Larry's book on Berkshire Beyond Buffett is due in a month, and we'll be reading it on the Glom. Here's a taste, prepared by Larry, and if you follow the link, you can see a full chapter of the book.
Berkshire corporate policy strikes a balance between autonomy and authority. Buffett issues written instructions every two years that reflect the balance. The missive states the mandates Berkshire places on subsidiary CEOs: (1) guard Berkshire’s reputation; (2) report bad news early; (3) confer about post-retirement benefit changes and large capital expenditures (including acquisitions, which are encouraged); (4) adopt a fifty-year time horizon; (5) refer any opportunities for a Berkshire acquisition to Omaha; and (6) submit written successor recommendations. Otherwise, Berkshire stresses that managers were chosen because of their excellence and are urged to act on that excellence.
Berkshire defers as much as possible to subsidiary chief executives on operational matters with scarcely any central supervision. All quotidian decisions would qualify: GEICO’s advertising budget and underwriting standards; loan terms at Clayton Homes and environmental quality of Benjamin Moore paints; the product mix and pricing at Johns Manville, the furniture stores and jewelry shops. The same applies to decisions about hiring, merchandising, inventory, and receivables management, whether Acme Brick, Garan, or The Pampered Chef. Berkshire’s deference extends to subsidiary decisions on succession to senior positions, including chief executive officer, as seen in such cases as Dairy Queen and Justin Brands.
Munger has said Berkshire’s oversight is just short of abdication. In a wild example, Lou Vincenti, the chief executive at Berkshire’s Wesco Financial subsidiary since its acquisition in 1973, ran the company for several years while suffering from Alzheimer’s disease—without Buffett or Munger aware of the condition. “We loved him so much,” Munger said, “that even after we found out, we kept him in his job until the week that he went off to the Alzheimer’s home. He liked coming in, and he wasn’t doing us any harm.” The two lightened a grim situation, quipping that they wished to have more subsidiaries so earnest and reputable that they could be managed by people with such debilitating medical conditions.
There are obvious exceptions to Berkshire’s tenet of autonomy. Large capital expenditures—or the chance of that—lead reinsurance executives to run outsize policies and risks by headquarters. Berkshire intervenes in extraordinary circumstances, for example, the costly deterioration in underwriting standards at Gen Re and threatened repudiation of a Berkshire commitment to distributors at Benjamin Moore. Mandatory or not, Berkshire was involved in R. C. Willey’s expansion outside of Utah and rightly asserts itself in costly capital allocation decisions like those concerning purchasing aviation simulators at FlightSafety or increasing the size of the core fleet at NetJets.
Ironically, gains from Berkshire’s hands-off management are highlighted by an occasion when Buffett made an exception. Buffett persuaded GEICO managers to launch a credit card business for its policyholders. Buffett hatched the idea after puzzling for years to imagine an additional product to offer its millions of loyal car insurance customers. GEICO’s management warned Buffett against the move, expressing concern that the likely result would be to get a high volume of business from its least creditworthy customers and little from its most reliable ones. By 2009, GEICO had lost more than $6 million in the credit card business and took another $44 million hit when it sold the portfolio of receivables at a discount to face value. The costly venture would not have been pursued had Berkshire stuck to its autonomy principle.
The more important—and more difficult—question is the price of autonomy. Buffett has explained Berkshire’s preference for autonomy and assessment of the related costs:
We tend to let our many subsidiaries operate on their own, without our supervising and monitoring them to any degree. That means we are sometimes late in spotting management problems and that [disagreeable] operating and capital decisions are occasionally made. . . . Most of our managers, however, use the independence we grant them magnificently, rewarding our confidence by maintaining an owner-oriented attitude that is invaluable and too seldom found in huge organizations. We would rather suffer the visible costs of a few bad decisions than incur the many invisible costs that come from decisions made too slowly—or not at all—because of a stifling bureaucracy.
Berkshire’s approach is so unusual that the occasional crises that result provoke public debate about which is better in corporate culture: Berkshire’s model of autonomy-and-trust or the more common approach of command-and-control. Few episodes have been more wrenching and instructive for Berkshire culture than when David L. Sokol, an esteemed senior executive with his hand in many Berkshire subsidiaries, was suspected of insider trading in an acquisition candidate’s stock.
(The above is an excerpt from Chapter 8, Autonomy, from Lawrence Cunningham’s upcoming book, Berkshire Beyond Buffett: The Enduring Value of Values; the full text of the chapter, which considers the case for Berkshire’s distinctive trust-based model of corporate governance, can be downloaded free here.)
[To read the full chapter, which can be downloaded for free, click here and hit download]
Last month when Crumbs, America's first public cupcake company, announced it was closing most of its stores after its stock was delisted by Nasdaq, and it had defaluted on some $14.3 million in financing, many viewed the annoucement as a sign that the cupcake industry bubble had finally burst.
In the past decade, cupcakes appeared as if they were taking over with businesses sprouting up everywhere. Not only had cupcakes come to replace traditional cakes at weddings and birthday parties, but people were willing to stand in ridiculously long lines and pay sometimes as much as $5 for a single cupcake or between $30 and $50 for a dozen. A 2012 story on Georgetown Cupcakes in DC suggested that sometimes the lines could take up to an hour to get through.
Some view the apparent demise of Crumbs as a sign that the cupcake craze was a trend that had finally run its course. Or put differently, an unsustainable business model. In addition to concerns about potential market saturation and over exposure, some indicated that pricing was a problem. Indeed, while cupcakes were touted as an "affordable luxury," some note that at $3.50-$6 each, cupcakes seemed more like an overpriced snack. As this article suggests, these cupcakes were not something middle America could afford. Another problem was low cost of entry--potentially reflected in the many people who thought they could give the cupcake business a try. Still another was diversity--could an industry based on a single food really survive with competitors that offered more than just cupcakes? And then there was the problem of potentially swimming against the health trend. Cupcakes seem like a healthier option than your large slice of cake or pie, but alas as a Forbes article points out "your typical large frosted premium cupcake can have as much as 500 calories," and lots of people eat more than just one.
And even the Crumbs story is not over. Just this week it was annouced that Crumbs would begin reopening it stores because, as the Wall Street Journal notes, a court signed off on a sale of Crumbs to "self-styled turnaround guru Marcus Lemonis and Dippin Dots owner Fischer Enterprises." Apparently, part of the turnaround strategy will be moving away from reliance on just cupcakes and incorporating other desserts.
So while the cupcake bubble has certainly gotten smaller, it may be too soon to tell if we can really call the cupcake craze a bust.
Uber just raised $1.2 billion at a valuation of $18 billion.
Let that sink in for a moment: a valuation of $18 billion! If that doesn't look like much, you must be thinking about Facebook's pre-IPO valuation of $50 billion, but Uber just landed the second largest private valuation on record. See here.
I have used Uber's service only once, with Vic Fleischer and Christine Hurt in Seattle, and I spent the whole ride quizzing the driver on the business model. Of course, I could have just googled it, but it was nice to see the business through the driver's eyes. It looks a lot like franchising, but with lower investment costs for the franchisees (drivers).
Why all the fuss? This is not just about replacing taxis. This is about displacing UPS and FedEx. See here for more on that possibility. Exciting stuff.
P.S. For those of you invested in the SharesPost 100 Fund, congratulations! Uber is on the list.
The ugly Donald Sterling episode seems to be moving to resolution with a pending sale of the L.A. Clippers to Steve Ballmer. The sordid story makes for a great case study in a Contracts course, not least because of the wealth of material that is publicly available, particularly one of the central contacts – the NBA “Constitution and Bylaws.” Often the key contracts in the most notorious disputes are kept confidential, with only snippets of the agreements available even via court dockets.
Under the terms of the Constitution and Bylaws, the NBA Commissioner position that Sterling could be forced to sell his team was strong but not (pardon the pun) a slam dunk (see Michael McCann’s early analysis here and an analysis of Sterling’s response here).
The Commissioner and Sterling each were aiming to persuade a motley group of NBA owners, who may have been concerned with, among other things, the outrage of players and fans towards Sterling, the damage to their league of having Sterling continue as owner, and the precedent of forcing an owner to sell.
Layered on top of this were the family law and tax considerations of Sterling transferring ownership whether to his estranged wife or to a buyer.
In the end, economics pushed Sterling to sell. He was faced with a stark choice of trying to hang on to an asset that was damaged goods just by remaining in his hands versus over a billion dollar profit from selling.
In teaching this episode, students should be cautioned against jumping immediately to the “of course he will sell” conclusion. The hard work of analyzing the contracts helps explain the negotiating positions of the NBA commissioner, the various NBA owners, Sterling, and his wife as they bargained in the shadow of the law. The contractual language also will help prepare for any post-sale litigation;Sterling has already initiated one suit and threatened more . Sterling's wife apparently agreed to indemnify the NBA against legal challenges by her husband, which adds yet another teaching wrinkle. One puzzle for students: what was the strategy behind declaring Sterling incompetent?
Too bad I am not teaching Contracts in the fall.
The Bitcoin exchange Mt. Gox appeared to be undergoing more convulsions Tuesday [February 25], as its website became unavailable and trading there appeared to have stopped, signaling a new stage in troubles that have dented the image of the virtual currency. . . .
Investors have been unable to withdraw funds from Mt. Gox since the beginning of this month. The exchange has said that a flaw in the bitcoin software allowed transaction records to be altered, potentially making possible fraudulent withdrawals. No allegations have been made of wrongdoing by the exchange, but the potential for theft has raised concern that the exchange wouldn't be able to meet its obligations.
The apparent collapse of Mt. Gox is just the latest shock to hit Bitcoin, the price of which is now off more than 50% from its December 2013 peak:
For those better acquainted with the dead-tree/dead-president variety of money, Bitcoin is a virtual currency not backed by any government. Rather than being printed or minted by a central bank, Bitcoins are created by a computer algorithm in a process known as "mining" and are stored online or on your computer. They are bought and sold on various exchanges, including until recently Mt. Gox (whose troubles have been reported for a few weeks now).
There are many reasons, some of them even lawful. Bitcoins can be regarded as a medium of exchange, an investment, a political statement...or a way of avoiding capital controls and other pesky laws like bans on drug trafficking and human smuggling.
But the criminal potential of Bitcoin is probably overstated. The Chinese have gotten wise to its use for avoiding capital controls. Using Bitcoin for criminal or fraudulent activity would be difficult at scale (PDF). The Walter White method is still far and away the best way to ensure your criminal proceeds retain their value and anonymity.
I don't share the utopian fervor for Bitcoin expressed in tech and libertarian circles (see, e.g., this supposedly non-utopian cri de coeur), but it may have some positive potential as a decentralized and lower-cost electronic payments system. We'll see if that ever gets off the ground.
In the meantime, the Mt. Gox collapse is pretty huge news for Bitcoinland. Unlike the NYSE (the failure of which would be hard even to imagine), Mt. Gox does not benefit from any systemic significance and thus is unlikely to receive a lot of official-sector help. The situation has some early adopters running for the Bitcoin exits, like this leading Bitcoin evangelist.
Despite (because of?) my agnosticism on the currency, I'll be writing more about Bitcoin soon. (Mainly, I wanted to stake a claim to being the first to write about Bitcoin on The Conglomerate.) If your Palo Alto cocktail party can't wait, however, this explainer (PDF) from the ever-impressive Chicago Fed should tide you over.
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If you'll excuse two barely business-related observations:
- The Son, by Philipp Meyer, might do as a novel about business - it's about 170ish years of a Texas family, with a basic theme that getting frontier-rich required fraud and evil-doing. But it's not an anti-business book at all. Recommended, if you like your epics dark.
- When I was a sprightly young lawyer in Washington in the late nineties, I got the Washington Post and New York Times delivered to my door every morning ... and I read the Post first, because it was more fun than the Times. I knew Post reporters, too, young, interesting, and not at all embarrassed that they weren't lawyers (we hadn't really heard of finance back then in DC). It is amazing how much that paper changed, and changed for the worse - and yet it's still the best single source on how business regulation gets done. I'm hoping it has a rennaisance with new ownership.
If you like worrying about the future of business news, you might like this profile of Henry Blodget in the New Yorker, with the Times take here. Business Insider is so, so dumb, and yet the new model for content, where good writing appears to be discouraged (see also Huffington Post, eHow, LiveStrong, Amalgamated Content, etc, etc). That said, I'm generally impressed with Blodget, who was a pretty sympathetic defendant during the Eliot Spitzer era, and who completely reinvented himself as a journalist, and then as a content entrepreneur. He's a pretty good journalist, too (his eye for talent, though...I'm just going to assume he's excellent at paying low).
The newsy bit is that he's contemplating seeking to have his lifetime bar overturned. And the question to me is "why bother?" You'd only want to do it if he's looking to sell BI asap, and if - and this could be true - it isn't very profitable, meaning he'd prefer to be back in finance. That would be yet another career change, and in its own way depressing from the perspective of consumers of business journalism too - a field so unprofitable that it does not even pay to do it poorly.
Andrew Mason, the CEO of Groupon, wrote a pretty nice exit letter when the board fired him. But the annotation by Marc Andreesen and Bo Horowitz is also illuminating, if you like that tech start-up kind of thing.
HT: Felix Salmon
Avis is buying Zipcar for $500 million. That's a hefty premium over Zipcar's current stock price, but a hefty discount on the 2011 IPO price for Zipcar. Way back in 2003, when I first heard about Zipcar, I wrote: "this does not look like it has the potential to be a big business, and it will not survive as a small business." It took 10 years to play out, but I was right.
Now the question turns to this: is car-sharing a viable business for the large car rental companies? While car sharing has a constituency -- "we live in a Zipcar world right now" -- it's still small. The hoped-for synergy in this alliance is that Zipcar and Avis have different usage cycles:
Zipcar utilization is low during weekdays but spikes during weekends, resulting in excess fleet vehicles during the week that often aren't used. Avis, meanwhile, has utilization that peaks during the midweek commercial-travel period and has excess capacity on the weekends.
That makes sense, and Avis investors are applauding.
Today saw yet another big ticket government lawsuit against yet another large financial conglomerate alleging deceptive conduct in selling either mortgages or mortgage-backed securities. What is truly interesting is not the similarities among the October lawsuits, but the differences. The various recent lawsuits against Wall Street firms have been brought by both federal and state officials using an arsenal of different statutes and targeting different pipes in the mortgage market plumbing. Instead of using federal securities laws, federal and state prosecutors have looked to older statutes like the Civil War era False Claims Act and New York's pre-New Deal Martin Act in bringing the three big October cases.
Here is a rough rundown of these three big headline-grabbing cases from October as well as another cluster of suits brought last September by the Federal Housing Finance Agency (the conservator that took control of Freddie and Fannie): (David Zaring has summarized and analyzed the individual October cases as they have come out):
Government Entity Bringing Suit
Principal Statutes Used
U.S. Attorney SDNY suing for loans sold to Freddie Mac and Fannie Mae; (FHFA and TARP also involved).
Federal False Claims Act; FIRREA
U.S. Attorney SDNY suing based on FHA insured mortgages (HUD also involved in suit).
Federal False Claims Act; FiRREA
New York AG
NY Martin Act
FHFA as conservator of Freddie and Fannie
Mix of federal and state securities antifraud provisions
Each lawsuit involves a fairly discrete set of causes of action. In each case, the government theory is slightly different.
What explains this? Why not bring a similar suit against every bank or throw in the kitchen sink of claims in each case? The federal and state actions have become much more coordinated – as witnessed by the federal mortgage task force involvement in New York state's JP Morgan suit.
It could be that the conduct of different banks, their different business models, and their interactions with different entities in the federal mortgage universe merited different causes of action or legal theories. That explanation doesn’t seem to offer a complete explanation given the breadth of mortgage operations at large financial conglomerates and the likelihood that any deceptive conduct that occurred would be unlikely to be concentrated in only one corner (whether FHA-insured mortgages or sales of mortgages to Freddie/Fannie or representations to MBS investors).
Perhaps the federal/state coordination created a division of labor strategy or a move to share the litigation risk and reward.
Or these lawsuits might involve a diversification strategy. Rather than putting all the litigation eggs in the basket of one statute or legal theory, the prosecutors and government lawyers involved might look to try different causes of action against different firms. If one theory fails, the whole litigation enterprise doesn’t go up in smoke. If one theory appears to be sticking, perhaps it can be copied against other banks (assuming the statute of limitations hasn’t run out and other legal hurdles can be cleared).
A number of targeted suits may allow for quicker and cleaner litigation and make a case easier to present to a judge or jury than a kitchen-sink of multiple claims. One could take the idea of a “theory of the case” seriously and see this approach to litigation as a series of experiments – where individual causes of action are tested.
This more targeted approach is not free from criticism. It doesn’t offer a cathartic Ragnarök. However, that view of litigation is more a construct of Hollywood. More importantly, this diversity of cases opens federal and state officials up to criticisms of the potential unfairness and waste of multiple lawsuits brought by multiple parties.
Another question lingers: why did it take so long for these October lawsuits to be brought?
At midnight, several hours before Vikram Pandit resigned, Bloomberg ran a story about a speech in which Pandit criticized federal regulators for not addressing the shadow banking system. I have previously expressed some views on shadow banking. I told Bloomberg about the irony of the CEO of a global investment bank calling for more regulation of a system in which investment banks not only actively participate but, moreover, serve as central hubs.
Events in Mr. Pandit's career today overtook the story.
But it is useful to remember the key role that shadow banking markets (asset-backed securities, asset-backed commercial paper, money-market mutual funds, repos, credit derivatives) played in the financial crisis and in Citi's operations. These markets served many of the same economic functions as traditional depository banks (providing credit and theoretically safe and liquid investments). The crisis revealed that these markets suffered the same types of crises as banks (shadow bank runs). The federal bailouts then deployed the same conceptual tools that governments historically used to address banking crises (government as lender-of-last-resort and effective deposit insurance). Now the question is whether these markets should be regulated to reduce moral hazard, just like banks are.
Pandit's abrupt resignation may have deprived us of having a clearer sense of what shadow banking is and the risks it poses. It is not a rhetorical device to hint at some unspecified set of institutions that sit outside regulation. Shadow banking is actually very much about investment banks and regulated entities at play in less regulated markets.
We have decided to convene a late summer forum of the Conglomerate Masters -- our roster of distinguished corporate and financial law professors -- to discuss the current state of corporate social responsibility. In particular, we wanted to address the controversy over Chick-fil-A's corporate stance against same sex marriage and to use this Economist blog post as a jumping off-point.
The Economist blogger contends that Chick-fil-A's culture is in fact a prime example of a firm embracing corporate social responsibility (or "CSR") - albeit not with the politics that one traditionally associates with that movement. The blogger concludes that the Chick-fil-A example demonstrates that matters of social policy should best be left to democratic institutions. He or she writes:
Matters of moral truth aside, what's the difference between buying a little social justice with your coffee and buying a little Christian traditionalism with your chicken? There is no difference. Which speaks to my proposition that CSR, when married to norms of ethical consumption, will inevitably incite bouts of culture-war strife. CSR with honest moral content, as opposed to anodyne public-relations campaigns about "values", is a recipe for the politicisation of production and sales. But if we also promote politicised consumption, we're asking consumers to punish companies whose ideas about social responsibility clash with our own. Or, to put it another way, CSR that takes moral disagreement and diversity seriously—that really isn't a way of using corporations as instruments for the enactment of progressive social change that voters can't be convinced to support—asks companies with controversial ideas about social responsibility to screw over their owners and creditors and employees for...what?
It is a provocative argument. Although one wonders if the author would have made this same series of arguments in the 1960s: would the author have encouraged civil rights protesters to abandon lunch-counter sit-ins and lobby state legislators instead?
Still, the Chick-fil-A example raises some disquieting questions for CSR, which our Masters may address. These include:
Is corporate law the most effective or legitimate tool for social change? If we are worried about environmental degradation, is the solution to broaden the stakeholders to whom a corporation must answer? Or shouldn't we look instead to environmental law?
Is CSR viewpoint neutral? When covering CSR in a Corporations course, I ask students whether social activists who are lobbying a corporation to change what they see as immoral employment practices, should be able to put their views to a shareholder vote? Then I ask whether the answer would or should change based on whether the activists are looking to end racial or gender discrimination or whether they are lobbying a company to stop offering benefits to partners in same sex couples.
At the same time, the current state of legal affairs raises some disquieting questions for opponents of CSR too. The conclusion in the Economist blog -- leave social policy to democratic institutions and public law -- has a long lineage. It harkens back to Milton Friedman's arguments that corporations and the states do and should exist in separate spheres; if citizens want to change corporate policy, the argument goes, they should act through the political process and push through public regulation.
But, the separate spheres argument looks more and more outdated, as corporations influence and permeate the sphere of government. Do arguments to leave regulating the public dimension of corporate behavior out of corporate law and governance -- and leave it to traditional legislative and regulatory bodies -- appear naive in a post-Citizens United (and post-public choice)world?
Also, do these same questions for proponents and critics of CSR apply in equal measure to the growing field of social entrepreneurship? Can entrepreneurs do well while doing good? Should we expect them too? Is social entrepreneurship a workable, stable, and viewpoint neutral concept? If so, what does it entail? Does/should CSR apply equally to small businesses and startups as to global corporations?
We look forward to hearing from our Masters...
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Massey Energy and Walmart made headlines last week for different reasons. Massey had the worst mining disaster in 40 years, killing 29 employees and entered into a nonprescution agreement with the Department of Justice. The DOJ has stated in the past that these agreements balance the interests of penalizing offending companies, compensating victims and stopping criminal conduct “without the loss of jobs, the loss of pensions, and other significant negative consequences to innocent parties who played no role in the criminal conduct, were unaware of it, or were unable to prevent it.”
Massey’s new owner Alpha Natural Resources, has agreed to pay $210 million dollars in fines to the government, compensation to the families of the deceased miners and for safety improvements (the latter may be tax-deductible). The government’s 972-page report concluded that the root cause was Massey’s “systematic, intentional and aggressive efforts” to conceal life threatening safety violations. The company maintained a doctored set of safety records for investigators, intimidated workers who complained of safety issues, warned miners when inspectors were coming (a crime), and had 370 violations. The mine had been shut down 48 times in the previous year and reopened once violations were fixed. 112 miners had had no basic safety training at all. Only one executive has been convicted of destroying documents and obstruction, and investigations on other executives are pending. However, the company itself has escaped prosecution for violations of the Mine Safety and Health Act, conspiracy or obstruction of justice. Perhaps new ownership swayed prosecutors and if Massey had its same owners, things would be different. But is this really justice? The miner’s families receiving the settlement certainly don’t think so.
Walmart announced in its 10-Q that based upon a compliance review and other sources (Dodd-Frank whistleblowers maybe?), it had informed both the SEC and DOJ that it was conducting a worldwide review of its practices to ensure that there were no violations of the Foreign Corrupt Practices Act (“FCPA”). Although no facts have come out in the Walmart case and I have no personal knowledge of the circumstances, let’s assume for the sake of this post that Walmart has a robust compliance program, which takes a risk based approach to training its two million employees in what they need to know (the greeter in Tulsa may not need in-depth training on bribery and corruption but the warehouse manager and office workers in Brazil and China do). Let’s also assume that Walmart can hire the best attorneys, investigators and consultants around, and based on their advice, chose to disclose to the government that they were conducting an internal investigation. Let’s further assume that the incidents are not widespread and may involve a few rogue managers around the world, who have chosen to ignore the training and the policies and a strong tone at the top.
As is common today, let’s also assume that depending on what they find, the company will do what every good “corporate citizen” does to avoid indictment --disclose all factual findings and underlying information of its internal investigation, waive the attorney client privilege and work product protection, fire employees, replace management, possibly cut off payment of legal fees for those under investigation, and actively participate in any government investigations of employees, competitors, agents and vendors.
Should this idealized version of Walmart be treated the same as Massey Energy? (For a great compilation of essays on the potential conflicts between the company and its employees, read Prosecutors in the Boardroom: Using Criminal Law to Regulate Corporate Conduct, edited by Anthony and Rachel Barkow). Should they both be charged and face trial or should they get deferred or nonprosecution agreements for cooperation? Do these NPAs and DPAs erode our sense of justice or should there be an additional alternative for companies that have done the right thing -- an affirmative defense?
A discussion of the history of corporate criminal liability would be too detailed for this post, but in its most simplistic form, ever since the 1909 case of New York Central & Hudson River Railroad Co v. United States, companies have endured strict liability for the criminal acts of employees who were acting within the scope of their employment and who were motivated in part by an intent to benefit the corporation. As case law has evolved, companies face this liability even if the employee flouted clear rules and mandates and the company has a state of the art compliance program and corporate culture. In reality, no matter how much money, time or effort a company spends to train and inculcate values into its employees, agents and vendors, there is no guarantee that their employees will neither intentionally nor unintentionally violate the law.
The DOJ has reiterated this 1909 standard in its policy documents. And because so few corporations go to trial and instead enter into DPAs or NPAs, we don’t know whether the compliance programs in place would have led to either the potential 400% increase or 95% decrease in fines and penalties under the Federal Sentencing Guidelines because judges aren’t making those determinations. The DPAs are now providing more information about corporate compliance reporting provisions, but again, even if a company already had all of those practices in place, and a rogue group of employees ignored them, the company faces the criminal liability. The Ethical Resource Center is preparing a report in celebration of the 20th Anniversary of the Sentencing Guidelines with recommendations for the U.S. Sentencing Commission, members of Congress, the DOJ and other enforcement agencies. They are excellent and timely, but they do not go far enough.
A Massey Energy should not receive the same treatment as my idealized model corporate citizen Walmart. Instead, I agree with Larry Thompson, formerly of the DOJ and now a general counsel and others who propose an affirmative defense for an effective compliance program- not simply as possible reduction in a fine or a DPA or NPA.
While the ideal standard would require prosecutors to prove that upper management was willfully blind or negligent regarding the conduct, this proposed standard may presume corporate involvement or condonation of wrongful conduct but allow the company to rebut this presumption with a defense.
In the past decade, companies drastically changed their antiharassment programs after the Supreme Court cases of Fargher and Ellerth allowed for an affirmative defense. The UK Bribery Act also allows for an affirmative defense for implementing “adequate procedures” with six principles of bribery prevention. Interestingly, they too are looking at instituting DPAs.
I would limit a proposed affirmative defense to when nonpolicymaking employees have committed misconduct contrary to law, policy or management instructions. If the company adopted or ratified the conduct and/or did not correct it, it could not avail itself of the defense. The company would have to prove by a preponderance of the evidence that: it has implemented a state of the art program approved and overseen by the board or a designated committee; clearly communicated the corporation’s intent to comply with the law and announced employee penalties for prohibited acts; met or exceeded industry standards and norms; is periodically audited and benchmarked by a third party and has made modifications if necessary; has financial incentives for lawful and penalties unlawful behavior; elevated the compliance officer to report directly to the board or a designated committee (a suggestion rejected in the 2010 amendments to the Sentencing Guidelines); has consistently applied anti-retaliation policies for whistleblowers; voluntarily reported wrongdoing to authorities when appropriate; and of course taken into account what the DOJ has required of offending companies and which is now becoming the standard. The court should have to rule on the defense pre-trial.
Instead of serving as vicarious or deputized prosecutors, under this proposed standard, a corporation’s cooperation with prosecutors will be based on factors more within the corporation's control,rather than the catch-22 they currently face where if employees are guilty, there is no defense. And if the employees are guilty, this would not preclude the government from prosecuting them, as they should.
Responsible corporations now spend significant sums on compliance programs and the reward is simply a reduction in a fine for conduct for which it is vicariously liable and which its policies strictly prohibited. A defense will promote earlier detection and remedying of the wrongdoing, reduce government expenditures, provide more assurance to investors and regulators, allow the government to focus on companies that don’t have effective compliance program, and most important provide incentives for companies to invest in more state of the art programs rather than a cosmetic, check the box initiative because the standard would be higher than what is currently Sentencing Guidelines.
Perhaps only a small number of companies may be able to prevail with this defense. Frankly, corporations won’t want to bear the risk of a trial, but they will at least have a better negotiating position with prosecutors. Moreover, companies that try in good faith to do the right thing won’t be lumped into the same categories as those who invest in the least expensive programs that may pass muster or worse, engage in clearly intentional criminal behavior. If companies have the certainty that there is a chance to use a defense, that will invariably lead to stronger programs that can truly detect and prevent criminal behavior.
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I must admit I have been a bit surprised (though happily so) by the seeming strength of the endorsement and support for Breast Cancer Awareness Month by some sports programs. I have seen this support not only at the professional level, but also with respect to college and even high school sports. Certainly the NFL has done a lot in this regard, from coaches and players' hats, players' cleats, and arm bands to pink symbols on the football field and padding on goal posts. The NFL has provided visible signs of its support and endorsement of the fight against breast cancer. The NFL also has a website pinpointing critical issues related to breast cancer, indicating ways in which people can support the fight, and highlighting personal stories from NFL players and others connected to the NFL. Given the impact and influence of sports in this country, this kind of partnership sends a strong message (with some equally strong resources behind it). Recently, as I was riding in a cab, I noticed a pink cab, and my cab driver told me that the owner of the cab dedicated her all of her fares to the fight against breast cancer. Intrigued, I decided to dig a bit deeper. While I did not find information about that particular pink cab, I did discover that many cab companies across the nation had agreed to paint at least one of their cabs pink and engage in a variety of endeavors aimed at support the fight against breast cancer from donating a portion of their cab fares, to providing free cab rides to those in need of transportation for breast cancer treatment. Like the companies here and here. I think one of the key goals of the CSR movement should be to promote partnerships between the nonprofit and for-profit sectors pursuant to which the for-profit entity helps raise awareness regarding important issues and responsibly uses its particular business resources, expertise, and influence to address those issues. Pink cabs appear to reflect this goal, which is why I found myself trying to hail one when I next needed a cab ride. . .