic mindset, the more a sense of pride in finding ways around the regulations:
Well I don’t know as I want a lawyer to tell me what I cannot do. I hire him to tell me how to do what I want to do. – J. P. Morgan
We don’t (only) want your brain, we want your heart. We measure good stewardship in terms of business results placing it in line with the heart of the honest businessman. The moment you define stewardship in terms of rules, regulations or procedures, this is the moment the brain kicks in and you lose the heart. We want the same level of passion, intensity and devotion to business continuity as to executive compensation.
Why do you think lobbyists for industry are so involved in the crafting of new regulations? They’re well attuned to the public indignation and readily support new regulations. They want excruciatingly detailed regulations with overly complex formulas, with financial penalties targeted to specific breaches. Why? Because the more complex the regulations the harder it is to prosecute them in the courts. Today’s legislation rarely reaches down to the person of the business savvy executive. At best we penalize customers and shareholders.
Too Big to Prosecute
Those who craft today’s regulations should be tossed into jail with the crooks. They receive campaign contributions, craft regulations, and prosecution rates drop to historic lows. Ill-gotten gains are used by crooks to finance campaigns for accommodating politicians. It’s a corrupt practices insurance policy. Politicians need to understand that public anger on this issue has reached a boiling point. The Iron Triangle needs to ring out in favor of this proposal or risk the spread of vigilante justice.
A large corporate client suffered a major regulatory crisis. Senior management faced jail time and the firm faced significant monetary damages. A team was formed. Outside experts brought in. Senior management demanded daily progress reports and was intimately involved. Top priority was given to the threat of jail time. Once criminal charges were dropped, once the DoJ left the room, senior management vanished. Staff were left on their own to deal with fines being imposed by other government agencies. Jail time is personal, monetary damages are paid with Other People’s Money.
You want to touch the hearts of management and grab the attention of all staff within a firm?
- Scrap all current federal regulations (e.g., SOx, Dodd-Frank)
- Replace them with one simple rule: screw up and you go to jail
Nothing focuses attention like jail time. Nothing heightens the awareness of jail time like well-crafted legislation, an effective examiners office, and a court system not hamstrung by technicalities and precedent. Don’t think you can have it both ways. The moment you put in place detailed regulations is the moment you give up the game to the well-heeled lawyers and backroom dealmakers.
When a firm gets into trouble we dispatch an army of government examiners specializing in forensic accounting, finance, legal and business management. Their job is to place blame on miscreants (what they have done and what they have failed to do). Blameworthy individuals face significant jail time.
This goes well beyond a fraud investigation. We prosecute for negligence or inattention. Judicial hearings focus on two findings of fact:
- What materially contributed to the adverse results?
- Who could have foreseen and forestalled these results?
Doesn’t matter if there were three or four material causes. Doesn’t matter if those responsible were instructed by higher-ups. Doesn’t matter if this was the way you’ve always done business. Doesn’t matter if other firms suffered similar results. Doesn’t matter the adequacy of your compliance programs. Doesn’t matter if you don’t work for the firm.
Public events that trigger investigations include, but are not limited to:
- loan guarantees
- bankruptcy or insolvency
- bank runs
- large stock price drops
- major lawsuits.
We use unannounced visits to uncover outright fraud and to reinforce the importance of constant vigilance. These reduce temptations to cheat now with the hope of covering up using a future windfall (e.g., a merger, acquisition, public offering or buyout). But our main enforcement weapon is a massive onslaught of examiners in response to adverse public events.
Forget fines. These just get passed on to consumers. Forget recovery of the loot. It’s been squirreled away in a Panama Asset Protection corporation: you’ll spend more trying to dig it out than it’s worth. Forget executive compensation reform (e.g., delayed bonuses). I’ll just funnel business to family and friends in subsidiaries, or set up shell companies with paid tit-for-tat board memberships. Instead throw those responsible for adverse results into jail. Make sure they don’t enjoy their ill-gotten gains.
Wave enough money in anyone’s face and they’ll commit fraud.
True, and so many get away with corruption that it has become a cost-benefit calculation. We make the costs much higher and more certain.
We pass the Go Straight to Jail Act of 2014. We lower the bar for prosecution and jail time. It’s no longer a case of following the rules. Instead it’s could you have foreseen and avoided failure, as determined after the fact in a court of equity. We won’t lower the bar to the floor. We acknowledge (and encourage) financial and business innovation which can often lead to business failure. But we mete out harsh punishment in all cases where due diligence and protection of shareholder interests are found to be inadequate.
Remember, we’re talking about federal jurisdiction and criminal charges. There’s still a host of state and local regulations. Wrongdoers face a double jeopardy.
2. What is it that our common language, so easy for any other use, becomes obscure and unintelligible in contracts and wills, and that a man who expresses himself so clearly, whatever he says or writes, finds in this field no way of speaking his mind that does not fall into doubt and contradiction? Unless it is that the princes of this art, applying themselves with particular attention to picking out solemn words and contriving artificial phrases, have so weighed every syllable, so minutely examined every sort of combination, that here they are at last entangled and embroiled in the endless number of figures and in such minute partitions that they can no longer fall under any rule or prescription or any certain interpretation. Montaigne Essays – Of Experience(~1590), tr. Frame
3. Ameriquest Mortgage one of the nation’s most egregious predatory lenders, settled charges from 49 state attorney generals for $295 million in January 2006. Ameriquest founder Roland Arnall was a major fundraiser for George W. Bush and was sworn in as Ambassador to Holland shortly after the settlement.
4. It could be that past management – directors are really the ones that should go to jail. Another example is found in rolling loan schemes, i.e. complicity between borrowers and lenders in issuing new loans to cover up problems with earlier bad loans (‘A rolling loan gathers no loss’). This is a business practice honed to a fine art by most if not all Chinese state-owned companies, so we pay close attention to U.S. – Chinese business entanglements.