Lehman = Enron + SOX + England
Just as the Enron prosecutions are finally petering away the latest financial crisis promises a new litigation circus. Peter Henning has an excellent summary of the issues the Lehman bankruptcy examiner report raises for upcoming civil and criminal cases. It’s all shades of Enron with two twists.
Just as in Enron we have an accounting gimmick that supposedly hid Lehman’s true condition — “Repo 105s,” which dressed up short term loans to look like more bookable sales. Shades of the Enron “Nigerian barge” deal. And here, too, executives painted a rosy picture when they allegedly knew the darker truth. Plus emails, as Bear Stearns case. As in Enron, ambitious prosecutors likely will try to bag high profile game like former CEO Richard Fuld.
One new ripple here is that we have provisions in SOX which impose criminal liability on executives for falsely certifying not only the accuracy of the financial statements but also the absence of deficiencies in internal controls regarding the preparation of the financial statements. In our book, The Sarbanes-Oxley Debacle (75-81), Henry Butler and I characterize these provisions as SOX’s “litigation time bomb,” set to go off with the next financial crisis. Well, that time is here. SOX may have done very little to prevent the problems that led to Enron, but it could make the post-bubble litigation circus more entertaining.
There’s an additional complication here. Lehman had expert advice from Ernst & Young and the British law firm Linklaters that the Repo 105 transactions were, indeed, sales. As Henning says, “a defense of reliance on experts can undermine the government’s proof of intent to defraud or knowledge that statements were false or misleading.”
The WSJ Law Blog suggests that there’s something fishy with Lehman going to England for advice it couldn’t get in the US:
What’s up with this? What’s to stop a company from jurisdiction shopping until it finds a country that smiles on whatever shenanigans it feels like pulling? It’s one thing, if the behavior affects a limited number of markets, but in this instance, it obviously didn’t — there’s hardly a country in the world that hasn’t been beaten down by the financial crisis. Even if Linklaters acted well within the bounds of U.K. law, should it (or any firms in like situations) give guidance that provides broader context? Or does the blame funnel back, yet again, to the brass at Lehman, who should have been well aware of the potential impact of their decisions?
This, of course, assumes that the English advice was wrong and the U.S. advice right. Yet the Law Blog notes that “[t]he [bankruptcy] examiner – who did not contact the firm during his investigations – does not criticise those opinions or say or suggest that they were wrong or improper. We have reviewed the opinions and are not aware of any facts or circumstances which would justify any criticism.” As Soul Asylum would say, even if you’re “trying to do the right thing, play it straight, the right thing changes from state to state.” The basic problem is that accounting just isn’t entirely straightforward. Markets understand this and don’t necessarily rely on accounting characterizations.
As in Enron we will likely find that criminal guilt is more elusive than it seems. The Nigerian barge prosecutions in that case were vacated, the honest services statute that helped convict Jeff Skilling is under attack in the Supreme Court, and guilty-sounding emails may turn out to be less than that as we saw in the Bear Stears acquittals. SOX may make it easier to get a conviction, but prosecutors will still have to show that the executives knew of a lurking problem that they failed to deal with. The expert advice may complicate that proof.
The lesson here is that pursuing high-profile criminal prosecutions in Lehman after the problems with such prosecutions in these situations proved so manifest in Enron would prove that after a decade of hugely costly trials and a massive new law that was supposed to change everything, we still haven’t learned a thing about the unsuitability of criminal liability for these kinds of cases.
http://busmovie.typepad.com/ideoblog/2010/03/lehman-enron-sox-england.html
