Speech by SEC Chairman:
Remarks Before the Annual Meeting of the American Bar Association's Business Law Section
Chairman Harvey L. Pitt
U.S. Securities and Exchange Commission
August 12, 2002
These remarks reflect solely the personal views of Mr. Pitt, and do not necessarily reflect the views of the Commission, the individual members of the Commission, or its Staff.
When Judge Thomas Ambro originally extended the invitation to speak, at least two crises ago, he asked me to eschew predictable current event topics, and instead, discuss my perspectives on returning to public service. I'd say the good Judge was prescient; he seemingly sensed, even then, that my return to public service would itself become a current event topic!
Given some of the slings and arrows we've endured over the course of my first year, you might think I'd shy away from such an emotionally charged topic. Indeed, growing up, my mother often counseled me to shy away from such topics outside our home like religion and politics. But, I find provocative topics like those the most interesting. Why change my ways now?
And so, I'd like to raise two topics I hope you'll find stimulating, if not controversial. The first, as I've hinted, is to share some lessons I've learned in the first year of my return to the public sector. The second is an aspect of the new Sarbanes-Oxley Act of special significance to lawyers our new mandate to establish parameters for the way lawyers representing public companies appear and practice before us.
With respect to lessons I've learned, it seems appropriate to remind you that I started my legal career at the SEC, and that I'd harbored a desire to return one day to the place where it all began, to take the agency into a new era and, hopefully, to lead it to new glories. While I'm now often asked whether I've had, or whether I'm having, second thoughts, my answer is absolutely not. We're on the threshold of dramatic changes in the way our capital markets, and those who serve them, are regulated. It's a privilege to have the opportunity to solve these problems.
Of course, I've learned a lot over the past year in fact, much more than I'd anticipated. In private practice, I used to offer clients, and audiences like this, rules of thumb for dealing with difficult issues. As many of you know, I always claimed I had ten such rules, no matter what the topic, and no matter how many rules there actually were. Now that I'm in the government, I don't get much opportunity to offer so-called practical guidance any more. So, as a public service, I thought I'd share my ten rules of thumb for any of you thinking of entering public service:
- Be careful what you wish for.
- Never assume office in an election year.
- If you aspire to public service at some point in your career, don't become a lawyer.
- If you're already a lawyer, do only pro bono work.
- If you're a lawyer who needs, or wants, to be paid, don't do work for your own clients.
- If you are a lawyer who gets paid and has your own clients, don't handle any issue related to your desired government position.
- Don't read what the press has to say about you.
- Have supportive friends who often remind you they know you're doing a great job.
- Maintain your sense of humor.
- Learn to mix a very, very dry martini.
- Follow my lead and marry someone who's smart, loyal, funny, patient, and constitutionally incapable of saying, "Honey, I told you so"!
To paraphrase that wise legal scholar, Groucho Marx, "Those are my principles, but if you don't like them, I've got others!"
Turning to the Sarbanes-Oxley legislation, the crises we've been confronting offer unique opportunities as well as difficult responsibilities for corporate lawyers. Recent events underscore what we already knew confidence in our capital markets cannot be maintained if the public believes that corporate leaders, their advisors or their cohorts, are "gaming" the system and focusing principally, if not exclusively, on their own personal gain. We must reassure investors after the string of recent scandals that such abuses of the system are not, and will not be allowed to become, the norm in American business.
There are at least three ways to achieve this goal. First, Congress can legislate new legal standards into law, as it has done in Sarbanes-Oxley. Second, government can impose new regulatory requirements, something we've done with unprecedented vigor over the last year, and something the new legislation directs us to expand upon. And finally, those who should be sensitive to their own ethical and moral, as well as legal, responsibilities can voluntarily undertake to ensure that the highest standards prevail for all professionals managers, directors, accountants and lawyers.
My notion of government does not start with the assumption that government can, or should, solve all problems, even those problems we all agree require solutions. Government's role is, and should be, to ensure that significant problems are addressed and resolved, but it doesn't necessarily follow that government is always able to implement the best solutions itself. I see legislation's principal function to create general principles, and bestowing sufficient authority on agencies like ours, so those principles can be implemented, revised and adjusted expertly, efficiently and efficaciously.
In complex fields like securities regulation, the regulatory process provides critical texture to legislative enactments. But, even an agency as wonderful as the SEC has, and should have, limitations on the problems we can solve, as well as on the solutions we can put forth. In my view, government's best role is to define what is illegal, and work with the private sector to help it define what is unethical or incompetent. If all institutions play their proper role, Congress will articulate broad standards, the SEC will define legal requirements under those standards, and the private sector will augment those legal requirements with additional ethical and moral prescriptions and proscriptions.
Sarbanes-Oxley recognizes this dichotomy; for example, it adopted the regulatory structure for accounting oversight we first proposed last January a private sector body, not a government agency, that can establish competence, ethics and quality control standards, subject to our oversight. We have a huge amount of work ahead of us in implementing the various requirements of that legislation, but my newly ensconced colleagues and I can assure you we'll do everything we can to complete our required efforts on time, and in doing so, to give full impact to the protections the Act seeks to effect.
The legal profession should not, however, overlook an object lesson Sarbanes-Oxley holds out for it. The essence of professionalism is achieving the highest standards and quality of expert skills and knowledge professionals are supposed to reflect. The accounting profession and corporate America may deem some aspects of Sarbanes-Oxley unduly onerous. But even if they believe that, they need only look inward to understand why the legislation is the way it is.
Professionals and businesses alike must keep their eyes firmly on their public responsibilities. They must first make certain those responsibilities are in fact satisfied. Then, they need to be sure the public knows they've satisfied their obligations. The accounting profession failed on both counts.
The Sarbanes-Oxley Act should alert this group that, in addition to auditors and corporate leaders, Congress believes lawyers representing public companies also have responsibilities requiring governmental definition. Most lawyers blanch at that notion. The relationship between lawyers and clients is often intensely personal, similar in some respects to the relationship between priest and penitent in the confessional. Lawyers are zealously supposed to guard, defend and promote the interests of their clients. To do that, clients must feel comfortable confiding in their lawyers. Efforts to impose governmental controls on how lawyers fulfill their responsibilities, some argue, can infringe upon the willingness of clients to confide in their lawyers, and curtail their ability to receive the benefits that flow from an unfettered lawyer-client dialogue.
But, the merits of that concern, if any, apply to individual representations, not the representation of public companies. Lawyers for public companies represent the company as a whole and its shareholder-owners, not the managers who hire and fire them. This should be self-evident, but recent events indicate some corporate lawyers have lost sight of this axiom, a form of professional blindness that isn't new. Tacitus, the historian, claimed long ago, "The most salable item in the public market is the crookedness of lawyers."1
To avoid this, and more modern, pictures of greed and duplicity, lawyers who represent public companies must use their legal acumen to pursue only those goals whose sole purpose is to further legitimate corporate interests, not the interests of individual managers even if management's individual goals arguably are supportable by a literal reading of the law.
The question every corporate lawyer is taught to ask at the outset of a representation is, "Who is my client?" Contrary to popular belief, this is not so they'll know where to send bills. Rather, it is so they'll know whose interests they are sworn to protect. When a corporation hires a lawyer, the lawyer represents the corporation and its shareholders. Being ever mindful of this answer can help protect lawyers from the fate visited upon the accounting profession.
While management has the power to hire or fire lawyers who represent a corporation, lawyers must ask themselves as well as management how what they're being asked to do is intended to further the company's and shareholders' interests. Corporate lawyers must be vigilant and protect against conflicts arising between management and shareholders. Most corporate lawyers recognize and fulfill that duty but the profession, as a whole, must hold this duty paramount.
Rule 102(e) of the Commission's Rules of practice reflects our long-standing recognition of the key role corporate counsel has on the effectiveness of the SEC. By and large, the Commission has been circumspect about using its self-created ability to review and sanction the conduct of lawyers, preferring to leave this task to professional organizations, like the various state bar committees. But, I'm not impressed, or pleased, by the generally low level of effective responses we receive from state bar committees when we refer possible disciplinary proceedings to them.
Whether Congress shares that concern, Sarbanes-Oxley reflects some skepticism about the degree to which the legal profession can police itself, by making explicit the Commission's ability, and our obligation, to regulate how lawyers appear and practice before us, including minimum standards of professional conduct for corporate lawyers. Under the Act, our rules must include a requirement that attorneys report evidence of material misconduct to appropriate corporate officials; if the response doesn't seem "appropriate," counsel must report the concern to the audit committee, another independent board group, or the entire board.
This is uncharted territory for us. One need not oppose federalizing corporate governance standards to recognize there are risks inherent in giving an agency that sometimes faces corporate lawyers as adversaries the ability to regulate whether and how they satisfy our notions of appropriate professional behavior. It's in the profession's interest to work with us to remedy deficiencies in the present system.
The ABA's Corporate Responsibility Task Force, chaired by Jim Cheek, is an excellent example of how a professional organization willing to work cooperatively and voluntarily with us can help effect sensible reform. ABA President Hirshon took the critical first step in setting up the Task Force acknowledging the problem's existence noting that "[corporate] counsel have in too many instances fallen short of providing active, informed and independent stewardship."2
Although some lawyers believe the roles of outside auditors and corporate lawyers are vastly different, lawyers representing public companies have responsibilities quite similar to those of outside auditors. Outside auditors owe a duty to shareholders and the investing public to assure that a company's financial reports are reliable and truthfully prepared. Similarly, lawyers who represent corporations serve shareholders, not corporate management. Helping a company satisfy literal legal prescriptions, even if doing so is contrary to what those legal prescriptions were intended to accomplish, doesn't satisfy a corporate lawyer's duties.
We've been directed to ensure that appropriate standards of ethics and competency are established, implemented and enforced. The profession should examine itself and provide guidance about how its members should behave that is broader than technical legality, and truly in the public interest. The Report produced by Jim Cheek's Task Force is in the best tradition of this kind of private sector self-examination. It reiterates that "the organization is the lawyer's client and that the lawyer owes that client an obligation of protection from harm,"3 and embodies the idea in Sarbanes-Oxley that lawyers should fulfill their responsibilities to their ultimate client. The Report is prescient in its anticipation that some might turn a blind eye toward problems in order to avoid reporting obligations.
At the risk of making you wonder what my summer reading consists of, consider Dante's "counselors of fraud." We're told that they "used their high mental gifts for guile, and because of their higher endowment their sin is reckoned greater and their place is lower than that of thieves."4 There is an analogy to modern times. Lawyers cannot escape their role in giving assistance to corporate wrongdoers by hiding behind their ability to craft a clever phrase to circumvent what they know to be the right answer. In fact, according to Dante it's that very gift that makes lawyers even more complicit!
While there will be details that we must consider as we develop rules for attorney conduct, the underlying principle of Sarbanes-Oxley is unassailable attorneys must be vigilant in protecting the interests of their true clients. We know that is one with which you all agree, and we are heartened by the spirit reflected in the Task Force Report. It remains for the entire profession to embrace its wisdom and scope, and help us wisely fulfill our new legislative mandate.
The Task Force's Report makes other sensible suggestions, including broadening the circumstances under which lawyers may disclose conduct that might result in injury to the financial assets or property of another. The dissipation of investor assets during and immediately following a securities fraud is a big problem, one we've been focused on since my Chairmanship began, seeking asset freezes and TROs in record numbers. The ABA's cooperation on this point would greatly support our efforts to stop fraud and dissipation of investor assets through our "real time enforcement" program. I hope it will ultimately receive broad support as part of the comment process.
I'm also impressed by the thoughtful consideration of corporate governance issues the Report reflects. Board independence is a key issue; as the Report suggests, regular, separate meetings between in-house counsel and independent directors can set the right tone for interactions between the board and counsel, and foster open communication. The Report's frank discussion of the integrity and independence of public company directors, and lawyer compensation, add greatly to the public dialogue on those topics as well.
It's difficult, and often impossible, for government to discover frauds perpetrated with management collusion in the early stages. This makes the need even stronger for people of integrity in accounting, law and business who detect fraud early, or avert it. This room reflects that there are many such people in the legal profession; but recent events have refocused our attention on the need for the profession to assist us in ensuring that fundamental tenets of professionalism, ethics and integrity work to ensure investor confidence in public companies. In developing new rules, we look forward to a thoughtful and constructive dialogue with you.
1 Cornelius Tacitus, The Annals of Imperial Rome.
2 July 24, 2002 ABA Press Release: "ABA Corporate Responsibility Task Force Recommends New Corporate Governance Standards, Lawyer Ethics Rules".
3 "Preliminary Report of the American Bar Association Task Force on Corporate Responsibility" at 27 (June 16. 2002) (emphasis added).
4 John D. Sinclair, Comment on Canto XXVI of the Inferno, in The Divine Comedy of Dante Alighieri with translation and comment by John D. Sinclair, Inferno at 329 (Oxford University Press 1939).