The line it is drawn, the curse it is cast
THE ATTACK ON OUR ECONOMY:
HOW TWO SENATORS-CHRISTOPHER DODD AND PHIL GRAMM-PASSED LAWS THAT HELPED ENRON DEFRAUD ITS INVESTORS WITH IMPUNITY
When those planes rammed into the World Trade Center, slicing our hearts open, Osama bin Laden was striking at our freedoms, our power, and our capitalist system. It's no accident that he chose the towers of Wall Street as his principal victims.
He succeeded. Not only did he bring down the office buildings, he also brought the American and global economy to a standstill. Since then we have suffered-not from a Bush recession but from the bin Laden recession.
But Osama had help.
In the boardrooms of America, those who have benefited the most from our free enterprise system had already hatched a whole host of plots and schemes designed to defraud investors and undermine the confidence that kept the economy growing. But these corporate directors and CEOs had confederates in their plans: accountants and lawyers who showed them how to do it and get away with it.
Furthermore, they couldn't have pulled it off without the help of politicians. Two senators in particular-Christopher J. Dodd, Democrat of Connecticut, and Phil Gramm, Republican of Texas-made billions of dollars in larceny possible. In the 1990s, when we weren't looking, they pushed through two laws that, in effect, immunized Wall Street from lawsuits by investors whom it swindled. These laws protected Enron and Arthur Andersen so they could cook the books in peace. These senators also helped to stop the Securities and Exchange Com-mission (SEC) from curbing some of the worst abuses on Wall Street.
Peel back the layers of the Wall Street onion, and what do you find? On the top layer are the corporate executives who committed the frauds. Next are the accountants who taught them how to do it. And at the rotten core are these politicians who passed laws to protect them from the consequences of their actions.
And these laws are still on the books!
Try as they might, the investors whose life savings are gone will be lucky to get pennies on the dollar back. Why? Because that's how Wall Street and Capitol Hill planned it.
OFF WITH THEIR HEADS!
By the time the dust of the Enron scandal had settled, tens of thousands of investors had lost billions, as the company's stock plunged from $90 to $1 in a few days. Time reported that more than half of the Enron employees' 401(k) assets, "or about $1.2 billion, was invested in company stock, which is now nearly worthless. Billions more were lost by other investors, from individuals to large institutions that bought Enron shares for the pension plans of unions and corporations."
If the poor suckers who bought Enron stock, or the energy company employees who had no choice but to purchase it, were stuck when the company tanked, the top executives made sure they came out fine. The New York Times noted that "as Enron stock climbed and Wall Street was still promoting it, a group of 29 Enron executives and directors began to sell their shares. These insiders received $1.1 billion by selling 17.3 million shares from 1999 through mid-2001."
Enron chairman Kenneth L. Lay "sold Enron stock 350 times, trading almost daily, receiving $101.3 million. In all, Mr. Lay sold 1.8 mil-lion Enron shares between early 1999 and July 2001, five months before Enron filed for bankruptcy."
Ken Lay got out in time, of course. But plenty of others didn't. William S. Lerach, a prominent securities plaintiff's attorney who issuing corrupt Wall Street firms, has called attention to the story of Roy Rinard, a fifty-four-year-old utility lineman employed by an Enron subsidiary. Roy was one of the unlucky ones: His 401(k) account, invested entirely with Enron, shrank from $472,000 to less than $4,000 after Enron declared bankruptcy. He was helpless to stop the loss. Why? Among other reasons, Rinard and other Enron employees were prevented by company rules from selling their retirement plan stock. Only top management had that privilege.
Beyond Enron, the crisis in the energy company set off a wave of reverberations, with corporate disasters hitting Global Crossing, World-Com, AOL, and a host of other companies that swamped investors. The shock waves are still being felt today on Wall Street, as investor confidence has sagged to lows not seen since the stock market crash of 1929.
What caused the crisis? How could Enron have gotten away with phony statements of profit and loss, false reports of earnings, and deceptive projections of its future in the closely regulated environment of publicly traded companies policed by the Securities and Exchange Commission?
Easy: Arthur Andersen, the major accounting firm, showed them how. It conducted what amounted to a private tutorial for Enron executives on how to lie and cheat. Meanwhile, Arthur Andersen's name, reputation, and imprimatur on the company documents guaranteed that the data they fudged would be accepted as accurate and fair.
It wasn't the first time that the Andersen firm had been caught lying about a client's earnings. The Chicago Tribune describes how the accounting firm paid out $110 million in 2001 to settle shareholder lawsuits in connection with the Florida Sunbeam Corporation. The lawsuit stemmed from accounting gimmicks that "pumped up" Sun-beam's earnings in 1997 by $70 million.
But the real question is how could Arthur Andersen help Enron misrepresent its data and hope to get away with it?
The Politicians Sell Out to Arthur Andersen
As so often happens, the answer goes back to politics-specifically, to a deal cut between the Democrats, led by Connecticut's Chris Dodd, former chairman of the Democratic National Committee, and the Republicans, led by Phil Gramm of Texas, in the 1990s. A deal with all the hallmarks of political double talk, it was fueled by massive campaign contributions from the accounting industry. It is a tale of a powerful industry's deliberate manipulation of the legislative process to pass laws that hurt the consumer rather than help him-that protect those who defraud the investor rather than punish them.
The story began on April 19, 1994, when the U.S. Supreme Court, in a particularly pernicious 5-4 decision, ruled that investors could no longer sue accountants who had vouched for phony claims of profits made by corrupt corporate executives. The familiar right-wing coalition of Justices William H. Rehnquist, Anthony M. Kennedy, Antonin Scalia, Clarence Thomas, and Sandra Day O'Connor said that the statutes regulating securities transactions did not permit those who had been defrauded to go after accountants or others whose actions were "aiding and abetting" the fraud.
Now, investors could sue the company that issued the statements (which was usually broke)-but not the accountants who had approved them.
The dissenters, led by Justice John Paul Stevens (and including Harry Blackmun, David H. Souter, and Ruth Bader Ginsburg), pointed out, "In hundreds of judicial and administrative proceedings in every circuit in the federal system, the courts and the SEC have concluded that aiders and abettors are subject to liability" under federal law. They bemoaned the majority's reversal of this practice, saying that the ability to sue aiders and abettors "deters secondary actors ...from contributing to fraudulent activities and ensures that defrauded plaintiffs are made whole."
The Supreme Court ruling in 1994 set the stage for a brutal legislative battle in 1995. Faced with such a wholesale reversal of long-treasured investor protections, Congress felt bound to act to restore some of the rights the Court had stripped away. But soon the vultures honed in on the proposed remedial legislation, to make sure that the worst abuses-and abusers-would still enjoy the protections the Court decision gave them.
But the political landscape changed dramatically in the midterm elections of 1994. Clinton and the Democrats, who had controlled both the House and the Senate in the 1993-1994 session, now lost both chambers to Republican majorities. The GOP legislators were emboldened by their radical conservative agenda, enshrined in a "Contract with America" issued by future House Speaker Newt Gingrich to rally his troops for the decisive election of 1994.
The contract called for "common sense legal reform" to prohibit aider and abettor liability. It also wanted to limit the damages of those who were liable. "Under current law," it read, "a defendant can be held responsible for the entire award [stemming from a lawsuit] even if he is not completely responsible for all the harm done." The Republicans pledged to change things by assigning to each actor liability for only the portion of the damage he caused.
This theory sounds good-but the truth is that, in most securities frauds, the scam could never have been pulled off unless all the actors were on board. A crooked company needs a crooked accountant, and a willing lawyer, to make the fraud stick. If either one is honest and blows the whistle, the fraud doesn't happen.
So how much of the liability in a fraud case should by shared by a dishonest accountant who lets a dishonest corporate executive issue a false statement of profits, earnings, losses, and expectations for the future? If the executive refused to issue the numbers, they wouldn't go out; if the accountant refused to ratify them, they would have no credibility. So each is a necessary actor: You can't have a fraud unless they both play ball So they both should be fully liable. (Especially in cases where a corporation is long since bankrupt, unable to pay back the investors, while the accountant might otherwise walk away unscathed).
But the Republicans who took over the Congress in 1994 didn't see it that way. Led by Phil Gramm, they were determined to weaken investor protections, perhaps in the misguided belief that it would encourage enterprise and entrepreneurship in the national economy.
Meanwhile, though, another, more sinister actor-Chris Dodd of Connecticut-was planning to use the GOP impetus to further his own agenda.
Even before the 1994 Supreme Court decision, Connecticut had been rocked by a huge scandal that was a precursor to the Enron affair. The New York Times reported that in the early 1990s, six thousand Connecticut investors had been lured to invest in a firm called Colonial Realty by inflated reports of earnings. The investors lost tens of mil-lions, and the scandal reached so far into the highest ranks of Connecticut's officialdom that, when the investors sued, the judicial bench had trouble finding a judge who hadn't lost money to try the case.
The optimistic predictions of Colonial Realty were endorsed by Arthur Andersen and by the law firm of Tarlow, Levy, Harding & Droney. Ultimately, Andersen was forced to pay some $90 million to settle the Colonial case. And Droney's firm had to come up with $10 million.
The "Droney" at the end of the firm name was John Droney, formerly Connecticut State Democratic chairman. Dodd nominated Droney's brother, Christopher, as U.S. attorney for Connecticut and later to the federal bench as U.S. district court judge.
When Dodd learned of the Supreme Court decision banning aiding and abetting lawsuits, he apparently thought of his friend John Droney, who was facing just such a suit for his handling of Colonial Realty.
Dodd then sponsored a bill to make sure that accountants, lawyers, and other professionals couldn't be sued for aiding and abetting the fraud. Amazingly, Dodd even sought to make the provision retroactive in what looked like a blatant attempt to shield those implicated in the Colonial Realty case.
The Hartford Courant noted that the "original draft" of Dodd's bill "put cases currently pending under his proposed law-such as the Colonial case." Eventually the retroactive provision of Dodd's bill was dropped, removing the protection to Colonial Realty. But he was still able to insulate his accountant and lawyer pals from the consequences of any future frauds.
Once the consumer groups learned what Dodd was up to, they protested vigorously, denouncing his proposed bill. Ralph Nader called Dodd's legislation "The Financial Swindler's Protection Act of 1995."
Dodd's efforts to protect his lawyer and accountant friends went much further. An article in the Legal Intelligencer reported that Dodd's bill "would set a minimum threshold of losses below which investors could not sue accountants and limit lawsuits to 'primary violators,' meaning that accountants could be sued only if they were directly implicated in wrongdoing."
Dodd was also eager to ensure that anyone who lost a lawsuit against his accountant and lawyer friends might face having to pay for their legal fees. Michael Calabrese, executive director of Public Citizen's Congress Watch, said that Dodd had "created a bill that's out of control and now has tremendous protections for the financial services industry."
Dodd's bill also limited the liability of accountants, lawyers, and other professionals to a portion of the losses caused by their fraud.
Perhaps the most scandalous feature of the Dodd bill was that it created a "safe harbor provision," which allows public companies to be shielded from litigation when their projections and predictions of future earnings and profitability turn out to be bogus. All they have to do is to put in what one financial adviser called "adequate cautionary language"- a disclaimer-and all is cured. "Lie all you want," the legislation seemed to provide, "just put in some boilerplate language and you'll be okay."
Dodd's bill also handcuffed lawyers trying to help investors to get their money back. The Consumer Federation of America pointed out that the bill "requires that a victim's complaint, filed at the beginning of the case, 'state with particularity all facts giving rise to a strong inference that the defendant acted with the required state of mind.' " Columbia law professor John Coffee calls this provision "a Catch-22: You can't get discovery unless you have strong evidence of fraud, and you can't get strong evidence of fraud without discovery."
Before the Dodd bill, investors could sue companies for civil violations of the Racketeer Influenced and Corrupt Organizations Act (RICO). Civil RICO has teeth. It allows for an award of triple damages and attorneys' fees. And what better describe the shenanigans that went on between Enron and Arthur Andersen than that it was a "corrupt organization?" Because civil RICO was effective, Dodd made sure that it was removed from the diminishing quiver of weapons with which an investor could protect himself. Under the bill, investors could no longer sue under the RICO statue to recover their losses.
Summing up the provisions of this terrible bill, William Lerach wrote that the "changes were a bonanza for public companies and their insiders, investment bankers, and financial accounting firms, i.e., the normal defendants in securities cases. Higher pleading standards, automatic discovery stays, a safe harbor that arguably permits corporate executives to lie about future results . . . damage limitations, elimination of joint and several liability for reckless conduct, and, for good measure, a mandatory sanction review procedure that . . . threatens plaintiff's counsel with up to 100% liability for defendants' fees."
The way forward for the Dodd bill was greased by massive campaign contributions to candidates for Congress-including Chris Dodd himself, who got $54,843 from Arthur Anderson alone, more than any other Democratic senator, and $37,750 from computer companies that prudently supported the legislation, which would protect them in case their projections went awry.
No wonder the New York Times called Dodd "perhaps the accounting industry's closest friend in Congress."
Overall, during the 1995-1996 campaign cycle when the Dodd bill was pending, the accounting industry and the big accounting firms gave $7,782,990 to congressional candidates.
But still, the bill didn't have an easy time of it. As consumer groups lined up against it, President Clinton came under enormous pressure to veto it. Within the administration, a fierce debate raged on whether to sign or kill the legislation.
The Phony Clinton Veto
As the president's pollster, I advised a veto, noting that public opinion strongly disagreed with the legislation. In a survey conducted in November 1995, voters overwhelmingly rejected the provisions of the bill.
Then I ran into Bruce Lindsey, the president's oldest friend and closest personal adviser. The venue for the encounter was an odd one: the men's room on the second floor of the West Wing. Lindsey asked me about the securities bill, and I said, "I advised him to veto it. The bill is terrible, and it'll make a great issue for us against the Republicans."
"A lot of Democrats favor it, too," Lindsey noted.
"Sure, but when has that stopped us?" I asked.
"Well." His tone turned serious. "We're getting a lot of pressure from our friends in California to sign it."
"You mean the Silicon Valley types?" I asked.
Lindsey nodded. The technology hub in northern California was a key source of support for the president and a big contributor to his campaign.
"The issue will do us more good than the money," I parried.
Lindsey shrugged, as if to say, "We'll see."
This conversation with Bruce Lindsey stands out in my mind because it was the only time, in my two years of work with Clinton in the White House, that I ever heard anyone mention a policy issue in terms of its effect on possible campaign contributions. Despite the pressure to raise money to fund our ambitious schedule of television ads, I never heard a single suggestion that we might change or alter any policy to get more money into our campaign-until the men's room conversation with Lindsey.
When I spoke to the president about the bill in early December of 1995, he explained his dilemma to me: "Not only is the Silicon Valley on me about the bill, but so is Dodd. He wants me to sign it," he said.
"You can't be pushed around by those guys," I responded. "The issue is too good for us. It will allow us to run against the Republicans as the folks who want to rip off old ladies and other investors."
"But what about Dodd?" the president persisted. As chairman of the Democratic National Committee, the Connecticut senator was a key member of the Clinton team and responsible for much of the fund-raising. To go against him on a matter of this importance could result in serious bad blood.
And Clinton didn't need bad blood with Dodd, certainly not then. In November and December 1995, the securities bill was an after-thought. Center stage was fully occupied by Clinton's resistance to the budget cuts the Republican Congress was pushing. Led by Speaker Newt Gingrich, the GOP had closed down the federal government after the president vetoed their package of harsh budget cuts.
Holding up Clinton's side of the argument was a $10 million pro-gram of television ads emphasizing why the president needed to stand firm "for America's values" and block cuts in "Medicare, Medicaid, education, and the environment." Without the media advertising, Clin-ton would never have been able to get his message out. Dodd-and the financial interests for which he was speaking-controlled a lot of the money we needed.
Clinton proposed a solution. "Let's do it like we did on the highway bill in Arkansas," he suggested.
He was referring to his political maneuvering, as Arkansas governor, when a bill was introduced by the highway construction lobby in 1983 to raise taxes on heavy trucks to fund highway construction and repair. Clinton was torn between the highway contractors, who were key financial supporters of any incumbent governor, and his own worry about raising taxes.
Clinton had had good reason to worry about road taxes. As a freshman governor in 1980, he had been defeated for reelection largely because he raised car license fees to fund road construction. He worried that if he signed a bill for the truck tax hike, he could be in trouble all over again.
Clinton solved the problem by trying to please both sides. First he satisfied the highway lobby by endorsing the bill. Then he doubled back and told the truckers he opposed it. The state highway director was less than pleased and called Clinton a "double-crosser." While Clinton ended up signing a watered-down bill, he had skirted a tough issue that could have hurt him politically.
"What if I veto the bill and it's overridden? Would the override hurt me politically?" Clinton asked. He'd yet to have a veto overridden by Congress.
"No," I conceded, "as long as you're forthright in opposing the bill and veto it, an override won't hurt you. The public doesn't care if you get overridden. They just want to see you fighting the good fight against the Republicans."
"Even if Democrats join in the override?" he prodded. What he meant was: Would people see through my veto if the Democrats vote to override me-would they realize the veto was just window dressing?
"No," I answered, "even if Democratic senators vote for the bill, that's their political problem. It won't interfere with your standing against it."
The die was cast. On December 20, 1995, Clinton vetoed the bill, saying, "I am not willing to sign legislation that will have the effect of closing the courthouse door on investors who have legitimate claims. Those who are the victims of fraud should have recourse in our courts. Unfortunately ...this bill could well prevent that."
But even as Clinton was vetoing the bill, Dodd understood that he would incur no presidential wrath if he overrode the veto. So the Connecticut senator worked overtime to repass the bill, lining up the two-thirds majority he would need to make it law. Dodd, a loyal party man, would never have dared to override a Clinton veto if he hadn't been fully confident that the president wouldn't mind.
Reading the mixed signals from the White House and feeling pressure from their campaign contributors, the Democrats fell in line and voted to override their president's veto. Twenty Democrats joined the Republicans in the Senate override, and eighty-nine Democratic congressmen voted to override in the House, joining an almost solid GOP vote for the bill.
Even smart consumer advocates seemed fooled by the Clinton two-step. They attacked Dodd, but they let Clinton alone. Charles Lewis, of the Center for Public Integrity, said, "Chris Dodd-here he is, chairman of the Democratic Party, but he's also the leading advocate in the U.S. Senate on behalf of the accounting industry, and . . . he helps overturn the veto of his own president, who installed him as Democratic chair-man. Dodd might as well have been on the accounting industry's pay-roll. He couldn't have helped them any more than he did as a U.S. senator."
Lewis didn't get it. In effect, Dodd was on their payroll-through campaign contributions.
For his part, Clinton never let on that the whole charade had been prearranged and choreographed. He got credit for standing up for the consumer by vetoing the securities bill, while one of his chief fund-raisers, Senator Dodd, could continue to rake in money for Clinton from Wall Street, the accounting industry, and the Silicon Valley as a payoff for passing it anyway.
Indeed, after Enron collapsed and hapless investors found they couldn't go after Arthur Andersen, Clinton sanctimoniously blamed the Republicans, saying he had vetoed the bill, which, he said, "cut off investors from being able to sue if they were getting the shaft." He said that he was "sure some of the people in Congress that stopped a lot of the reforms I tried to put through are probably rethinking that now."
Andersen and Enron Get to Work Defrauding Investors
Once the securities bill had passed, Arthur Andersen could get to work helping Enron defraud investors without having to worry about law-suits.
Here's how they did it:
"At the heart of Enron's demise," Time reports, "was the creation of partnerships with shell companies, many with names like Chewco and JEDI, inspired by Star Wars characters. These shell companies, run by Enron executives who profited richly from them, allowed Enron to keep hundreds of millions of dollars in debt off its books. But once stock analysts and financial journalists heard about these arrangements, investors began to lose confidence in the company's finances. The results: a run on the stock, lowered credit ratings and insolvency."
Why did Enron and Arthur Andersen decide not to own up to the debts these shell companies were racking up? They were protecting Chief Financial Officer Andrew S. Fastow, whom the Times described as "the driving force" behind the phony accounting procedures. "Evidence introduced at the criminal trial of Arthur Andersen indicates . . . that [an] improper accounting decision-which set in motion Enron's destruction-served mainly to benefit the financial interests of a single corporate insider....While the decision brought few if any benefits to Enron itself, these accountants said, it did help to protect the financial health of an outside partnership managed by the company's chief financial officer then, Andrew S. Fastow."
Despite this evidence of malfeasance, investors cannot sue Arthur Andersen for their losses with any hope of significant recovery-because of the protections Chris Dodd got passed in the Securities Litigation Reform Act of 1995.
Blocking Separation of Auditing and Consulting
But the Securities Act changes weren't the only service Dodd and his colleagues rendered to the accounting industry. As the 1990s unfolded, one of the most honest men in Washington-SEC commissioner Arthur Levitt Jr.-began to worry about the integrity of the audits of the major accounting firms. Concerned that these firms had a conflict of interest in auditing companies (like Enron) with which they also did consulting business, Levitt sought to bar accounting firms from consulting for companies they audit.
The principle seemed fair enough. An auditor must be free to speak out against false numbers and to demand corrections in the published financial statements of public companies-but if these same auditors are getting huge consulting fees from their clients, they might be reluctant indeed to kill the golden goose.
As it happens, that is just what went on between Enron and Arthur Andersen. As Enron's auditor, Andersen was expected to be objective and impartial. But the firm was heavily dependent on consulting fees from Enron. (In 2001, for example, Andersen was paid $27 million by Enron for consulting services and $25 million for its audits.) Hiring such a firm for this kind of double duty is a bit like hiring your IRS agent as your personal accountant: He'd inevitably be torn between his desire to collect taxes from you, and his wish to continue to get your fees for his accounting services.
Levitt-whom the Washington Times describes as "one of the most aggressive SEC chairman on behalf of investors ever"-wanted accounting firms to stop consulting for companies they audit. He "was convinced audits were being compromised because the firms were protecting their consulting business."
Worried, according to the Associated Press, that "accounting firms are jeopardizing their independence by becoming more financially dependent on the lucrative consulting work they do for companies they audit," the SEC chairman campaigned to separate the two in the closing months of the Clinton administration. The Washington Post describes how he worked "feverishly . . . crisscrossing the country from Dallas to New York for meetings while juggling a blizzard of calls and visits to members of Congress." His proposal "sparked a firestorm of protests" from accountants, led by the American Institute of Certified Public Accountants.
USA Today reported that thirty-eight congressmen and fourteen senators, most of them members of the oversight committees with jurisdiction over the SEC, called Levitt to urge him to back off. Chief among them were Representative Billy Tauzin (R-La.), Senator Chuck Schumer (D-N.Y.), and Senator Phil Gramm (R-Tex.).
Tauzin, chairman of the House Energy and Commerce Committee, had received $143,424 in campaign contributions from the accounting industry in the preceding five years. He wrote to Levitt that he saw "no evidence" of a problem justifying the SEC action.
Schumer had taken $329,600 from the accounting industry over the last five years. He wrote to the SEC opposing the rule change, a letter SEC officials said "was almost certainly composed with the assistance of the accounting lobby." After the Enron scandal broke, Schumer donated $68,800 he had gotten from Enron and Arthur Andersen to a fund for former Enron employees. He says that he defended the accounting industry not because of the campaign contributions but to protect thousands of jobs in New York City.
But nobody was as compromised in his actions, or as influential, as Texas Republican senator Phil Gramm, then chairman of the Senate Banking Committee. The Washington Times reported that Gramm wrote the SEC questioning whether there was any evidence that accounting firms were "cooking the books" or "looking the other way." He also said that the proposed SEC rule change would "force dramatic changes in the structure and business practices of accounting firms" and require corporations "to pay increased costs for some types of accounting services."
Gramm, who may have quit the Senate in 2002 to avoid having to defend his Enron record on the campaign trail, is a special case in com-promising relationships. Gramm's wife, Wendy, sat on the Enron Board of Directors and on its Audit Committee, for which she was paid $22,000 annually plus $1,250 for each meeting she attended. (Frontline reported how she was "named to the company's board, just five weeks after stepping down [as Chairman of the Commodities Futures Trading Commission] which around the same time exempted Enron ...from federal regulation on some of their commodities trading ...a big financial boon to Enron.")
Wendy and Phil got out in time. She sold all her 10,256 shares of Enron stock for $276,912 on November 3, 1998-for $27 per share, considerably above the $1 it would plunge to two years later.
Chris Dodd joined the fray of those pressuring Levitt. The Associated Press reported that he "helped broker a deal between the Securities and Exchange Commission and the Big Five accounting firms, which ended the SEC's push to restrict auditors from selling consulting ser-vices to their clients." The deal was, in reality, a surrender by Arthur Levitt.
Now accounting firms were freed to audit the same clients they consulted for-the conflict of interest that led directly to the Enron/Arthur Anderson scandal. For accountants to turn in their corporate clients for cooking the books would entail biting the hand that fed them.
But the special interests still had more dirty work for their hired hands on Capitol Hill to do.
1998: The Rape of Investors Continues
The 1995 securities law barred the doors of the federal courthouse to those who sued accounting firms to get back their life savings. Before long, investors began to respond by suing in state courts.
So, in 1998, Congress passed a law barring the state court route, too.
Attorney James E. Day, an associate at the law firm Kirkpatrick & Lockhart, noted that the 1995 act "by placing procedural and substantive obstacles to prosecuting securities class action litigation in federal court, led to an increased number of such suits being filed in state courts under state law." The special interests couldn't stand that, so, "spurred by evidence... of this 'noticeable shift in class action litigation from federal to state courts' Congress passed SLUSA [the Securities Litigation Uniform Standards Act] to promote the federal courts as the uniform forum and federal law, namely [the 1995] Reform Act, as the uniform standard governing most securities class action litigation."
In other words, having stacked the deck against plaintiffs in the securities litigation, Congress proceeded to ensure that state courts could offer no relief.
The Conference Committee reporting out the bill in Congress, in effect, said the same thing. "The solution to [the problem of the increase in state court securities class actions] is to make Federal court the exclusive venue for most securities fraud class action litigation involving nationally traded securities." After the 1998 act passed, Day explained, any investor who complained about "an untrue statement or omission of a material fact in connection with the purchase or sale of a covered security" couldn't go into state court, but had to litigate in federal court-where he could not hold accountants liable for the frauds they permitted.
The new bill was passed on July 23, 1998, explicitly at the behest of the Silicon Valley companies. The Tech Law Journal was frank in relating how the bill was "designed to decrease the number of harassment suits brought in state courts that threaten the ability of companies-particularly high-tech Silicon Valley companies-to raise capital and disseminate information."
Congressman Rick White (R-Wash.) said that "our thriving high technology companies need protection from frivolous lawsuits that prey on their volatile stock prices. This bill will help those companies focus their energies on the marketplace instead of the courtroom, and keep them providing the innovative products and services we have come to expect."
The bill limited pretrial discovery, forced plaintiffs to contend with the "safe harbor" defense for phony projections passed in the 1995 act, and permitted the high-tech companies to survive the collapse they faced in 1999-2002-all without being exposed to lawsuits in state courts. Clinton signed the bill, signaling how phony his veto of 1995 had been: Now here he was, signing a bill to stop investors from circum-venting the same rules he had previously vetoed.
Part of the reason Clinton didn't veto the bill but felt he had to sign it, of course, was his growing political weakness. In the interim, the Monica Lewinsky case and the impeachment that ensued had weakened his always-limited ability to defy the special interests and the call of his party's senators to give them what they wanted.
Representative Bart Stupak (D-Mich.) correctly observed, "If we pass this bill, Congress will place all investors into a largely untested, untried new federal system that will make it very difficult for investors to prove fraud." How right he was.
So now-after the 1994 Supreme Court decision in the Denver case, the congressional passage of the 1995 Securities Litigation "Reform" law, the stymieing of Arthur Levitt's efforts to ban consulting and auditing by the same accounting firm, and the 1998 Securities law-the investor was delivered, bound and gagged, over to the fraud mavens at Enron, Arthur Andersen, Global Crossing, and a host of other companies.
The stage was set for the massive failures and frauds of the early 2000s.
The Phony Reforms of 2002
Once the bombs had exploded, Enron had failed, WorldCom had gone up in smoke, Arthur Andersen had closed its doors, and confidence in Wall Street had sunk to the Elton John level-too low for zero-Congress and the Bush administration acted. Just in time for the midterm elections of 2002, Congress passed and Bush signed the Corporate Reform Act of 2002.
The bill included needed changes in rules for accountants, including the ban on auditors consulting for companies they audited, for which Arthur Levitt had fought. It included a number of important reforms, which certainly made sense:
o Accountants would be regulated by a new board under the SEC.
o Auditors would have to rotate every few years.
o Companies could not make loans to their directors or executive officers.
o CEOs would have to sign financial reports saying that they fairly present the financial condition of their companies, with criminal penalties if they lie.
o Directors or executive officers of a company would have to observe the same blackout periods on sale of their stock that employees have to observe in the pension plans.
o All off-balance sheet transactions would have to be disclosed.
But nothing in the legislation rolled back the efforts of the 1990s to hamstring investors seeking to get their money back. In the aftermath of the Enron collapse, Senate Democrats tepidly explored whether to reverse the horrendous bills passed in the previous decade, but nothing came of it. Congress wasn't willing to take away the special protections it had given those who defrauded investors-not when they also gave so generously to their campaigns.
The spin artists at the White House had deflected the corporate scandals, turning them into a law-and-order, cops-and-robbers spectacle, featuring corporate executives being led away in handcuffs.
As Newsweek put it: "Around the jail it's called a 'perp walk,' . . .cops parading a newly arrested 'perpetrator' in handcuffs or other heavy-metal wear past the waiting cameras. It's a mean-streets tactic viewed with disdain by the lordly federal prosecutors of the U.S. Attorney's Office in the Southern District of New York, especially in white-collar cases, where the perps wear suits and have connections."
But Bush needed a perp walk. With the scandal about corporate abuses threatening to tarnish his image and that of his party, a high-profile arrest would do his ratings good So the administration focused on the case of John Rigas and his family's Adelphia Communications company.
When Rigas, accused of looting his company, was led away in handcuffs, under the gaze of cameras assembled for the purpose by the White House, Bush had his symbolic show of toughness. "Wait'll you see what's next," joked White House adviser Karl Rove. "Orange jumpsuits!"
Newsweek explained: "The Rigas arrests were only one part of an all-out White House effort to, as they say in the spin-doctoring business, 'get out ahead of the story.' "
In the legislative debate, congressmen and senators vied with one another to impose ever-tougher theoretical penalties on corporate executives who misrepresented their company's finances. The final law imposed a maximum ten-year sentence for a "knowing" violation and a twenty-year term for a "willful" one.
But all of this, of course, was nothing more than show and window dressing. Nothing was done to enable those who had been defrauded to see a dime of their money or to restore the only real threat that could discipline the business community-the overhanging risk of litigation by disgruntled stockholders.
As long as the enemies were the bureaucrats or the regulators, corporate executives understood that campaign contributions to their bosses could nullify their efforts. Helpless when their elected public officials jerked their leash, these enforcers could be kept under control. It was the investor, unrestrained by political ambition and empowered by access to lawyers eager to make a big fee, of whom they needed to be afraid. So the crippling legislation of 1995 and 1998 remained on the books, unchanged.
What We Need to Reform the Process
The Consumer Federation of America has issued a sensible plan to correct the abuses that caused the corporate scandals of 2001-2002. It's so sensible that it will never pass-unless the American people focus on it and get behind the legislation.
Among the measures it calls for:
Get Rid of the Safe Harbor
The safe harbor protections are like the papal indulgences that caused the Reformation. "Sin all you want-just put in a disclaimer," they say. We need to stop letting accountants and corporate executives hide behind fine-print disclaimer language when they make phony predictions about their companies. Go back to the old standard, before it was watered down by the 1995 law; predictions must be made in "good faith" with a "reasonable basis"-no caveats, no excuses.
Hold Aiders and Abettors Fully Responsible
Anyone who enables fraud should be responsible for its consequences. Under the "Reform" laws of 1995 and 1998, accountants can shut their eyes to fraud, even show executives how to commit fraud, and then say, "Who, me?" when the fraud is uncovered.
Re-impose Joint and Several Liability on Accountants
And, once the fraud is discovered, make the accountants, auditors, and other professionals fully liable for the fraud they cause-not just for a small part of it.
Make It Possible for Investors to Win in Court
Undo the rules of the 1995 law, which require that a victim of fraud know all the details before he or she can begin the suit. Give them the power to investigate, through discovery, while they are suing.
Permit Investors to Sue Under Civil RICO
If these Wall Street conspiracies between corrupt corporate executives and equally corrupt accounting firms aren't "corrupt organizations" within the meaning of the RICO act, what are they? We need to restore the ability of investors to sue under civil RICO when they've been fleeced by these experts.
Let Investors Sue in State Courts
Republicans love states' rights . . . until they get inconvenient (as they did in counting the votes in the 2000 election). Repeal the Securities Litigation Uniform Standards Act of 1998, to let investors sue in state courts where the deck may not be so stacked against them.
Wall Street hasn't been the same since the corporate fraud scandal. Investors are voting with their feet to stay away from the markets, until they can persuade themselves, and their families, that the system works. Like gamblers who have been fleeced by loaded roulette wheels, they're staying away from the tables until they decide the game isn't fixed.
Believers in the free-market system, investors are prepared to take a licking from time to time-as long as their losses are based on truthful accounts of a company's finances and on reasonable projections about its future. When a firm like Arthur Andersen permits a firm like Enron to lie, who can count on anything a corporate executive or his auditor says? Until and unless the Congress and the White House realize that it's this fundamental sense of unfairness that's holding investors away from the markets, they won't see the return of the bull market anytime soon.
All the measures the government has passed to "reform" Wall Street have left out one thing: redress for those who have been screwed. Where can they go to get their money back? To class-action lawsuits? That'll net them pennies on the dollar. To arbitration before Wall Street-appointed judges? Securities lawyer Robert Weiss puts it best: That route is "rigged for the Wall Street houses." Jury trials? Almost every investor had to sign away the right to sue when he signed up with a brokerage company.
We must act quickly to grant special relief to those who have lost their savings to make them whole.
Without this guarantee, investors are on strike. And they should stay out until real reform is adopted.
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Off With Their Heads: Traitors, Crooks & Obstructionists In American Politics, Media & Business
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