John Coffee Says McNulty Memo Went a Bridge Too Far in Tying Hands of Prosecutors in Corporate Crime Investigations
21 Corporate Crime Reporter 1, December 26, 2006

Columbia Law School Professor John Coffee says the Justice Department’s McNulty memo went “a bridge too far” in requiring prosecutors to get approval from Justice Department headquarters before seeking waiver of attorney client privilege in corporate crime investigations.

“Typically, when a corporation is caught up in a scandal, the board of directors, if it is behaving competently at all, will ask an independent law firm to come in, conduct a study, and advise it of what went on because they can’t rely solely on management – because management is self-interested and quite possibly implicated,” Coffee said in an interview last week with Corporate Crime Reporter. “When those reports are done by management and given to the corporation, they are privileged. Plea bargains, for as long as I’ve known them, usually involve the company giving up someone else. When a corporation gets a deferred prosecution agreement, it would be appropriate to have the corporation prepare that same internal self-study and give it to the government. If you are going to have leniency, you have to help the government identify who was responsible and help them take that action.”

“Under the McNulty memo, the government doesn’t say it can’t ask for that study,” Coffee said. “But it requires that it has to be approved by the Assistant Attorney General running the Criminal Division. And that is higher up than the typical young prosecutor will be comfortable going.”

Will this lead to more criminal prosecutions?

“It could make the deferred prosecution agreement less attractive to the government,” Coffee said. “You might like that. I would like to see however that the government get the benefit of this type of detailed study that independent counsel has conducted. We want to know what happened. And those reports are a valuable source of information. As I understand the McNulty memo, it basically restricts the government’s access to those studies.”

Coffee was also critical of the work of the Committee on Capital Markets Regulation – aka the Paulson Committee. Coffee served as a member of the committee’s enforcement task force.

But Coffee said that he didn’t share much common ground with the committee on curtailing Sarbanes-Oxley and was critical of the committee’s work on regulation and law enforcement generally.

“I was a consultant to that committee, but only on the topic of securities regulation,” Coffee said. “I don’t share much common ground with that committee on whether or not we should cut back on Sarbanes-Oxley. I believe Sarbanes-Oxley was the needed answer to problems and I don’t believe it can be ascribed as the cause of any flight of foreign issuers from the U.S. capital markets.”

Coffee said he disagreed with the Paulson Committee’s proposal to preclude private litigation any time the SEC brought an action against a corporation that was settled for damages paid out of Sarbanes Oxley’s fair funds provision.

“I don’t believe that proposal works,” Coffee said. “It effectively makes the SEC into a kind of board of pardons for companies by allowing the SEC to be the only institution that levies any penalties or gets any recovery. That would quickly cause corporations to come running to the SEC with a settlement well before the SEC knew enough to understand what the full financial harm or damage was.”

Coffee said the proposal “compromises the SEC – putting it in effect in a position of selling indulgences to public corporations.”

“The SEC in the past has never had to worry about what is an adequate compensatory recovery when it settled with the company,” Coffee said. “It saw its role as to gain some deterrence and also to notify the private bar that here was a company that misbehaved and they could now sue it.”

And Coffee said that the Committee never even considered his idea that Congress repeal the 1994 Supreme Court decision in Central Bank of Denver, which in effect eliminated aiding and abetting liability for gatekeepers in securities litigation.

“The Supreme Court said in that case that there is no liability for aiding and abetting under SEC Rule 10b-5, which is the principal anti-fraud rule of the federal securities laws,” Coffee said. “That means that the only time you can sue an auditor, or an investment banker, or any of the other agents who represent and help structure the transaction is when they have literally made a statement to the world. And lawyers don’t generally do that. They draft statements for the client, but they generally don’t make their own statements. Before 1994, when the Central Bank of Denver decision came down, the law firm could be sued for aiding and abetting the client’s violation – at least if you showed the requisite level of intent. That is appropriate. It is also appropriate that investment bankers and auditors should have liability when they assist the company in making a false statement. But today, they only have liability when they make their own statement – which the auditor does make when it certifies the company’s annual financial statements. But it doesn’t make any similar statement when it approves the company’s quarterly financial statement.”

Much of the interview with Coffee focused on his new book – Gatekeepers: The Professions and Corporate Governance (Oxford University Press, 2006).

Coffee argues that the directors are essentially prisoners of the gatekeepers and that while much attention has been focused on the board of directors, little has been focused on the gatekeepers – the attorneys, auditors, securities analysts and credit rating agencies.

With this book, he seeks to rectify the imbalance.

If his proposals take hold, the gatekeepers will likely not be happy.

For corporate lawyers, for example, Coffee would have the SEC require that every publically held company have a designated “disclosure counsel” who would be responsible for preparing the company’s annual report and quarterly reports that are filed with the SEC.

The disclosure counsel would have to certify that he helped prepare those documents and that he conducted a review that he considers adequate under the circumstances. And based on that review, he was not aware of any material omission or misstatement.

(For a complete transcript of the Interview with John Coffee, see 21 Corporate Crime Reporter 1, January 1, 2007, print edition only)



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