August 23, 2010
The Future of Settling With Shareholder's Money: Judge Rejects Citigroup $75 Million Settlement with SEC
Posted by Christine Hurt

Three weeks ago, I blogged (apparently prematurely) that Citigroup had settled with the SEC for $75 million charges that Citigroup misled investors by minimizing the extent of their subprime exposure in public statements.  Two officers, who made in the tens of millions annualy during this time, were also to pay $100,000 and $80,000 in the settlement.  This announcement may have prompted a posting by Andrew Ross Sorkin, which I blogged about, pondering the suitability of corporations using shareholder money to pay fines when their managers break the law (or settle without admitting or denying they broke the law).  In Sorkin's article, he mentioned a SDNY judge who refused to accept an SEC settlement with Bank of America because of these reasons.  Now, a different SDNY judge has refused to accept the $75 million settlement with Citigroup.

The legal reasoning behind these rejections is a little puzzling.  If the judges are upset that corporate-entity punishment, which is logistically limited to fines, are necessarily paid out of earnings that otherwise would go to shareholders, then this is really a reaction that goes to the heart of entity-level punishment, which we have been doling out for awhile.  Sure, academics rail against it, but I would think any change would have to be a legislative change, not the province of judges who just sense that this part of our corporate enforcement infrastructure is flawed.  It's not like this came up yesterday.  In fact, we just had a huge financial reform act passed that directed the SEC to do a lot of things, but stop assessing entity-level fines for civil or criminal wrongdoing was not one of them.

The judges may be upset that the the corporations are basically bribing the SEC with shareholder money so that the SEC will not go after individual managers personally, wrecking careers, fortunes, families, etc.  This would definitely be a troubling agency problem.  The Citigroup judge, Ellen Segal Huvelle, seemed to be puzzled why the SEC didn't focus on any other officers besides the two in front of her, and what exactly the SEC had on these guys.  So, she seemed to think the SEC's investigation was both overinclusive and underinclusive -- basically misdirected.  Did she think settling with the SEC so that these wealthy individuals paid small fines was a way to other individuals, who may have been at the heart of the fraud?  Or, does she think there really was no "there, there," and the SEC should just unhook Citigroup and throw it back in the water?

Perhaps the paradigm for entity-level punishment is in need of an overhaul.  Maybe these two judges are trying to send a signal to the legislature or the SEC to stop the nuisance suit that only harms shareholders.

Here are Prof. Bainbridge's reactions.

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