The Corporate Reform Weekly 4/28/03

The Corporate Reform Weekly
April 28, 2003

In Washington
Securities and Exchange Commission:
SEC, other regulators announce $1.4 billion Wall Street settlement

Securities and Exchange Chairman William Donaldson, joined by New York State Attorney General Eliot Spitzer and other regulators, today (Monday) announced the final details of the $1.4 billion settlement with 10 Wall Street banks and brokerage houses to settle allegations that the banks and their analysts misled the investing public.

Regulators cheered the settlement as a tough penalty and promised that the new rules would ensure growth and prosperity while protecting investors. But critics, including Citizen Works, publicly complained that the settlement was a weak slap on the wrist that will not produce lasting reforms on Wall Street.

"This settlement is an insult to the millions of investors who lost hundred of billions of dollars because of the misleading information they received from these bank and brokerage analysts, who, for their own collateral profits, continued to issue ?'buy' recommendations even as companies' shares plummeted," said Citizen Works founder Ralph Nader.

Other concerns:

1) There was no admission of wrongdoing, which will make it even harder for individual investors to sue. Investors are already handicapped by years of rollbacks of their rights to seek restitution in the courts, including most notably the Private Securities Litigation Reform Act of 1995.

2) The fines are not substantial. The $300 million fine to Citigroup is less than 1 percent of last year's revenues, which top $92 billion. Likewise, Credit Suisse First Boston's fine of $150 million is barely pennies on the dollar of its last year revenue of $56 billion. (Spitzer defended the low fines and mild punishment by saying he didn't want to destroy the banks.)

3) Banks may be able to write some of the costs off as tax-deductions or have them covered by insurance. Despite concerns as to this outcome by members of Congress and the public, the settlement did little to ensure that these banks would not pawn the costs off onto taxpayers and insurance companies.

4) Citigroup CEO Sandy Weill won a guarantee he wouldn't be prosecuted.

Of the $1.4 billion, $487.5 goes to fines, $ 387.5 goes to disgorgement for investors, $432.5 goes to fund "independent research" over five years that banks will distribute, and $80 million goes to investor education. The settlement mandates a number of physical separations between investment banking and research analysts to avoid conflicts of interest, but still allows both to be part of the same firm.

Regulators did, however, levy stiff penalties on former Citigroup telecom analyst Jack Grubman ($15 million) and former Merrill Lynch analyst Henry Blodget ($2 million in fines, $2 million in disgorgement) for misleading investment advice that arose from conflicts of interest. Both were permanently banned from the securities industry.

The ten banks fined are: Citigroup, Morgan Stanely, Credit Suisse First Boston, Goldman Sachs, J.P. Morgan Chase, Bear Stearns, Lehman Brothers, DeutchBank, UBS Paine Webber, and Piper Jaffray.

For more details, see: http://www.sec.gov/news/press/2003-54.htm
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SEC implements faster disclosure of executive stock trades

Executives and directors will be required to electronically disclose all company stock trades they make to the SEC and all company employees within two days under new rules approved yesterday by the Securities and Exchange Commission.

Under old rules, executives and directors had up to 40 days to disclose by paper forms.

"This is going to help investors see if corporate executives are making rosy statements about the company while at the same time unloading the stock," said SEC Commissioner Cynthia Glassman. At Enron, for example, executives told employees what a great buy the stock was while at the same time unloading massive quantities of the stock.

The rule was mandated by the Sarbanes-Oxley accounting reform law.

For full details, see http://www.sec.gov
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Meanwhile, The Hill's Bob Cusack reports that corporate lobbyists are working for a rollback of some Sarbanes-Oxley provisions. See "Business may try to undo new SEC law": http://www.hillnews.com/news/042303/sec.aspx
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SEC to corporate executives: no bullying the auditors

The Securities and Exchange Commission last week approved new rules that would bar corporate executives from using their power "to fraudulently influence, coerce, manipulate or mislead the auditor."

The rules, intended to make auditors more independent of directors and executives, had received preliminary approval last October.

For full details, see http://www.sec.gov
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Congress
House committee looks into HealthSouth

The House Energy and Commerce Committee last week opened an investigation into how much auditors and board members knew about the $2.5 billion in accounting fraud at HealthSouth.

The committee has asked for company letters and e-mails. It also wants to know how much auditor Ernst&Young was paid for nonaudit services and for work at other companies controlled by either former CEO Richard Scrushy or other board members.

So far, 11 current and former HealthSouth employees have pled guilty in connection with accounting fraud. No charges have been filed against CEO Richard Scrushy yet.

See "House Panel Opens Probe of HealthSouth Finances," by Carrie Johnson of the Washington Post: http://www.washingtonpost.com/wp-dyn/articles/A17377-2003Apr22.html

Bush Administration
Former Enron executive Thomas White resigns as Army Secretary

Thomas White, who for years headed the Enron subsidiary accused of gouging ratepayers in California, resigned last week as Army Secretary.

White's resignation was attributed to clashes with Defense Secretary Donald Rumsfeld, particularly over the $11 billion Crusader artillery system, which White fought to save.

Last summer, White claimed that he had no involvement in manipulating California markets in a Senate hearing, even though he was the head of Enron Energy Services, the subsidiary responsible for California power markets, from 1998 to 2001. Public Citizen has documented White's involvement in gouging California's ratepayers.

For details on White and Enron, see http://www.citizen.org/cmep/energy_enviro_nuclear/electricity/Enron/white/

In 2001, White was paid $5.5 million in performance-based salary at Enron and sold $12.1 million in company stock just before Enron collapsed in December.
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U.S. is investigating fraud at 130 companies

Though they've yet to produce a single conviction, U.S. prosecutors are looking into fraud charges at 130 companies, the Justice Department reported last week.

"We thought maybe this corporate fraud crisis had reached a peak, but we continue to have new investigations and new allegations on companies on a regular basis," said Keith Slotter, chief of the FBI's financial crimes department. "At this point it has not shown any sign of ebbing."

Slotter said the FBI now has 200 investigators working on corporate crime, double what it had last year, and wants to add 60 more staffers.

For more, see "U.S. Probes fraud at 130 firms," by David Voreacos of Bloomberg News http://www.pittsburghlive.com/x/tribune-review/business/s_130799.html
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Public Company Accounting Oversight Board
PCAOB votes to require foreign auditors to register

The Public Company Accounting Oversight board last week said it will require all overseas auditors to register with it, but did not say whether it would apply the same inspections and disciplines to foreign auditors as it will for U.S. firms.

Foreign firms will have a one-year extension to register.

Nonetheless, European firms were incensed. "Registration of E.U. audit firms is unnecessary," said Frits Bolkestein, the European Union's internal market commissioner. "The PCAOB's approach may lead to mounting pressure to require U.S. audit firms to register in the E.U. Rigorous home-country control over audit firms is a far more effective way to protect investors."

Some 280 E.U. companies with stock listings in the U.S. would be impacted.

See "Board Approves Controls on Foreign Audit Firms," by Carrie Johnson of the Washington Post: http://www.washingtonpost.com/wp-dyn/articles/A26478-2003Apr23.html
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In Business
Accounting
FASB recommends expensing options

The Financial Accounting Standards Board last week agreed that companies should expense stock options, ending months of suspense and meddling by Congress.

The private board, which sets standards for the industry under the auspices of the SEC, decided that options "are goods and services that are being exchanged and you must recognize it just as you would other goods and services," much to the delight of many corporate reformers who have been advocating this accounting rule for years.

Now, FASB will move to figure out a model for how to value the options. Then the SEC would have to enforce the rule.

But some members of Congress are already trying to negate FASB's decision. Reps. David Dreier (R-Calif.) and Anna Eshoo (D-Calif.) have a bill that would prevent the SEC from enforcing any stock-option rule until it has studied the matter for three years. Sens. Barbara Boxer (D-Calif.) and John Ensign (R-Nev.) plan to introduce a similar bill next week.

For more info, see http://www.fasb.org
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Scandal
Credit Suisse's Quattrone faces obstruction of justice charges.

Federal prosecutors have charged former tech banking star Frank Quattrone with obstructing justice in a government probe into how Credit Suisse First Boston awarded hot initial public offerings (IPOs).

Prosecutors say Quattrone sent out an e-mail to employees encouraging them to "clean up" certain documents on December 5, 2000, just days after he learned about a grand jury investigation.

Quattrone, who made as much as $100 million a year in the high-flying ?'90s, also faces civil charges for his alleged role in giving hot IPO shares to favored clients and influencing research analysts he supervised into providing favorable stock reports on companies with which CSFB was conducting investment banking business.

See "U.S. Accuses a Top Banker of Obstruction" by Landon Thomas Jr. of the New York Times: http://www.nytimes.com/2003/04/24/business/24WALL.html
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Executive pay
Outrages of CEO pay continue

Despite all that's been said about the outrages of excessive executive compensation, little seems to have changed.

As the Associated Press reports, "The fallout from a dreary economy, corporate scandals and three years of stock market losses hasn't put much of a dent in executive paychecks. Most of the nation's top executives continued to collect lucrative compensation packages in 2002. Critics said the rewards display insensitivity to the financial duress facing much of the country."

(see "Regal Treatment of CEOs continued in 2002, by Michael Liedtke, of the Associated Press: http://www.startribune.com/stories/535/3848478.html )

Fortune Magazine describes how executives are increasingly taking advantage of pensions for massive compensation: "Witness the latest--and quite possibly the greatest--double standard in the world of compensation. At the same time big companies are taking an ax to the traditional pension plans of the rank and file, they are funneling millions of dollars into what's fast becoming the ultimate pay-for-nonperformance vehicle: the executive pension plan." (see "CEO Pensions: The Latest Way to Hide Millions" by Janice Revell: http://www.fortune.com/fortune/ceo/articles/0,15114,443047,00.html )

Business Week also looks at some of this year's outrages: "Spring is in the air, and that means reporters are sifting through Corporate America's annual reports. They're finding -- you guessed it -- fat pay packages for chief executives in 2002, despite dismal earnings and massive layoffs at many companies." (see "Reading a CEO's paycheck," By Amy Tsao, Business Week: http://www.businessweek.com/bwdaily/dnflash/apr2003/nf20030425_2581_db014.htm )
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Shareholder proposals on executive compensation are up 200% this year

Shareholder resolutions are up 26 percent this year, from 802 in 2002 to 1,009 in 2003, according to the Investor Responsibility Research Center. But the biggest rise comes in proposals that involve executive pay. This year, there are 319 such proposals, up from 106 last year.

A whopping 26 of those resolutions are at General Electric, where CEO Jeffrey Immelt earned $3 million plus $3.9 million in bonuses.

The AFL-CIO has been very active in many of these proposals. Recently, an AFL-CIO sponsored proposal at US Bancorp calling for a shareholder vote on extraordinary executive retirement plans won 51% of the vote.

For more on shareholder activity, seehttp://www.shareholderaction.org
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Tobacco and corporate accountability activists criticize Virginia's incorporation laws

Corporate watchdogs gathered last week in Richmond, Va. to call attention to the fact that they were able to incorporate a company called Licensed to Kill in Virginia, even though the company's stated purpose is "the manufacture and marketing of tobacco products in a way that each year kills over 400,000 Americans and 4.5 million people worldwide."

The rally was held on the eve of cigarette-maker Altria's (formerly Phillip Morris) annual shareholder meeting in Richmond.

"Why should the state government of Virginia provide for the formation and operation of companies whose method of making money involves killing millions of people?" asked corporate Lawyer Robert Hinkley, one of Licensed to Kill's listed officers. Hinkley noted that Licensed to Kill could have been incorporated in any of the 50 states, however. Hinkley suggests that we change state corporate law to make corporations responsible for not just profits, but also the environment, human rights, public health and safety.

For moreon Hinkley's Code for Corporate Responsibility: http://www.citizenworks.org/enron/corp_code.php
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For more on Licensed to Kill, seehttp://www.licensedtokill.biz

Also see: "Teens, activists protest Rally at Capitol says state policy 'tobacco-friendly' "

BY JOHN REID BLACKWELL of the Richmond Times-Dispatch
http://www.timesdispatch.com/frontpage/MGBPZKR1WED.html

This Week's Action Item:
Tell the SEC that it let Wall Street off too easily

Today (Monday), the SEC and other regulators gave Wall Street banks that had misled millions of small investors what amounted to a slap on the wrist.

Please tell the SEC that this kind of kid gloves treatment of Wall Street crooks is unfair and will do very little to restore investor confidence and serve justice.

E-mail: [email protected]

Some talking points:

1. Corporate criminals should wind up in jail. The SEC should recommend criminal prosecutions to the Justice Department.

2. There was no admission of wrongdoing, which will make it even harder for individual investors to sue. Investors are already handicapped by years of rollbacks of their rights to seek restitution in the courts, including most notably the Private Securities Litigation Reform Act of 1995.

3. The fines are not substantial. The $300 million fine to Citigroup is less than 1 percent of last year's revenues, which top $92 billion. Likewise, Credit Suisse First Boston's fine of $150 million is barely pennies on the dollar of its last year revenue of $56 billion. (Spitzer defended the low fines and mild punishment by saying he didn't want to destroy the banks)

4. Banks may be able to write some of the costs off as tax-deductions or have them covered by insurance. Despite concerns as to this outcome by members of Congress and the public, the settlement did little to ensure that these banks would not pawn the costs off onto taxpayers and insurance companies.

5. Citigroup CEO Sandy Weill won a guarantee he wouldn't be prosecuted.

RECOMMENDED READING

The Iron Triangle: Inside the Secret World of the Carlyle Group
By Dan Briody
John Wiley & Sons, 2003

It's hard to write objectively about the Carlyle Group without sounding like a conspiracy theorist. The company operates largely in secret and employs a who's who of Washington insiders, including ex-president George H.W. Bush, ex-SEC Chair Arthur Levitt, former British Prime Minister John Major, "Spooky" Frank Carlucci, the former deputy director of the CIA, and a roster of other ex-government figures. As author Dan Briody (a business journalist who has written for Forbes, Wired and others) puts it, "over time, the pattern of Carlyle's hiring practices emerges to reveal a series of old friends helping one another out."

The Carlyle Group was the first major private capital firm to be located not in New York or Chicago, but on Pennsylvania Avenue. As such, Carlyle epitomizes what Michael Lewis was the first to label "access capitalism" in a 1993 article for The New Republic. And given the way many of the post-war contracts being given out to friends of the administration (e.g. Halliburton), Carlyle's way seems to be the model for THE way of doing business in Washington these days.

The company has come a long way since the early 1970s, when it was first established to engineer a scam that brokered tax loopholes intended for Alaskan Eskimos but sold to U.S. companies. The company has since continuously milked its high-level contacts ("in Washington, it's not what you know, but who you know" Briody writes) so successfully that it has become what its own marketing literature once called "a vast interlocking global network."

Carlyle's influence clearly signals a dangerous trend in U.S. foreign policy that has gained considerable force and deserved attention during the Bush administration. The company was embarrassed when an investment stake from the bin Laden family was revealed after 9/11. (It returned the investment after the unwelcome attention, though bin Laden had been identified as a terrorist long before then).

Carlyle was a pioneer in privatizing certain military operations. The company's Vinnell Corporation subsidiary (which Briody calls the "clearest example of Carlyle's business inside the Iron Triangle") has been training the Saudi Armed Forces in how to protect their country's oil fields since the mid-1970s (and company personnel actually fought alongside Saudi forces in the first Gulf War 15 years later).

Not only does the company fill in for U.S. interests abroad, but critics say U.S. interests have also been bent to help the country. For example, ex-president George H.W. Bush (who took a leading role in the company's Asian operations) is reported to have influenced his son's decision to reverse course and reopen negotiations with North Korea, a move critics tied to the over $1 billion the company had invested in South Korea.

Carlyle has had its setbacks. The ill-fated (and unfortunately named) Crusader howitzer, for instance, was cancelled through the efforts of Donald Rumsfeld, a friend of Carlucci's from Princeton days. But Rumsfeld shortly thereafter threw his old friend a contract for another new weapon system that the company's United Defense Industries subsidiary could supply.

With all of their connections, some of Carlyle's executives also epitomize the Bush League's ability to rise to top-level positions despite their less than stellar business record (President Bush himself was appointed to the board of a Carlyle subsidiary - Caterair -- that also crashed). Before he joined the Reagan administration (where he was called "Mr. Clean" for coming in after the Iran-Contra scandal left so many people tarnished, if not indicted), Carlucci made $1.2 million -- not bad for steering a company (Sears World Trade) into bankruptcy. He succeeded Caspar Weinberger as secretary of defense for the final year and a half of the Reagan administration, where he spent much of his time refining the budgeting and weapons procurement process, experience that would serve him well in his future role with Carlyle, where "he would have special knowledge of which defense contractors would later be cashing in on the long-term procurement system he had arranged."

The fact that more and more financial companies are hiring politicians like Rudolph Giuliani or Al Gore during their hiatus from politics suggests that they are either learning from Carlyle's example, or coming to recognize that having a quality rolodex may be increasingly more important than having a better business plan. The IMF may criticize countries like Indonesia for fostering a system of "crony capitalism," while forgetting to look out of its windows and down Pennsylvania Avenue for a better example.

In a move that Business Week characterized as an attempt to "scramble the conspiracy theories," Carlyle recently hired Lou Gerstner - the ex-chair of IBM to succeed Carlucci as chairman. Although Gerstner helped the computer maker turn itself around in the 1990s, no matter how much he diversifies the company's business, it will continue to rely most heavily on the deal-maker's high-level political contacts.
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For more information about Citizen Works, please visit http://www.citizenworks.org.