Looking Beyond the SEC Circle Alpha _ Omega of the Global Sub

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					          Looking Beyond the SEC Circle:
Alpha & Omega of the Global Sub Prime Mortgage Crisis
               By: Susan M. Hinds, CPA, MBA, JD Candidate 2009
         (For Educational Purposes Only) Draft Copy with Corrections Pending



    Аα    ALPHA      Аα                         Ωω   OMEGA       Ωω




     Eye of the Storm                      White Light Transparency




                               Looking Beyond The

   Sub-Prime                                                          Long-Term
    Liquidity                                                           Greed




     Crisis                       SEC Circles                          Ethics




“I am the Alpha and the Omega, the First and the Last, the
Beginning and the End.”                …Revelation 22.13
What are the lessons learned by the SEC, the solutions proposed for effective
regulatory oversight of complex capital markets, and the responses to the increasing
shareholder litigation in the global subprime mortgage crisis?
I.     Introduction
II.    Historical Highlights: The SEC Born with a Purpose to Restore Public Trust
III.   Hypothesis: SEC Ineffective at Regulating Complex Markets, SROs are
       Conflicted, and Stronger Independent Regulatory Oversight Needed
       a. Case Studies: Does the Trend in Current Litigation Support the Need for
          Independent Oversight?
                i.      Global Crossing: A Horizontal Collaboration Leads to a
                        Telecom Bust
                ii.     Enron Case: A Horizontal Collaboration led to Wide Spread
                        Corruption
                iii.    Tyco Case: “Greed is Good Operand”
                iv.     Parmalat Dairy Disaster: Lack of Transparency & Price
                        Fixing Disclosures in the Dairy Industry
                v.      AIG: Lacks Full Disclosure and Transparency
                vi.     Countrywide: Sub Prime Bust and Ethical Lapses, Lack of
                        Transparency, and Conflicts of Interest
                vii.    Bear Stearns Evaporation: Financial Stocks Crushed by
                        Liquidity Crisis
                viii. Case Study Conclusion: Is Past Litigation a Pathway to
                        Independent Oversight?
       b. Inquire into the Specific Trends and Behaviors that Shape the Morals of the
          Market and Establishes an Integrity Baseline for Which all is Measured:
          Sarbanes-Oxley Act 2002
IV.    Diagnosis: Why did Sarbanes-Oxley Act, with the Creation of the PCAOB,
       Result in Market Failure, and Independent Auditors Fail to Timely Detect
       and Disclose to the Investing Public?
       a. Lacking Real-Time Transparency: The Current Business Reporting Model
          Lacks Digitalization and Full Disclosure to Strategy, Risks, and Key Metrics
       b. Ongoing Conflicts of Interest & Lack of Independence: Blind Guise Network
       c. Regulatory Capture: The Regulators are the Regulated Phenomena Results in
          Lack of Strict Enforcement
       d. Professional Ethical Lapses: ―Greed is Good‖ Motto is Replaced with ―Long
          Term Greed‖ Creed
       e. Deliberate Ignorance: Enron Measure of ―Intent‖ or not?
       f. Whistleblower Protection: Failing to Protect the Front Line Officers
V.     Future Legal & Regulatory Analysis: On the Horizon for the SEC?
       a. 2008 SEC Omega Ends with a New Regulatory Schema: Treasury‘s
          Blueprint for a Modernized Financial Regulatory Structure
       b. SEC Digitalizes the Public Company Financial Filings by Utilizing XBRL and
          Voting for Mandatory Regulation Standards in 2008
       c. Looking Beyond the SEC Circle: Enforcing Independence in Rating Scores
       d. Sunlight Transparency: Auditor Independence and Executive Pay Debacle
VI.    Conclusion: Looking Forward to the Next Crash

                                                                                         1
I.       Introduction

     The question we will explore in this topic paper is whether the Securities and

Exchange Commission (―SEC‖) is effective in regulating complex capital markets, to

avoid another subprime meltdown, when the self-regulatory foundation and licensed

professionals are plagued with unethical behaviors. We will begin with some historical

context that existed at the time of the Great Depression, giving birth to the SEC in 1934.

We will examine some cases relating to the capital market fragility and attempts to avoid

future economic collapses that led to the creation of the Public Company Accounting

Oversight Board (―PCAOB‖), arising from the Sarbanes-Oxley Act 2002 (―SOX‖). We

will examine some of the lessons learned by the SEC, explore the morals of the market,

examine some reasons for market failure, and review a few of the future solutions

proposed, in a post-SOX era, with increasing shareholder litigation and an emerging bear

market that is zapping public confidence and draining pension funds.

     We refine our scope to examine if a stronger independent oversight is needed,

especially in light of the democratization of the global capital markets that are

technologically networked, demanding increased transparency, stronger corporate

governance, and independent regulatory oversight that protects foreign investment and

restores public trust in the capital markets. Increasingly, the public and investors demand

true auditor independence, no conflicts of interest, and full disclosure of executive pay.

This requires an increase in independent regulatory oversight actively intervening and

sanctioning unethical behavior to enhance public confidence and capital market integrity.

     The importance of this paper is to provide a better understanding of the challenges that

the SEC and regulators face in battling white collar crime and the complexities of these


                                                                                                2
litigations. We will sample some fraud and corruption cases utilizing SOX as the

established integrity baseline, in which all unethical behavior is measured against, so we

may see that enforcing SOX is no easy task. The Omega subprime meltdown, leads many

readers to seek answers from the finance community and this paper will shed some light

on the reasons for market failure. Important to prepare the reader for the future changes in

the capital markets which are demanding regulatory and technological advances that will

revolutionize the global capital markets and increase transparency to investors.

II.       Historical Highlights: The SEC Born with a Purpose to Restore
          Public Trust

      In the beginning of the end of a high flying era, complete with the historical Crash of

1929, the climax of a promising industrial era with a soaring stock market and a bullish

investment crowd, led Irving Fisher, Yale economist, to proclaim, ―stock prices have

reached what looks like a permanent high plateau.‖1 In October 1929, the stock

speculation bubble burst, stocks tanked, and new found wealth, estimated to be half of the

stock market‘s value. At the time of the crash, the Wall Street district of New York was

the prominent financial leader of the world, promoting the prestigious New York Stock

Exchange (―NYSE‖), and all the glory that market capitalism has to offer, with great

wealth residing in stocks. Wall Street was blindsided by lack of transparency, inadequate

regulation, and ethical lapses. Great despair settled in as the economic health of the



1
 Edward Teach, The Bright Side of Bubbles, CFO Magazine, http://www.cfo.com, (last visited May 1,
2007).




                                                                                                    3
nation appeared ill and financial institutions appeared to be inadequately capable of

providing any financial remedy.



                                    Crowds Gathering
                                    Wall Street Crash
                                      October 1929




                                     The Bubble Bursts:
                                    Shock Waves Markets
                                      Fear, Uncertainty,
                                        Anxiety Grips
                                          Investors


   A vision conceived by F. D. Roosevelt, the leader of financial stewardship, via a

newly anointed regulatory agency, the Securities and Exchange Commission (―SEC‖)

was humbly born out of the Great Depression. The objective of the SEC was to restore

public trust and balance the turbulent markets. The Securities Act of 1933 (―Act of ‘33‖)

and the Securities Exchange Act of 1934 (―Act of ‘34‖), which created the SEC, focused

on providing investors with more reliable information, disclosures, and fair dealing rules.


   Today, the SEC continues to search for initiatives that provide optimal transparency of

publicly traded firms to the various stakeholders of the publicly traded organization.

Topping the wish list of initiatives of the SEC is digitalization of financial filings.

Perennial flavors of past, present, and future SEC initiatives include the beckoning cry

for ever greater transparency and auditor independence. Both initiatives are great in

theory but have been slow in materializing and elusive to quantify and enforce.



                                                                                              4
   III.    Hypothesis: The SEC Ineffective at Regulating Complex Markets, SROs
           are Conflicted, and Stronger Independent Regulatory Oversight Needed

   This topic paper will explore the SEC‘s origins, its record of effectively regulating

complex capital markets highlighted by selected cases that point to fallibility within the

current regulatory model, and anticipated changes to avoid future mega financial

meltdowns.    Black Monday, October 19, 1987, when the Dow lost 22.6% of its value in

a day, the NASDAQ burst of the nineties, or the 2008 subprime mortgage crisis are

infamous dates in history the financial markets would like to avoid repeating again.

   Morals and professional stewardship vacillate over time and profound fiscal melt

downs that headlined the last decade impregnates the public‘s impression that both of

these virtuous attributes are trending unfavorable and corporate stewardship is following

suit. Two common fallacies of corporate scandals in the twenty-first century include

auditors‘ misconceptions of their professional allegiances and duties, and intermittent

ownership of financial information. The zeitgeist for irrational exuberance and mega

financial mayhem was born. A poorly regulated macro environment coupled with weak

corporate governance within a micro economy, a specific industry or company, yields

fertile ground for white collar crime with major economic repercussions to germinate.

   This paper is going to support the view that independent oversight is critical to

maintain public trust in global capital markets. This paper is operating on the premise, as

is evident by the case studies to follow, that the SEC is ineffective at regulating complex

markets, the SRO‘s are conflicted, and stronger independent oversight is needed to

support the market demands of a global network and to protect the public interest.

   a. Case Studies: Does the Trend in Current Litigation Support the Need for
      Independent Oversight?


                                                                                              5
      Taking a stroll down memory lane, reminds us of some of the significant corporate

meltdowns and shareholder litigations that resulted in billions of lost market wealth. Past

litigation, like current litigation, often is a result of a failure in regulatory oversight

coupled with unresponsiveness to changing industry conditions and market trends that

foreshadowed the trouble. Current market meltdowns and litigation are more

interdependent, a horizontal network linked globally, thus complex economic woes.

      A sample of the significant meltdowns in the early 2000 era, which were often global

in scope, reveals the morals of the marketplace and the ethical temperature of the

business climate. In spite of recent legislation, like SOX, the corporate governance

standards were not taken seriously in the marketplace and jail sentences were not a

deterrent from continued large scale securities fraud, like the greatest heist on record, the

subprime meltdown and resulting litigation. Sudden and substantial stock losses sent

panic through the heart of the investment community, indicative by the recent losses in

2008 that are estimated at $1.3 trillion from S&P 500‘s financial organizations2 thus

leaving many investors nervous and jittery. Let us begin our journey into corruption:

i.         Global Crossing: A Horizontal Collaboration Leads to a Telecom Bust




       The promise of a new technology, providing high speed fiber optic cable and internet

lines with a global network platform that was forecasted with revenues skyrocketing.

Investors poured billions into the telecom industry of which Global Crossing is a key

player, only to fall prey to the morals of the marketplace. The real motive behind this

2
    Joe Bel Bruno, Crisis wipes $1 Trillion from Financial Stocks, http:// www.money.cnn.com, (last visited
    July 7, 2008).
                                                                                                              6
stock loss was portrayed as excessive speculation coupled with fraudulent accounting

practices, tolerated by a horizontal collaboration3 amongst networked players.


       In February 2002, it became public that Global Crossing and their partners, engaged

in network capacity "swaps" with other carriers to inflate revenue, therefore knowingly

promoting a mega-million accounting fraud.4 The company, or its agents, was also

alleged to have shredded documents which included documents related to the accounting

practices of Arthur Andersen, LLP (―Andersen‖).5 These "capacity swaps", in which

carriers exchange capacity in complementary parts of the world without actually

exchanging money, even though the swap is shown as revenue, it allows a company a

quick method of increasing earnings to make a company look more profitable on paper.6


      Investors filed securities litigation and satisfied the loss causation requirement for

stating a securities fraud claim under § 10(b) through allegations that two minority

shareholders of corporation, Microsoft Corporation (―Microsoft‖) and Softbank

Corporation (―Softbank‖), agreed to purchase $200 million of bandwidth on the

corporation's newly formed telecommunications network, without intent to do so, that

commitment artificially inflated the price of Global Crossing‘s stock, and that investors

would not have purchased stock, or purchased it at an inflated price, but for false

commitment.7 Securities Exchange Act of 1934, § 10(b), 15 U.S.C.A. § 78j(b). As in this


3
  For this paper, horizontal collaboration is defined as a horizontally linked, group of individuals or
corporate citizens, who cooperates with a potential competitor or ally alike to achieve a mutual benefit.
4
  Penelope Patsuris, Accounting: The Corporate Scandal Sheet, http:// www.forbes.com, ( last visited
August 26, 2002).
5
  Id.
6
  BBC News, Global Crossing Defends Business Deals, http://www.bbcnews.bbc.com, (last visited March
21, 2002).
7
    In re Global Crossing, Ltd. Securities Litigation, 471 F.Supp.2d 338, S.D.N.Y., 2006.
                                                                                                            7
case, ―the elements of loss causation are (1) that the market reacted negatively to a

corrective disclosure regarding the falsity of prior statements relating to Microsoft's and

Softbank's agreement obligations; or (2) that risks that were concealed by the alleged

misrepresentations or omissions materialized and proximately caused plaintiffs' loss.‖8


      Ultimately, Global Crossing filed for Chapter 11 at the demise of the shareholders and

creditors left with the debt. A class action was filed that later settled for around $450

million, and Citigroup paid $75 million with others totaling $100 million. This is a

horizontal collaborative network, with SOX violations lurking amongst them,

foreshadowing a telecom financial bust. In this case, the Morals of the Market were

dominated by conflicted players who operated under the greed is good theory. The

humbled telecom giant richly details the conflict-of-interest offenses committed by a

former accounting executives and scads of internal-control issues.9 A former vice

president of Global Crossing allegedly awarded a contract to a company owned and

controlled by his son; a similar controversy as when he was singled out in a government

filing for conflicts of interest several years ago.10

      SOX requirements under Title IV-Enhanced Financial Disclosures, Section 401,

Disclosures in Periodic Reports,11 requires additional disclosures in Section 13 of the


8
    Id at 348.
9
    Stephen Taub, Global Double Crossing? Global Crossing‟s New Annual Report is Replete with Details
     About its Warts, http:// www.CFO.com, (last visited December 10, 2003).

10
  Id. Background: In the annual report, is a contract with Perrone Jr. company, Withit.com, hired to co-
market a product with Global Crossing for the financial services industry. For the services, Global Crossing
paid Withit $740,000 but due to budgetary constraints and strategy change, the project was cancelled. In
April 2002, an independent committee of Global Crossing‘s board revealed Perrone influenced the contract
decision with Withit inappropriately, resulting in a $325,000 penalty, and duties reassignment.


11
     Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).
                                                                                                               8
Securities Exchange Act of 1934 (15 U.S.C. 78m) is amended by adding the following:

(i) Accuracy of Financial Reports, and; (ii) Off-Balance Sheet Transactions. The key

point here is that each annual and quarterly report must disclose, if material, all off-

balance sheet transactions and other relationships that can impact the current or future

financial statements of the issuer. The SEC is charged with examining the off-balance

sheet disclosures to determine the extent of the off-balance sheet transaction and that

GAAP rules are reflecting these off-balance sheet transactions to investors transparently.

Pro forma financials are to be presented in a manner as not to contain an untrue statement

or omit a material fact that if known would make the pro forma misleading.


      In applying a SOX lesson to Global Crossing, one could say the periodic disclosures

failed to adequately disclose material off-balance sheet transactions. The failure to fully

disclose the nature and extent of these contract swaps, resulted in significant investor

losses. What really happened, according to several experts, Global Crossing's woes are

largely a reflection of an industry wide problem.12 Everyone overestimated the demand

for these networks; there was a general presumption that the Internet was doubling every

three months.13 "People were building fibers believing that was the right forecast.14‖ The

periodic disclosures include current and future expectations as do investor expectations

so the pro forma financials were misleading to investors.


ii.       Enron Case: A Horizontal Collaboration led to Wide Spread Corruption




12
   Wharton.com, Corporate Fraud on Trial: What Have we Learned?,
http://www.knowledge@wharton.com, (last visited March 30, 2005).
13
   Id.
14
   Id.
                                                                                              9
      In October 2001, the public at large went into shock to learn, Wall Street Darling

Enron, was under investigation into what was one of the largest frauds in history.

Specifically, Enron boosted profits and hid debts totaling over $1 billion by improperly

using off-the-books partnerships or Special Purpose Entity‘s (SPEs); manipulated the

Texas power market; bribed foreign governments to win contracts abroad; and

manipulated California energy markets.15 Enron around$68 billion in market value before

it collapsed in 2001, wiping out jobs and $1 billion in retirement funds overnight.16

      A securities class action alleging insider trading was filed against current and former

directors and officers of Chapter 11 Enron, and their auditors Andersen, seeking

compensatory damages, imposition of a constructive trust, and other damages.17 ―The

complaint alleges violations of section 10(b) of the Securities Exchange Act of 1934

(―the 1934 Act‖), 15 U.S.C. § 78j(b), and Rule 10b-5 against Enron, certain of its officers

and directors, and independent auditors, Andersen.‖18 ―The suit further alleges violations

of section 20(a) of the 1934 Act, 15 U.S.C. § 78t against individual defendants Kenneth

Lay, Jeffrey Skilling, and Andrew Fastow, and charges negligent misrepresentation by all

defendants.‖19 In the end, ex-Enron executive Kopper pled guilty to felony charges,

Skilling, Fastow and his wife get prison time, and the list goes on. The acting CEO, was

potentially faced with $100 billion in claims and liabilities thus, forcing Enron into




15
     Penelope Patsuris, Accounting: The Corporate Scandal Sheet, http:// www.forbes.com, ( last visited
      August 26, 2002).

16
  Bloomberg News, Enron jury to consider 'deliberate ignorance', Ruling echoes WorldCom case,
http://www.boston.com, (last visited May 11, 2006).

17
   In re Enron Corp. Securities Litigation, 206 F.R.D. 427, 432 S.D.Tex., 2002.
18
   Id. at 438.
19
   Id. at 438.
                                                                                                          10
Chapter 11. The Gatekeeper, Andersen, was tentatively guilty of obstruction of justice for

destroying Enron documents;20 unethical Gatekeeping devastated a partnership.




       Apparently, the Gatekeeper function was corrupted in Enron and is the cornerstone of

the accounting professions problem: Ethics. To be specific, ‖Gatekeepers include the

public auditing firms that opine on the propriety of corporate financial reporting with

reference to the accounting profession's own Generally Accepted Accounting Principles‖

(―GAAP‖).21 While realizing management, bankers, attorneys, and a host of others

participated in this great collapse; the accountants have a duty to disclose and

professional responsibilities under SOX. The Enron auditors were less than candid as the

case unfolded, auditor Andersen said it had learned of ''the deletion of thousands of e-

mails and the rushed disposal of large numbers of paper documents'' after a meeting.22 Is

deliberate ignorance used to escape requisite consciousness?

       A striking legal term, deliberate ignorance, introduced while instructing jurors during

Kenneth Lay and Jeffrey Skilling‘s trial, asking whether the former executives



20
  Oddly, in a 9-0 opinion, the Supreme Court overturned the Andersen conviction, concluded that "jury
instructions at issue simply failed to convey the requisite consciousness of wrongdoing." Chief Justice
Rehnquist wrote the opinion, saying, "Indeed, it is striking how little culpability the instructions required."

21
     David Millon, Who "caused" the Enron debacle?, Washington and Lee Law Review, (Winter 2003).

22
  Richard A. Oppel Jr. and Kurt Eichenwald, Enron‟s Collapse: The Overview; Arthur Andersen Fires an
Executive for Enron Orders, New York Times, January 16, 2002.

                                                                                                                  11
deliberately ignored accounting fraud as the energy trader fell into bankruptcy.23

―Deliberate ignorance occurs when knowledge of the existence of a particular fact is an

essential part of an offense, such knowledge may be established if the person is aware of

a high probability of its existence, unless he actually believes that it does not exist.24 In

other words, a person acted 'knowingly' if either: (1) the person actually knew a particular

fact; or (2) that he deliberately closed his eyes to what he had every reason to believe was

the fact. However, the requisite proof of knowledge on the part of the person cannot be

established by merely demonstrating that he was negligent, careless or foolish.25


      SOX requirements under Title VIII-Corporate and Criminal Fraud Accountability Act

of 2002, is the section primarily focused on destruction, alteration, or falsification of

records in federal investigations and bankruptcy proceedings under § 1519 and § 1520.26

It is a felony to knowingly destroy documents or to impede, obstruct, or influence any

existing or future federal investigation. The auditors are required to maintain all audit or

work papers for a period of five years. A Gatekeeper function of the auditors is to ensure

that the financial records and supporting work papers are available for pending or current

investigations and litigation unlike Andersen who actively destroyed evidence of Enron.

      In applying a SOX lesson to Enron, one could say it is difficult for shareholders to

prove the culpability standard of ―knowingly‖ destroyed or…impede…federal

investigation. The deliberate ignorance theory is a great defense to a reasonable doubt


23
  Bloomberg News, Enron jury to consider 'deliberate ignorance', Ruling echoes WorldCom case,
http://www.boston.com, (last visited May 11, 2006).

24
  Jessica Kozlov- Davis, A hybrid approach to the use of deliberate ignorance in conspiracy cases, MI L.R.
(Nov. 2001).
25
     Id.
26
     Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).
                                                                                                             12
evidentiary threshold standard. Enron had a horizontal collaboration, aided and abetted

by many professionals, in their quest to hobnob with the Wall Street Darling. When the

executives were caught, they claimed ignorance of the law in hopes of leaving a

reasonable doubt in the jury‘s minds as they claim they lack the requisite culpability for a

conviction. The Morals of the Market guided Enron into bankruptcy.


iii.      Tyco Case: ―Greed is Good‖ Operand

       White collar crime became sexy with the 1987 film, Wall Street, where Gordon

Gekko uttered the phrase, ―Greed is good‖ to stockholders and it seemed cool to be above

the law. The corporate greed motto became a hallmark of Wall Street, an excerpt:




                                       “The new law of evolution in corporate America
                                       seems to be survival of the unfittest. I am not
                                       a destroyer of companies. I am a liberator of
                                       them! The point is, ladies and gentleman, that
       Gordon Gekko Figure CEO         greed -- for lack of a better word -- is good.
             “Wall Street”
              1987 Movie               Greed is right. Greed works. Greed clarifies,
         Michael Douglas Actor         cuts through, and captures the essence of the
                                       evolutionary spirit. Greed, in all of its forms --
                                       greed for life, for money, for love, knowledge -
                                       - has marked the upward surge of mankind.

                                       And greed -- you mark my words -- will not only
                                       save Teldar Paper, but that other
                                       malfunctioning corporation called the USA.”




       Gordon Gekko: Address to
       Teldar Paper Stockholders
                                                                                               13
The recent meltdowns are reflective of this mindset, from management to board rooms

surrounded by accountants willing to turn a blind eye, conflicted bankers, and attorney‘s

who mistake zealous advocacy with breach of professional responsibilities. Almost in

unison, the notion of pay-for-performance and stock options entered the corporate scene,

which in many cases, led to the conflicted management whose quest for greed was so

good that legality takes a backseat. ''This is the first corporate greed case,'' said John J.

Fahy, a former federal and New Jersey prosecutor, referring to the Tyco case and their

auditors PricewaterhouseCoopers (―PwC‖).27


     Around May 2002, the news broke nationwide, that Ex-CEO Dennis Kozlowski was

indicted for tax evasion.28 The SEC investigated whether Tyco was aware of his actions,

unethical behavior such as, improper use of funds and related-party transactions, as well

as improper merger accounting practices.29 Tyco‘s response, a delay tactic, was that it

will not certify its financial results until after an internal investigation is completed.30


                                              C-Suite Collusion Circle Broken
                                              Ex-Tyco CEO Dennis Kozlowski & CFO Mark Swartz
                                              received 8-1/3 to 25 years in prison for his part in
                                              stealing hundreds of millions of dollars from the
                                              manufacturing conglomerate. Judge Obus ordered
                                              Kozlowski and Swartz to pay $134 million back to Tyco,
                                              and Kozlowski was fined $70 million and Swartz $35
                                              million; totaling $239 million.



     Later in a scene from a crowded New York state courtroom, the prosecution had asked

for the maximum penalty of 15 to 30 years for both men, while Kozlowski's defense had



27
    Andrew Sorkin, Tyco‟s Ex-Chief Going to Court In “Greed Case”, New York Times, September 29,
2003, p.1 .
28
    Penelope Patsuris, Accounting: The Corporate Scandal Sheet, http:// www.forbes.com, ( last visited
    August 26, 2002).
29
   Id.
30
   Id.
                                                                                                         14
focused on his character as a "family man.31" In brief, shareholder plaintiffs allege that

during the class period of December 13, 1999, through June 7, 2002, defendants

misrepresented the value of several companies that Tyco acquired and misreported Tyco's

own financial condition in ways that artificially inflated the value of Tyco stock.32 These

fraudulent accounting practices, plaintiffs allege, enabled the individual Tyco defendants

to reap enormous profits by looting the company through a combination of unreported

bonuses, forgiven loans, excessive fees, and insider trading.33 The looting, in turn,

allegedly fostered a cover-up by means of continued accounting fraud, materially false

and misleading statements, and the omission of material information in various

registration statements to cover up the misconduct, all of which further violated the

federal securities laws.34 Meanwhile, PwC allegedly failed to conduct its audits of Tyco

in accordance with Generally Accepted Auditing Standards and falsely certified that

Tyco's financials were fairly presented in accordance with GAAP.35


     In June 2005, Kozlowski and Swartz, both appealing, were found guilty on 22 counts

of grand larceny and conspiracy, falsifying business records and violating business law.36

That verdict came after the first trial against Kozlowski and Swartz ended in a mistrial in

April 2004 when a juror waiting for an acquittal reported receiving threats.37 In the first

trial, prosecutors focused on the misuse of other peoples money, such as a $2 million



31
    Grace Wong, Kozlowski gets up to 25 years, Mark Swartz, former Tyco CFO, also gets 8-1/3 to 25;
       both men fined, handcuffed, sent to jail, http:// www.money.com, (last visited September 19, 2005).
32
   In re Tyco Intern., Ltd. Multidistrict Litigation, 535 F.Supp.2d 249, 252-53 D.N.H., 2007.
33
   Id.
34
   Id.
35
   Id.
36
    Grace Wong, Kozlowski gets up to 25 years, Mark Swartz, former Tyco CFO, also gets 8-1/3 to 25;
       both men fined, handcuffed, sent to jail, http:// www.money.com, (last visited September 19, 2005)
37
   Id.
                                                                                                             15
birthday party Kozlowski threw for his wife on the Italian island and $6,000 shower

curtain purchased with company funds.38


       Around May 16, 2007, Tyco said it would set up a $2.975 billion fund to pay

shareholder claims against the company arising from actions by ex-CEO Kozlowski and

other officers convicted of looting the company and falsely records.39 Tyco provided 80

million e-mails, spreadsheets and other documents as part of discovery, Plaintiffs'

attorneys employed data-mining techniques, and conducted 200 depositions to sift for

evidence showing that fraud had caused the value of Tyco's stock to drop precipitously.40

The SEC seemingly misunderstood the complexity of corruption, which can only be

found when peeling the onion of conflicts of interest and lack of independence, exhibited

by those with a duty to the profession but prefer the loyalty to their client, such as PwC.


      Flash-forward to July 2007, PwC has agreed to pay $225 million to settle fraud claims

relating to the Tyco International securities class-action suit, according to attorneys for

the plaintiffs.41 A suit was filed in New Hampshire federal court alleging that PwC, as

Tyco‘s auditor, failed in its auditing duties.42 The settlement with PwC, combined with

the Tyco settlement, brings this class-action settlement to around $3.2 billion. 43 The




38
     Id.

39
   Author Unnamed, Tyco to pay nearly $3 billion to settle fraud case claims, Desert News (Salt Lake
City, UT), May 16, 2007.

40
     Chris Mondics, Tyco case very complex, lawyer says, The Philadelphia Inquirer, May 2007, pg. 1.

41
    Ashby Jones, PwC reaches $225 Million Settlement In Tyco Case, Wall Street Journal Law, July 6,
2007, pg. 1.
42
   Id.
43
   Id.
                                                                                                       16
moral of the story regarding the greed is good mantra: ―Watch out! Be on guard against

all kinds of greed; a man‘s life does not consist in the abundance of his possessions.‖44


      The SOX requirement under Title IX: White Collar Crime Penalty Enhancement is

primarily focused on financial certification by the CEO and the CFO, sentencing

guidelines, tampering or impeding with any official proceeding, and the SEC prohibiting

anyone convicted of securities fraud from being an officer or director of a publicly traded

company.45 In applying a SOX lesson to Tyco, the C-Suite refusal to certify the financials

until after the investigation should raise red flags and auditor suspicion. Interestingly, the

―blind guise‖46 network seems to exist within the bazaar web of relationships with

complexity and legal underpinnings that only sophisticated individuals can decipher.

      Case in Point: At Tyco, PWC-Bermuda signed all of the audit opinions attached to

Tyco‘s financial statements for the 1997- 2001, and was responsible for the report content

but oddly, PWC LLP performed the majority of Tyco‘s audit work.47 Most of Tyco‘s

accounting services were performed by PWC LLP‘s Boston office, headed by partners

Rick Scalzo and John O‘Connor.48 Nevertheless, PWC-Bermuda played a major role in

performing the accounting services in question, including signing all of the audit reports

issued by the PWC Defendants between 1997 and 2002.49 In regards to the audit reports,

however, PWC LLP maintained content control over PWC Defendants‘ public statements




44
   Luke 12.15.
45
   Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).
46
   For this paper, blind guise network is defined as a network or affiliation of those who knew or should
have known about the ethical lapses within the accounting profession or companies, but chose to turn a
blind eye or engage in self-gratifying behaviors such as self-promotion.
47
     In re Tyco Intern., Ltd. Multidistrict Litigation, 535 F.Supp.2d 249 D.N.H.,2007.
48
     Id.
49
     Id.
                                                                                                            17
concerning Tyco‘s operations.50 PWC-Bermuda only issued audit reports after long

discussions and being directed to do so by PWC LLP.51 In the absence of auditing work

performed by PWC LLP or PWC LLP‘s express instructions to issue the audit reports,

PWC-Bermuda would not have done anything without instruction52 This appears to be

―deliberate ignorance‖ in action but due to the complexity of these transactions it appears

to be more of ―deliberate intent‖; settlement value indicates something happened.

iv.       Parmalat Dairy Disaster: Lack of Transparency & Price Fixing Disclosures in the
          Dairy Industry
                                        ELSIE the COW LEGENDARY ICON
                                       Elsie is one of the Top 10 advertising
                                        icons of all time by Advertising Age

      In the dairy industry, unlike securities regulators who are promoting transparency, anti

trust regulators are concerned that transparency of key metrics leads to price fixing thus

harming consumers. The tradeoff here is that investors demand increased transparency to

reduce risk, while consumers demand concealed metrics in fear of collusion amongst the

industry players, thus leading to higher prices at the cash register.

      In Johannesburg, prosecution procedures into alleged price-fixing by certain South

African milk producers and if the competition commission gets its way, the key players

in the dairy industry face an administrative penalty for anti-competitive behavior that

could exceed $100 million, following an investigation that revealed evidence of collusion

in 2006.53 The commission found evidence of price fixing after an investigation,

beginning in February 2005 against seven dairy processors; the tribunal found evidence




50
   Id.
51
   Id.
52
   Id.
53
    Ann Crotty, Dairy Firms Face $100m fine in price fixing probe, Business Report, December 8, 2006,
pg. 86.
                                                                                                        18
of price fixing for raw and retail milk and that trading conditions were manipulated.54

The seven companies cited, including Parmalat, are collectively charged with exchanging

sensitive information on procurement prices of raw milk in various ways.55 The

commission said that the exchange of sensitive pricing information enabled competitors

to co-ordinate their pricing strategies to fix the purchase price of milk.56 The Congress

SA Trade Unions stated it was "absolutely outrageous that people can be profiteering

from the sale of such basic foods as bread and milk, on which the poorest families spend

such a high proportion of their small incomes.57

     The beginning of the end of Parmalat, price fixing can easily lead to securities

disclosure issues in the areas of contingent liabilities, unethical behavior, fraud, collusion,

and other socially undesirable behaviors. In the case of Parmalat, the shareholders are the

ones left holding the bankruptcy bag in the end. Although price fixing is desirable

initially to stock prices, generally the lack of disclosure of the monopoly pricing and

profits leads to later busts. These ill begotten gains are often funded by unsuspecting

shareholders due to a lack of adequate disclosure in the contingent liabilities.

Interestingly, sophisticated looters can buy stock positions, with insider knowledge of

monopoly profits, seek lofty stock gains, and sell when the regulators are near.


     In February 2008, the trial involving Parmalat, began almost five years after the Italian

dairy company collapsed, and one of Europe's biggest accounting scandals.58 A separate

Milan trial, of the ongoing fallout of Parmalat‘s collapse, involves five major foreign

54
   Id.
55
   Id.
56
   Id.
57
    Author Unknown, Milk-Price Fixing Prosecutions To Get Underway Eight Dairy Companies
   Investigated, Sapa, Jan 30, 2008, pg. 1.
58
    Kevin Reed, GT battles insurers over Parmalat liability cover, Accountancy Age, 07 Feb 2008, pg. 1 .
                                                                                                           19
banks which includes; Citigroup, Inc. (―Citigroup‖), Morgan Stanley, Bank of America,

UBS and Deutsche bank,59 as these investment banks face charges over their involvement

in the collapse. The banks are accused of share price manipulation because they allegedly

knew Parmalat was bankrupt but continued to lend it money.60 Actions were brought on

behalf of the successors of two bankrupt subsidiaries against many banks and accounting

firms for concealing the parent's true financial condition, thus causing the subsidiaries to

incur debt in reliance on misrepresentations of parent's financial health.61

     Citigroup will be facing trial in the United States over accusations of helping corrupt

insiders at Parmalat, to siphon off funds from the company before its collapse in 2003.62

Bondi's attorney, Kenneth Chiate accused Citigroup of greed, cover-up, concealing of

loans, and hiding corruption in order to support an exit strategy.63 Citigroup has been

accused of designing a series of off-balance sheet transactions that helped Parmalat raise

cash while making it appear that the company was not taking loans.64 Those transactions

created opaque financial disclosures that disguised the looting at Parmalat, Chiate said,

adding, "They helped them doctor the financials by concealing the loans.‖65 It appears the

regulators failed to realize the extent of the horizontal network collusion that runs

through the veins of corporations and their business partners in the U.S. and abroad.66




59
   Id.
60
   Id.
61
   In re Parmalat Securities Litigation, 501 F.Supp.2d 560, S.D.N.Y., 2007.
62
    Citigroup facing trial in $2 billion Parmalat fraud case new, May 20, 2008
63
   Id.
64
   Id.
65
   Id.
66
   Id.
                                                                                               20
     The accounting industry is fully entrenched in a scandal, Grant Thornton International

(―Thornton‖), faces a £5bn claim from Parmalat, which accuses Thornton of an active

role in directing and looting the company.67 The writ states: ―Grant Thornton and

Parmalat insiders hid losses and diverted funds to themselves.68‖ ―However Parmalat

alleges fake credit and loan notes were written, a web of fake front companies were

created, and that many of these were based in Thornton offices around the world, and in

some cases with its accountants acting as directors.‖69 The Parmalat has partially settled

this year with Deloitte‘s £57m settlement proposal put forward to Parmalat

bondholders70. In the long run, be certain that, ―There is nothing concealed that will not

be disclosed or hidden that will not be made known.71‖


     SOX requirements under Title IV-Enhanced Financial Disclosures, Section 402,

Enhanced Conflict of Interest Provisions,72 primarily focused on extending preferential

treatment of credit or loans to any director or officer. The transaction, if it is completed,

must be done in the ordinary course of business on the same terms and conditions made

to the general public. The SOX lesson to be applied here is that conflicted fiduciaries,

auditors, and bankers can lead to a complete lack of independence and a complete

corporate governance collapse as in Parmalat. The accounting profession has created this

enterprise culture concept promoting it‘s many benefits such as collaboration or global

networking. However, a paper recently released in the accounting world, one that aims to




67
   GT battles insurers over Parmalat liability cover, Accountancy Age, Kevin Reed, 07 Feb 2008.
68
   Id.
69
   Id.
70
   Id.
71
   Luke 12.2
72
   Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).
                                                                                                  21
argue that the enterprise culture, often warmly referred to as the ‗network‘73 is producing

negative effects.74 Companies and major accountancy firms are seemingly willing to

improve their profits through participation in price fixing, tax avoidance, tax evasion,

bribery, corruption, money laundering and practices that show scant regard for social

norms and even laws.75 Evidence shows accounting firms are engaged in anti-social

behavior, such as; social responsibility, ethics, accountability, professionalism, and

crime.76 In their pursuit of higher profits, these accounting firms have allegedly operated

cartels that facilitated civil or criminal acts against the public, not in their best interest.77


v.       AIG: Lacks Full Disclosure and Transparency




     A recent ad for PwC features a pair of sunglasses, inspiring professionals to join their

club to let the sunshine in for transparency: the Sunshine Club. What is not so transparent

is that the Sunshine Club stands to benefit nicely in consulting and professional services,

which leads to ethical lapses and independence issues.


     In May 2008, the SEC announced the start of the process that will return more than

$800 million in Fair Funds to harmed investors in AIG which settled SEC charges of
73
  Network is used in this text as in business, professional, and personal relationships that are formed by co-
dependency on each other for their very existence. Networks are an intangible asset that cannot easily be
measured but is critical in business development, speaking engagements, book contracts, and consulting
opportunities. Accounting firms sometimes classify themselves as a networked enterprise for business
purposes.

74
  Prem Sikka, Enterprise culture and accountancy firms: new masters of the universe, Accounting,
Auditing & Accountability Journal, Year: 2008, Volume: 21, Issue: 2 @ 268 – 295.

75
   Id.
76
   Id.
77
   Id.
                                                                                                                 22
financial fraud and improper financial reporting and disclosure over a four-year period.78

On Feb. 9, 2006, the Commission filed a complaint alleging that from at least 2000 until

2005, AIG materially falsified its financial statements through a variety of sham

transactions and entities and that AIG reported materially false and misleading

information about its financial condition.79

     In 2008, AIG had also recently confirmed that the SEC and the Justice Department are

probing its valuation of financial instruments in the company's credit default swap

portfolio and looking at whether AIG purposely overstated its value of mortgage-related

instruments:80 Long-Term Greed? The critical question is whether AIG and its financial-

products division intentionally overstated the value of contracts linked to subprime

mortgages.81 Sullivan had taken over as CEO of AIG in March 2005 after long-time

chairman and CEO Maurice R. Greenberg was forced to resign following the revelation

of accounting irregularities and AIG‘s stock price battered down.82


     In 2007, American International Group Inc (―AIG‖) shareholders renewed claims in a

derivative action on behalf of shareholders against the company's auditor, PwC, and

about four dozen other individuals and companies, seeking to hold them liable for a




78
  SEC.com, SEC Announces Start of Distribution Process in AIG Settlement; Court Approves
Distribution Plan for $800 Million Fair Fund, http:// www.sec.gov., (last visited May 5, 2008).

79
   Id.
80
    Trading markets.com, Willumstad Replaces Sullivan as AIG's CEO, http:// www.tradingmarkets.com,
     (last visited June 16, 2008).
81
    Randall Smith , Amir Efrati, & Liam Pleven, AIG Group Tied to Swaps Draws Focus of Probes, Wall
     Street Journal, , June 13, 2008, pg. 1.
82
    Trading markets.com, Willumstad Replaces Sullivan as AIG's CEO, http:// www.tradingmarkets.com,
     (last visited June 16, 2008).
                                                                                                      23
financial restatement and a $1.64 billion regulatory settlement.83 AIG shareholders

previously sued in 2004, naming former Chief Executive Maurice "Hank" Greenberg,

former Chief Financial Officer Howard Smith, PwC and others as defendants.84 In the

amended complaint, the shareholders seek damages from PwC and others, including

Marsh & McLennan Cos, and AIG directors and officers.85

      While the board of directors stated that PwC remains independent, the shareholders do

not share this same view and assert breach of duty and negligence. It appears that PwC‘s

recent sunglass advertisement is deceptive as it promotes transparency, except if it is for

their clients, then a pair of blind guys sunglasses are provided to company management

so they can claim ignorance of any wrongdoing. Proving culpability is difficult and the

ignorance theory has been an effective defense in prior cases. In this case, the

shareholders came to terms in February 2006, a $1.64 billion civil settlement with state

and federal regulators, over alleged accounting improprieties.


           AIG‘s board of directors maintained healthy skepticism with AIG‘s accounting

methods, and had trouble with PwC, the auditors; and for years, the audit committee said

that it couldn't vouch for AIG's accounting.86 As reported in an annual corporate filing,

the audit committee's oversight did "not provide an independent basis to determine that




83
  Re the auditors.com, Author Unknown, Re: The Auditor, October 1, 2007, AIG Shareholders Sue PwC,
http://www.retheauditors.com, (last visited October 1, 2007).
84
     Id.
85
     Id.

86
   Washingtonpost.com, Accountants Missed AIG Group's Red Flags, http://
www.accounting.smartpros.com, (last visited May 31, 2005). Separately, for years,
PricewaterhouseCoopers LLP gave a clean bill of financial health to American International Group Inc.,
only to watch the insurance giant disclose a long list of accounting problems this spring.


                                                                                                         24
management has maintained appropriate accounting and financial reporting principles nor

could they assure that PwC was in fact ―independent.‖87 AIG's audit committee's

disclaimer has found its way into a 224-page lawsuit filed by Ohio's attorney general

accusing AIG of securities fraud and PwC turned a blind eye to key warning signs and, as

a result, repeatedly issued "false and misleading" audit reports of the insurer's books.88

The complaint says that PwC knew of or "recklessly disregarded" myriad "illegal" and

"improper" accounting irregularities, including the $500 million so-called finite

reinsurance transactions with General Re, which has drawn the attention of regulators.89

Ohio Attorney General Office is awaiting "more details about PwC's involvement" when

AIG issues its thrice-delayed 2004 annual report, to be released on May 31 with a

restatement of financial results dating to 2000.90 AIG said it would cut its net worth by

$2.7 billion, or 3 percent, because of a series of irregularities and mistakes.91


     PwC, a global giant with over 120,000 employees in 144 countries, which has sought

to market itself as an arbiter of corporate governance, but has failed to uphold it‘s own

standards has left them in an awkward public relations moment.92 In the wake of the

Enron bankruptcy, for instance, PwC CEO Samuel A. DiPiazza Jr. co-wrote a book,

Robert Eccles, "Building Public Trust," on how to improve public companies' financial

reporting.93 Apparently PwC, like other major accounting firms, has had a few run-ins

with regulators.94 PwC paid $5 million to SEC regulators in 2002 for violating


87
   Id.
88
   Id.
89
   Id.
90
   Id.
91
   Id.
92
   Id.
93
   Id.
94
   Id.
                                                                                             25
independence standards by engaging in business deals with audit clients between 1996

and 2001.95 And a PwC partner, Richard Scalzo, in 2003 agreed to a lifetime ban from

auditing public companies in an effort to settle the Tyco case stemming from SEC.96

     SOX requirements under Title IV-Enhanced Financial Disclosures, Section 404,

Management Assessment of Internal Controls,97 requires that each annual report contain a

report over internal controls which shall:


         a. State the responsibility of management for establishing and maintaining
            adequate internal control process and procedures for financial reporting.
         b. Contain an assessment regarding the effectiveness of the internal control
            process and procedures for financial reporting.

The SEC requires each company to disclose whether it has adopted a code of ethics,

including the content of that code, for its senior financial officers. The code of ethics in

most organizations will cover areas such as conflicts of interest, lack of independence,

securities laws, anti-trust laws, and employment laws.


     The SOX lesson to be applied here is that it is this perceived lack of independence and

conflicted mentality that has led in part to the meltdown underway in the 2000 era;

consulting gigs are more important than professional ethics, and SOX has not slowed this

behavior substantially. The independent auditor‘s paychecks are tied to their clients‘

board of directors and management. However, management often approves the buying

decisions and subsequent payment to the auditors. This can leave the auditor in a

conflicted relationship with a tendency to interact with management on key issues, more




95
   Id.
96
   Id.
97
   Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).
                                                                                               26
so than they are able to effectively involve the shareholders who provide the capital to

fund these buying decisions albeit the board of directors serves this function.

vi.       Countrywide: Sub Prime Bust and Ethical Lapses, Lack of Transparency, and
          Conflicts of Interest

                                        Demonstrators hold signs in front of the
                                        Federal Reserve Bank in Los Angeles, CA April
                                        28, 2008. The demonstration was called to
                                        raise awareness of the housing market crisis
                                        during a public hearing on Bank of America's
                                        planned acquisition of Countrywide Financial.



     On November 28, 2007, a District Judge appointed the New York State Comptroller

and the New York City Pension Funds (―New York Funds‖) as lead Plaintiff‘s,98 a

consolidated class action asserting claims under the Securities Act of 1933 and the

Securities Exchange Act of 1934 against Countrywide Financial Corporation

(―Countrywide‖), certain of its current and former directors and officers, outside

accountants, and underwriters of public offerings of Countrywide securities during a class

period between March 12, 2004 and March 7, 2008.99

     ―Plaintiffs generally allege, among other matters, that Countrywide violated securities

laws by making false and misleading statements concerning Countrywide‘s business in

residential mortgages, and regarding the creditworthiness of borrowers, underwriting and

loan origination practices, loan loss and other accounting provisions, and by

misrepresenting high risk low documentation loans as being ―prime", violating GAAP,

and engaging in other false and misleading statements.‖100 A material portion of the

Company‘s loans was made to individuals on a ―no-documentation‖ or ―low-



98
   In re Countrywide Securities Litigation, No. CV-07-5295 (C.D. Cal.), 2008.
99
   labaton.com, In re Countrywide Securities Litigation,http:// www.labaton.com, (last visited August
2008).
100
    Id.
                                                                                                        27
documentation‖ basis, which means Countrywide gave ‗liar loans‘101 without requiring

traditional paperwork, such as income and/or employment or asset verification.102

      Countrywide reported the liar loans as ―prime‖ loans even when they were

substantially riskier than traditional prime loans, while repeatedly, and falsely, touting

Countrywide‘s conservative approach to lending, falsely assuring investors that

Countrywide would prosper as weaker companies fell by the wayside.103 Countrywide‘s

stock was artificially inflated by their false representations, and before the stock price

tanked, insiders received $867 million from Countrywide stock sales, in which CEO,

Angelo R. Mozilo (―Mozilo‖), received nearly half.104 In contrast, the decline in market

capitalization suffered by Countrywide investors was in excess of $25 billion and

bondholders suffered additional large losses.105


      Separately, a shareholder derivative action filed on behalf of Countrywide by pension

fund Plaintiff‘s, brought for the benefit of Countrywide, against certain of the Company's

senior officers and the members of its board of directors.106 This action alleges

misconduct by the defendants and disregard for their fiduciary duties, including lack of

good faith and lack of oversight of Countrywide's lending practices, financial reporting,

and internal controls, as well as the sale by certain of the Company's officers and




101
    The lending industry classified ―liar loans‖ because the reported income levels and assets are inflated or
misrepresented in order to obtain credit for loan.
102
    Id.
103
    Id.
104
    Id.
105
    Id.
106
    blbglaw.com, In re Countrywide Financial Corporation Derivative Shareholder Litigation
(United States District Court, Central District of California), http://www.blbglaw.com, (last visited July 22,
2008).
                                                                                                                 28
directors of over $848 million of Countrywide stock at inflated prices while in possession

of material inside information, between 2004 and 2008 during relevant litigation.107


      Countrywide‘s CEO Mozilo, was helping many ―Friends of Angelo‖, in obtaining

mortgages with allegedly preferential treatment, although not illegal, clearly not in the

shareholders best interest:108 misaligning the risk and return theory of investment. As the

mortgage market was wobbling last year, Mozilo intervened to help a daughter of a

casino manager and her fiancé borrow to buy a Nevada home that would have ordinarily

been disqualified to them.109 CEO Mozilo, a founder, made things worse by postponing

retirement and by making frequent, heavy sales of Countrywide stock.110 These actions

undermined confidence in the company, demoralized employees, drew the SEC into a

continuing investigation and a rash of lawsuits from investors, borrowers, and state

regulators.111 In June 2008, a civil lawsuit was filed by the California and Illinois attorney

generals alleging that Countrywide engaged in ―unfair and deceptive‖ practices that get

homeowners to apply for risky mortgages, clearly beyond their means.112


      In September 2007, Mozilo forecasted ―continued success and dominance‖ that

forecast was quickly shadowed by the $1.2 billion third quarter loss announced in

October 2007.113 By January 2008, Bank of America agrees to take over and in June 2008

the Countrywide shareholders approve a sale with the stock around $5 per share.114


107
    Id.
108
     James Hagerty & Glenn Simpson, Countrywide CEO Helped Many get Loans, Wall Street
     Journal June 27, 2008, pg. A3.
109
    Id.
110
     James Hagerty, Rainmaker Mozilo Exits Under a Cloud, Wall Street Journal, June 28-29, 2008, pg. B6.
111
    Id.
112
    Cnn money.com, Illinois to sue Countrywide, http://www.cnnmoney.com, (last visited June 25, 2008).
113
    Id.
114
    Id.
                                                                                                           29
Unfortunately, Countrywide agreed to sell to Bank of America in January for $4 billion

in stock but the value tanked to $2.8 billion, reflecting a decline in value of Bank of

America‘s stock over the last six months. A lawsuit was filed to block the sale of Bank of

America with settlement talks underway, at issue is between Countrywide and individual

shareholders who sued in Delaware‘s corporate-law court, challenging the price of the

company‘s sale to Bank of America.115 The settlement is troubling to pension funds, as a

settlement clause stipulates that the class-action lawsuit be dropped.116 A settlement

would stymie separate claims, where shareholders accuse the board of ignoring the value

of lawsuits against senior managers who they say profited personally while leading the

mortgage lender into financial distress through predatory lending and other practices.117

      SOX requirements under Title IV-Enhanced Financial Disclosures, Section 403,

Disclosures of Transactions Involving Management and Principal Stockholders,118

essentially requires disclosure of designated transactions within two business days for

directors, officers, and 10% owners. This means that Mozilo and the board members

liquidating their holdings while leading the public to believe that all is steady. The SOX

lesson to be applied here is and as the Complaint alleges, senior officers and board

members, entrusted with the responsibility of serving the best interests of shareholders,

had the greatest and deepest insight into the impending collapse of the subprime

mortgage market.119 While they continued to publicly tout the safety and security of the

company's mortgage lending practices and strategy, they liquidated their personal


115
     Peg Brickley, Countrywide Pact Nears Approval, Wall Street Journal, July 5-6, 2008, B6.
116
    Id.
117
    Id.
118
    Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).
119
     blbglaw.com, In re Countrywide Financial Corporation Derivative Shareholder Litigation
(United States District Court, Central District of California), http://www.blbglaw.com, (last visited July 22,
2008).
                                                                                                                 30
holdings as fast as possible.120 Indeed, Mozilo and the board caused Countrywide to

commence a $2.5 billion stock repurchase plan, fooling investors into believing the stock

was undervalued.121 Meanwhile, insiders were selling large portions of their stock into

the repurchase plan.122 The transactions and the intent was not transparent, thus insiders

walked away richer leaving the unsuspecting investor poorer.


vii.      Bear Stearns Evaporation: Financial Stocks Crushed by Liquidity Crisis




      Wall Street Powerhouse, Bear Stearns Cos. (―Bear Stearns‖)., an investment bank for

almost nine decades, ceased to exist in May 2008, in a meeting that lasted about eleven

minutes.123 To their horror, executives recall watching the firm‘s stock plunge as rumors

swelled of a liquidity crunch.124 The beginning of the end, a panic stricken 3 days, that

brought this powerhouse to its knees and threatened the stability of the global financial

system. The previous Sunday was no day of rest for the Board of Governors of the

Federal Reserve System who voted to create a lending facility to improve primary

dealer‘s ability to finance participants in securities markets.125 The Fed was approving a

deal for JP Morgan Chase & Co. to buy Bear Stearns at an announced acquisition price of



120
    Id.
121
    Id.
122
    Id.
123
     Kate Kelly, Mike Spector & Randall Smith, The Fall of Bear Stearns: Bear‟s Final Moment: An
Apology and no Lack of Ire, Wall Street Journal, May 30, 2008, pg. C1.
124
    Id.
125
     Susan Mangiero, Bear Stearns sold to JP Morgan- Real Pain for Employees, http://
www.pensionriskmatters.com, (last visited March 17, 2008).
                                                                                                   31
$2 per share, an economic fall from grace by most counts.126 Bear Stearns common

stock last closed at $30 and traded as high as $159, over the last year.127

      Litigation is underway with Pittsburgh law firm, announcing "possible illegal conduct

relating to the Bear Stearns Companies Inc. Employee Stock Ownership Plan, Profit

Sharing Plan and Deferred Compensation Plan.‖128 According to the March 14, 2008

press release, the firm is investigating whether identified plan fiduciaries knew or should

have known that Bear Stearns was concealing its large exposure to highly risky

Collateralized Debt Obligations (―CDO‘s‖), subprime mortgages, and other poor-quality

securities, within the it managed funds and were offered as low risk investments when

they were really not low risk.129


      This led federal prosecutors to arrest Bear Stearns hedge fund managers, Ralph Cioffi

and Matthew Tonnin, who allegedly lied to investors about their once giant portfolios.130

Prosecutors are fixated on the $4 billion in CDO‘s that the pair enlisted Bank of America

to guarantee and sell; leaving Bank of America with big losses and harmed investors.131

In June 2008, a SEC civil suit commenced, pointing to criminal charges, alleging the ex-

Bear executives persuaded Barclays to sink $100 million into the ailing funds in February

2007.132 The SEC suit highlights the $4 billion CDO deal with Bank of America, who




126
    Id.
127
    Id.
128
    Id.
129
    Id.
130
    Matthew Goldstein & David Henry, Bear Scandal: A Widening Probe, Business Week, July 7, 2008, pg.
22.
131
    Id.
132
    Id.
                                                                                                        32
was recruited to market and guarantee the complex pool of subprime securities, which

was needed for liquidity for the hedge funds that tanked weeks after the deal.133


      The SEC is also examining Bear Stearns‘ trading records, leading up to the company‘s

collapse, as shareholders assert that short sellers manipulated the market, meaning those

who borrowed shares in the hope the price will fall.134 U.S. Representative Barney

Frank, House Financial Services Committee chairman, is requesting the SEC to expand

its probe into whether any improper trading in investment banks‘ shares have occurred

recently.135 ―Bear Stearns executives say that short-sellers are part of the reason the firm

collapsed.‖136 ―They also blame circulated false rumors as a reason that customers

abandoned the investment bank, which resulted in its liquidity crisis‖.137 According to

Gary Aquirre, former SEC attorney and whistleblower, ―Likewise, the value investor has

no clue that an attractively priced small cap is on its way to bankruptcy via the naked

shorting of an $8 billion hedge fund.‖138

      SOX requirements under Title IV-Enhanced Financial Disclosures, Section 408,

Enhanced Review of Periodic Disclosures by Issuers,139 requires the SEC to review

disclosures on a regular and systematic basis for the protection of investors, not less

frequently than once every three years. What is less reassuring is that the SEC was

assured by Bear Stearns management, in their periodic disclosures, that they were a


133
    Id.
134
     Unknown Author, Villian Hunt in Bear‟s Cave, Wall Street Journal, May 29, 2008, @
Breakingviews.com/Financial Insight.
135
     U.S. Representative Barney Frank Calls on SEC to Widen Investigation of Improper Trading Rumors
Surrounding Bear Stearns‟s Stock, http:// www.stockbrokerfraudblog.com, (last visited April 21, 2008).
136
    Id.
137
    Id.
138
    Faulking truth.com, Gary J. Aguirre‟s, former SEC attorney and fired whistleblower, Sept. 2, 2005 letter
to Chairman Cox, www.faulkingtruth.com/Files/acquirre cox0623.pdf, (last visited June 25, 2008).
139
    Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).
                                                                                                               33
sustainable going concern. Unlike the economic busts of the past, where the damage was

contained quickly, the implosion of Bear Stearns is more toxic.140 A host of other banks,

broker dealers, and hedge funds have played the same game, deploying massive leverage

at the top of the credit bubble to get more profits.141 ―You have to go back to the banking

crisis of the Great Depression to find a moment when the financial system as a whole

seemed so close to the precipice.‖142 Panic selling is much swifter now with technology

and transparency. The Swiss bank, UBS, has suffered subprime losses on a scale to match

Merrill Lynch and Citigroup, thanks to mortgage related securities.143 Debt levels were

much higher than the Great Depression; the complexity of structured credit are more

opaque: the $415 trillion nexus of derivative contracts is not known.144


      What keeps Federal Reserve officials turning at night is fear that the "financial

accelerator" will now set off a vicious downward spiral in the markets and panic

selling.145 A global strategist at Societe Generale, said the toppling banks are merely a

symptom of a deeper rot that exists within the core of the system.146 "The problem is that

an economic bubble financed by ridiculously loose monetary policy is unraveling," said

Albert Edwards, global strategist.147 "US house prices have a lot further to fall, which

will simply crush the global economy.‖148 Troubling is that the SEC was investigating



140
   By Ambrose Evans-Pritchard, Bear Stearns exposed as a bank saddled with toxic sub-prime debt,
Telegraph.co.uk, March 16, 2008, pg. 1.

141
    Id.
142
    Id.
143
    Id.
144
    Id.
145
    Id.
146
    Id.
147
    Id.
148
    Id.
                                                                                                   34
Bear Stearns during the relevant period but dropped the investigation: ineffective

enforcement leads to market failure.


viii.     Case Study Conclusion: Is Past Litigation a Pathway to Independent Oversight?

      The past litigation that we have selectively reviewed above does have a common

theme to all cases, ethical lapses, corporate governance failures, lack of transparency, and

ineffective enforcement. Critical to the sustainability of robust capital markets is strong

public trust in the financial statements that underlie the stock certificates. Investors are

demanding more transparency in areas such as contingent liabilities, off-balance sheet

financing, executive pay, and other financial complexities that could pose a significant

risk to the business. The ethical foundation of this nation calls for a renewed interest in

strong corporate governance, enforced compliance with SOX act requirements,

sanctioned for unethical behavior, and an independent division for stronger oversight.

      Another common theme among the many case studies is their global presence,

interdependence, and a technologically integrated network that is capable of shaking

capital markets globally almost instantaneously due to the speed of information. A recent

CNN Money headline, ―Global Markets Plunge on U.S. Recession Fears,‖ as Asian and

European stock markets plunged January 19, 2008, amid investor pessimism over the

U.S. government‘s $150 billion economic-stimulus plan to prevent a recession.149 This

global interdependence seems to call for stronger transparent oversight, simply to assure

our foreign investors that their investments are safe, thus avoiding political warfare.

      What, if any, independent oversight is needed in these complex accounting and legal

constructions that only a room full of attorneys and accountants collaborating can attest

149
    Money.cnn.com, Global Markets Plunge on U.S. Recession Fears, http:// www.money.cnn.com, (last
visited January 21, 2008).
                                                                                                     35
to what is really happening. The creation of the PCAOB and SOX requirements is a

starting point to seek a deeper understanding of the latest regulatory overhaul and how it

resulted in market failure during the subprime meltdown. A more basic or implicit

problem is the malicious and greedy heart in business, combined with the Morals of the

Market, which shapes the ethical foundation for business and network exchanges.

      b. Inquire into the Specific Trends and Behaviors that Shape the “Morals of
         the Market” and Establishes an Integrity Baseline for Which all is
         Measured: Sarbanes-Oxley Act 2002

      The Morals of the Market is a term of endearment that is used loosely until one is

faced with a real professional ethical crisis with no good options but to hold onto one‘s

integrity in the face of the disillusion. Nobody felt that nightmare of disillusion more than

former consultant Keith Schooley, the rising star, who came to the Merrill Lynch in

search of a better future for his family, only to end up as the Lynch whistleblower.150 ―As

the public has so clearly learned in recent years, there are many problems within the

securities industry and investors are the ones being victimized,‖ said Schooley, who

worked at Merrill‘s Private Client Group from July 1991, until his controversial dismissal

in September 1992.151 ―I think it‘s safe to say that if Merrill Lynch has problems, it stands

to reason that the rest of Wall Street has problems, too. Frankly, this is a sad commentary

on the industry.‖152

      The Morals of the Market in this era has evolved around the Greed is Good

philosophy which tolerates selective enforcement of earnings management, ethical

violations, conflicts of interest, lack of independence, opaque transparency and


150
    Chandra Niles Folsom, Greed is Good Gone Bad, Mother Merrill and the Robber Barons of the Big
Board, Fairfield County Weekly, May 17, 2007, pg. 23.
151
    Id.
152
    Id.
                                                                                                    36
inadequate disclosures. The early 2000‘s brought a series of unexpected corporate

corruption scandals, in some instances assisted by their auditors and others, leaving the

shareholders with empty pockets and lots of unanswered questions. A great shifting of

wealth from investors to the fiduciary‘s hired to protect them; investor confidence tanked,

Congress reacted with sweeping legislation: SOX. Although a lengthy, complex set of

standards, the corporate governance regulation is focused on transparency, full

disclosure, and accountability. These standards include enhanced criminal and civil

sanctions and penalties to encourage compliance.153 The purpose was to restore public

trust; but what was needed was legislation to protect public interest.


      An over-arching PCAOB was established by the act, which was introduced amidst a

host of publicity. It appears the overwhelming consensus was stronger, independent

oversight was needed thus the arrival of the PCAOB. The troubling news is that in the

midst of this new regulatory regime, in the backdrop was the greatest heist in history, the

subprime meltdown that is premised on long-term greed motto and the repercussions will

likewise be long-term, severe, with liquidity being the capstone of the crisis.


       IV.     Diagnosis: Why did Sarbanes-Oxley Act, with the Creation of the
               PCAOB, Result in Market Failure, and Independent Auditors Fail
               to Timely Detect and Disclose to the Investing Public?

       The PCAOB is fondly called the ‗stepchild of the SEC‘ , who in December 2007, was

put to vote by the SEC to approve the PCAOB's 2008 budget and the related accounting

support fee charged to public companies, which funds the PCAOB.154 " A debate ensued

153
      Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).

154
   Edith Orenstein, SEC Approves PCAOB Budget, But Atkins Declines Over Issue of PCAOB Board
Salaries, Journal or .com name, Dec 18, 2007.

                                                                                               37
regarding certain budgetary items, ―As a matter of policy, the board salaries are

disproportionately high," said Paul Atkins, SEC Commissioner, adding the rate of

increase is higher than comparable rates.155 Atkins' compared the $515,000 PCAOB

board member's salary, which was higher than most key leaders such as: the President of

the United States, the Supreme Court Chief Justice, and CEO level salaries.156 Atkins also

grilled PCAOB Chairman, Mark Olson on use of consultant‘s fees paid by the PCAOB as

it must be excessive.157 Olson explained some of those fees were for legal experts

consulting on enforcement matters that were anticipated to potentially go to litigation, as

well as IT consultants that assisted in developing systems but no details provided.158

      These seemingly excessive salaries are troubling in light of the fact that the largest

market failure since the Great Depression has occurred under their watch. Whistleblowers

that stepped forward, to protect the public interest, were marginalized and professionally

crucified while the PCAOB staff appeared more interested in speaking engagements,

networking, and mingling within the SEC circle of friends. The PCAOB was to be

independent but instead ads were run in the Wall Street Journal recruiting former

accounting firm partners to join the PCAOB staff for enforcement.


      The PCAOB, has stated its purpose to protect the interests of investors and further the

public interest in preparation of independent audit reports. Unfortunately, the PCAOB,

the independent oversight board, does not maintain the appearance of independence that

was anticipated in it‘s creation. Simply put, the PCAOB needs to be ―The Enforcer‖ that

is not out for popularity contests within the business community but rather to protect the

155
    Id.
156
    Id.
157
    Id.
158
    Id.
                                                                                                38
public interest and enforce strict compliance under SOX. The regulators are the regulated

model perpetuated itself at the expense of the greater good of society. In the end, the

independent auditors are auditing themselves with dismal result. In 2008, the market has

dropped around $1.3 trillion in losses over the subprime meltdown and growing with the

latest news of the fall of IndyMac. The federal regulators seized the bank on July 12,

2008, with about 95% insured deposits, but leaves about $1 billion uninsured shortfall to

be absorbed by unsuspecting depositors.159 The question for the independent auditors is

how did the CPA‘s fail on such a wide scale basis, in light of SOX, with enhanced

internal controls and corporate governance?


      Let us explore some reasons for the market failures that led the market meltdown, with

June 2008 being the worst drop in market value for 1 month, since the Great Depression.


       a. Lacking Real-Time Transparency: The Current Business Reporting Model
          Lacks Digitalization and Full Disclosure to Strategy, Risks,and Key Metrics

      One reason for the recent market failure is that the current business reporting model

has not evolved with changing market demands and key stakeholder requirements.

Recent business failures and increasing financial reporting restatements have adversely

affected the public‘s trust and confidence. This has revived market interest in a review of

the current business reporting model to enhance the communication in real-time, events

that have a material impact to the stock price. The call to provide shareholders with high

quality and transparent information echoes from investors, creditors, analysts, regulatory

agencies, standards setters, boards of directors, and management. There are many issues

driving this demand, perhaps most notably the growing democratization of the capital

159
      Catherine Clifford and Chris Isidore, The Fall of IndyMac, http:// www.cnn.money.com, (last visited
      July 12, 2008).
                                                                                                            39
markets, growing importance of intangibles as key value drivers and a focus on meeting

short-term performance targets to the detriment of investment in future growth.

   The purpose of the enhanced business reporting framework (―EBR‖), as written in the

original business plan, is to put structure around external reporting of information not

currently covered under GAAP, including a discussion of management strategy and

plans, risks and opportunities faced by a company, as well as industry-specific, process-

oriented metrics and financial and non-financial key performance indicators. The EBR

framework should be developed with a continuing focus on the reporting of reliable data

that is effectively self-regulated, simplified to enhance efficiency and cost-effectiveness,

timely, digital, scalable by entity size and industry-orientation and transparent, all of

which will contribute to improved comparability and understanding of disclosures.

Successful implementation of an EBR framework will result in manifold positive

outcomes, including better management, better governance and ultimately better markets.

   b. Ongoing Conflicts of Interest & Lack of Independence: Blind Guise
      Network

   Another reason for the recent market failure is that the ethics have not improved

much, in light of SOX, as conflicts of interest and lack of independence is a huge

problem. A conflict of interest arises when what is in the best interest of the investor is

not in the best interest of the auditor, often times involving a conflicted economic

interest. The issue of conflicts of interest and lack of independence is certainly evident in

some of the cases we reviewed such as Global Crossing, Enron, AIG, or Parmalat. These

firms have become network or enterprise firms which have led to horizontal

collaborations, strategic partnerships, and shell companies that allow the blind guise

network to operate to the demise of the public interest and a clear abuse of power.

                                                                                                40
The public accounting firms have a portfolio of services that are offered to clients in

addition to the low profit external audit services that are usually the entry into the door of

the client. The expansion of services, known as horizontal integration, has threatened the

auditor independence and increased the risk for unsuspecting investors.

      The blind guise network uses grassroots campaigning to assure the public that these

professionals are acting in the public interest. Less transparent is the real motive of these

networks which is individual profits or potential future contracts in high end consulting

services, thus creating the malicious conflict of interest embedded in the heart of the

accounting, investment banking, and other licensed professions with a duty to protect the

public interest. Not only does it jeopardize auditor independence but it impacts antitrust

laws as these partnerships create not-for-profits and other shell companies that are anti-

competitive by design. The near monopoly of dominant public companies who self-

appoint themselves onto key committees, that heavily influence the ability to develop

businesses, network for client contracts or consulting engagements.

      In a ground-breaking study analyzing the effects of accounting firms' consulting

business on the objectivity of their auditors, Stanford Graduate School of Business

faculty member Karen Nelson and colleagues provided hard evidence showing that the

provision of non-audit services impairs an auditor's independence and dangerously

stretches the bounds of accepted accounting practice.160 The study is relevant to SEC

concerns about the increase in earnings management tricks of the trade such as "big bath"

charges (one-time write offs), "cookie jar" reserves (setting aside funds to manipulate




160
  Author Unknown, Stanford Business School Study Finds Consulting Contracts Impair Auditor
Objectivity, Business Wire, August 1, 2001, pg. 1.

                                                                                                 41
future earnings), and premature revenue recognition.161 These are legal but grey areas or

questionable practices within the range of GAAP.162

      ―The researchers looked to see if there was more creative accounting among

companies that paid their accounting firms big consulting bills relative to auditing fees:

There was.‖163 "We were interested in whether public accountants really are performing

their role as independent gatekeepers, or has it become a game of winks and nods

between corporate management and the auditors because the auditors don't want to lose

these very lucrative consulting contracts.‖164

      Interestingly, the study found corporations with the least independent auditors were

the auditors that were paid the most in consulting fees versus audit fees and were more

likely to just meet or beat earnings benchmarks.165 ―That suggests more earnings

management went on among companies in the sample that paid the highest proportion of

management consulting fees to their auditor‘s.‖166 The results demonstrate that high paid

consulting gigs impair or influence auditor independence, to the detriment of the investor,

which puts a risk premium on investors cost of capital and their rate of return

expectations. The study results hat suggests institutional investors and other stock market

investors were discounting the earnings of firms with potential conflicts of interest.167

      The conflicts of interest and lack of independence in the auditing profession is a

critical ethical foundational issue. Left unresolved or sup-optimally resolved, is to


161
    Id.
162
    Id.
163
    Id.
164
    Id.
165
    Id.
166
    Id.
167
    Id.
                                                                                              42
threaten the nations financial stability and the integrity of the fragile capital markets. The

solution may be as simple as regulating the accounting industry and allowing them to

perform audit services only. The consulting services, tax services, and other such services

would need to be provided by independent firms that have no ties to the financials of the

organization. This protects the auditor from breaching their fiduciary duties, especially

duty of loyalty that requires full disclosure of the conflicts of interest.168

      c. Regulatory Capture: The Regulators are the Regulated Phenomena
         Results in Lack of Strict Enforcement

      Another reason for the market failure is the regulatory capture phenomenon that is

sweeping the nation. How do you define this elusive term: regulatory capture? In the

Economist, it is defined as such: ―Gamekeeper turns poacher or, at least, helps poacher,‖

according to the theory of regulatory capture by Richard Posner, an economist and lawyer

at the University of Chicago169. Posner argues that ―Regulation is not about the public

interest at all, but is a process, by which interest groups seek to promote their private

interest ... Over time, regulatory agencies come to be dominated by the industries

regulated.‖170 The concept of ‗regulatory capture‘ has been introduced in modern

economic analysis with the seminal article by George J. Stigler in 1971 entitled The

Theory of Economic Regulation.171 The main idea of the article can be summarized in

Stigler‘s affirmation that:




168
    John L. Colley, Jr., Jacqueline L. Doyle, George W. Logan, Wallace Steffinius, Corporate Governance,
,McGraw-Hill Executive MBA Series, 2003, pg. 30.
169
     Posner, R.A. (1974): Theories of Economic Regulation. Bell Journal of Economics and Management
   Science 5(2), @ 335-358.
170
   Id.
171
    Stigler, G.J. (1971): The Theory of Economic Regulation. Bell Journal of Economics and Management
  Science 2(1), @ 3-21.

                                                                                                           43
       ―…as a rule, regulation is acquired by the industry and is designed and operated
       primarily for its benefits.‖172
―The basic hypothesis of Stigler is that an industry may use, or rather abuse, the coercive

public power of the State regulators to establish and enforce rules in order to obtain

private benefits.‖173 It is not surprising that the accounting industry is funding shell

companies and not-for-profits to get their economic rents, appear as a good citizen, and

promote themselves and their firms under the guise of restoring public trust.

      Of course, if the regulators are the regulated then suddenly the strong enforcement of

laws takes a back seat to influence peddling and focusing on the latest Sunshine Club

technology tools or management practices that can be sold through their lucrative

consulting businesses. The SEC is actively promoting a market for XBRL, realizing that

without sufficient market penetration and scale, the digitalized financial reporting vision

is limited by market realities. According to the Chicago School of Economics,

governments do not accidentally create monopoly in industries.174 Rather, they too often

regulate at the insistence, and for the benefit, of interest groups who turn regulation to

their own ends.175 For them administrative regulation serves the regulated entities rather

than the consumers.176 Regulators can align interests with the regulated to get a private

sector job that enhances the regulators private interest at the expense of public interest.




172
   Id.
173
    Stigler, G.J.; Friedland, C. (1962): What Can Regulators Regulate? The Case of Electricity. Journal of
  Law and Economics, October, @ 1-16.
174
    Posner, R.A. (1975): The Social Costs of Monopoly and Regulation, Journal of Political Economy
  83(4), pg. 807-827.
175
      Id.
176
      Id.
                                                                                                         44
       d. Professional Ethical Lapses: “Greed is Good” Motto is Replaced with
          “Long Term Greed” Creed




      Another possible reason for the market failure is the continuing lapses in

professionalism and unethical behavior within the capital market system. It was the late

free-market economist Milton Friedman, writing in the preface to the 1982 reissue of his

manifesto, "Capitalism and Freedom," who articulated the strategy most succinctly, what

is known as ―disaster capitalism.‖177 This really just means that real change is produced

when a crisis is upon us. The subsequent actions taken are based upon ideas that are

currently lying dormant or a politically motivated off-the-shelf solution waiting for the

disaster to strike. Disaster capitalist see crisis‘s as an opportunity to be exploited, to

develop business, and to grab market share.

      A business strategy known as ‗Give More to Get More‘ allows a corporation to donate

assets as an opportunity to network, to sell more, and to broker deals. Concentrated

power is not rendered harmless by the good intentions of those who create it according to

Friedman.178 Well the motto on the street has been coined as a creed, long-term greed, a

form of concentrated power which aims to take greed to a whole new level as it enslaves

the nation‘s workers, stresses pension accounts, evaporates home ownership, and


177
   Naomi Klein, Why the Right Loves a Disaster: Ideologues use times of crisis as an opportunity to foist
their economic policies on desperate societies, LA Times, January 27, 2008, pg. 1.
178
      Id.
                                                                                                            45
implodes the capital system. With this creed, comes the complimentary lapse of ethical

standards, sound business judgments, and unfulfilled professional duties that become the

cornerstone to the real goal of self-interested greed. As Friedman professes, ―The power

to do good is also the power to do harm.‖179 The fiduciary and professional duties of an

independent auditor are conflicted when they utilize disasters or financial meltdowns as

their basis for self-interested greed but marketed as restoring public trust.

      Philip Augar, an insider, who provides transparency into the long-term greed systems

and describes how investment banks expanded into a global monopoly power game.180

―Augar claims that investment banks have the advantage of ‗the Edge‘, since they have

an information advantage.‖181 ―To take advantage of that, banks had to put clients second

and themselves first:182 greed is good motto.‖ ―Augar recalls the 90s, which culminated

into the dot-com bubble and reminds us of how IPOs took off, and how analysts provided

almost always recommendations to buy, and how creative accounting became corporate

meltdowns.‖183 Enron, Tyco, and the like showed that the system was rotten from the

inside, long-term greed creed, hence the Omega meltdown: subprime mortgages.184

       e. Deliberate Ignorance Standard: Enron Measure of “Intent” or not?

      A fifth reason for the market failure is the ability of officers and their boards to avoid

accountability by utilizing the deliberate ignorance defense. A judge stated to the court

that a draft version of the charge that will be read to the jurors on Monday includes a


179
      Id.

180
   Philip Augar, The Greed Merchants - How the Investment Banks Played the Free Market Game,
Penguin Books, 2006.

181
    Id.
182
    Id.
183
    Id.
184
    Id.
                                                                                                   46
"conscious avoidance" or "deliberate ignorance" instruction for both Jeffrey K. Skilling

and Kenneth L. Lay, former Enron executives.185 The standard, called the "ostrich

instruction,‖186 offers a lower burden of proof to find a person guilty of conspiracy and

fraud related to the collapse in December 2001.187 By allowing the ostrich instruction,

referring to that bird's burying of its head in the sand, Judge Lake is continuing a trend in

which courts increasingly apply the lower standard of criminal knowledge in white-collar

cases.188 The deliberate ignorance standard is more common street crimes like drug deals

where a package is placed in a car and the driver delivers the package to a customer but

avoids discovering that drugs are inside but the law uses constructive possession.189


      Jurors in Kenneth Lay and Jeffrey Skilling's trial were instructed to consider whether

the former Enron Corp. executives deliberately ignored accounting fraud as the energy

trader fell into bankruptcy.190 The critical issues for the jury to decide in this case are

whether the transactions and statements at issue were fraudulent and whether defendants

intended them to be so, not whether defendants purposefully blinded themselves,

according to the defense attorneys.191 Outside legal experts said they expected the judge

to allow the "conscious avoidance" instruction for Mr. Lay, who some witnesses claimed

consciously, avoided acting on information about potential improprieties at the


185
   Alexei Barrionuevo, Judge in Enron Case Delivers a Serious Blow to the 2 Defendants, New York
Times, May 11, 2006, pg. 1.
186
      Refers to a bird burying its head in the sand.
187
      Id.
188
      Id.
189
      Id.

190
   Author Unknown, Enron jury to consider 'deliberate ignorance', Ruling echoes WorldCom case,
Bloomberg News, May 11, 2006.

191
      Id.
                                                                                                   47
company.192 These jury instructions did lead to convictions of Lay and Skilling but also

allowed for an meritous appeal from Skilling in 2007. Sadly, Lay died while on appeal.


      The lesson learned here is that ignorance of the law is not an excuse but it is a great

defense. Clearly, drug offenders can commonly apply ignorance standards and avoid

criminal liability but that is not possible under the ―deliberate ignorance‖ theory. As Don

Henley, Eagles lead singer says, ―a man with a briefcase steals more money than a man

with a gun.‖ White collar crime can be quite lucrative, much more profitable and less

risky than drug dealing, as the corporation will hire top attorney‘s to protect the potential

criminal management, including secret negotiations that silence the crime into the great

abyss. The white collar criminals remain free to corrupt again; this is not justice.


      f. Whistleblower Protection: Failing to Protect the Front Line Officers

  “The stone the builders rejected has become the capstone? Everyone who falls on that
  stone will be broken to pieces, but he on whom it falls will be crushed.”
                                                             Luke 20.17-18


      A final reason for market failure is the failure of the courts and the agencies to protect

the front line officers in this white collar war. The Title VIII of SOX is designated as the

Corporate and Criminal Fraud Accountability Act of 2002 Section 806 provides

protection to employees against retaliation by companies with a class of securities

registered under section 12 of the Securities Exchange Act of 1934 and companies

required to file reports under section 15(d) of the Securities Exchange Act of 1934 or any

officer, employee, contractor, subcontractor, or agent of such companies because the

employee provided information to the employer, a Federal agency or Congress relating to


192
   Alexei Barrionuevo, Judge in Enron Case Delivers a Serious Blow to the 2 Defendants, New York
Times, May 11, 2006, pg. 1.
                                                                                                   48
alleged violations of 18 U.S.C. 1341, 1343, 1344, or 1348, or any rule or regulation of

the SEC, or any provision of Federal law relating to fraud against shareholders.193 In

addition, SOX protects employees against discrimination when they have filed,

testified in, participated in, or otherwise assisted in a proceeding filed or about to

be filed against one of the above companies.194 The harsh reality is only about one in

one thousand whistleblowers see justice in the courts, with their professional careers

tarnished and likely retaliation or street justice by those employers is often reported.

      The Professional Code of Conduct for CPAs195 is characteristic of ―serving the public

interest‖ purpose and model. This requires CPAs to act in a way that will serve the public

interest, honor the public trust, and demonstrate commitment to professionalism. This

places CPAs at a heightened risk of adverse actions; similar to police officers more prone

to being shot and critically injured while working to protect the public interest. Unlike

police officers, CPAs may not be injured by shots of a gun, however, the adverse actions

and blacklisting are a form of a weapon that critically injures one‘s livelihood equally

effective. A once famous judge stated, ―Sunlight is said to be the best of disinfectants:

electric light the most efficient policeman.‖196 SOX requires ―increased disclosure and

transparency‖, the equivalent of electric light, and CPA‘s are the professionals who have

a duty to shed light on questionable business practices and transactions, to avoid further

market meltdowns such as Global Crossing, Enron, or Bear Stearns. It is the


193
    Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).
194
    Id.
195
    Professional Code of Conduct and preamble to the AICPA Code of Professional Conduct .01 By
accepting membership in the American Institute of Certified Public Accountants, a certified public
accountant assumes an obligation of self-discipline above and beyond the laws and regulations.
The Principles of Professional Code of Conduct are the pillars of the Code, which define the rules, detailed
interpretations, and rulings, the pillars are: 1) Professional Responsibility; 2) Serving the Public Interest; 3)
Highest Integrity; and 4) Maintaining Objectivity and Independence in Discharging Professional Duties.
196
    Justice Brandeis, Other People‟s Money 62 (1914).
                                                                                                                    49
responsibility of the courts to ensure that CPAs, acting in good faith and within the scope

of their professional duties, be afforded heightened protections due to the increased risks

of injuries, just like police officers.

      V.      Future Legal & Regulatory Analysis: On the Horizon for the SEC?

      During times of crisis and significant market crashes, history has proven that it is

during these times of turmoil that sweeping legislation and regulatory overhauls are to be

expected. According to Stuart Banner's historical research, ―examining the conditions for

securities market regulation in the eighteenth and nineteenth centuries in the United

Kingdom and United States, he reports that legislation was adopted only after stock

market declines, which, by 1837, coincided with economic contractions.‖197 ―Banner

contends the popular suspicion of speculation comes in bad financial times to dominate

otherwise popular support for markets, resulting in the expansion of regulation which

people support after experiencing financial turmoil.198‖ It seems reasonable that Banners‘

new regulation formula; the conjunction of the impact of a stock market downturn on

public attitudes and the presence of political entrepreneurs with off-the-shelf regulatory

proposals is a pattern largely consistent with the making of SOX.199 So what is the

horizon for the SEC, off-the-shelf regulation or a radical departure from the past?

           a. 2008 SEC Omega Ends with a New Regulatory Schema: Treasury’s
              Blueprint for a Modernized Financial Regulatory Structure

      The first glimpse of the future was found in a recent prepared speech, Treasury

Secretary Henry Paulson stressed that the fall of Bear Stearns has expedited the need for

the government to address the outdated regulatory oversight structure and to strike a

197
    Roberta Romano, The Sarbanes-Oxley Act And The Making of Quack Corporate Governance, 114 YLJ
1521, 1593, May, 2005.
198
    Id.
199
    Id.
                                                                                                   50
balance between market discipline and market oversight.200 ―We should quickly consider

how to most appropriately give the Fed the authority to access the necessary information

from highly complex financial institutions and the responsibility to intervene in order to

protect the system, so they can carry out the role our nation has come to expect—

stabilizing the overall system when it is threatened,‖ remarked Mr. Paulson.201 In March

2008, the Treasury publicized, a 212-page blueprint of the future regulatory stage.202

      As predicted from history, regulation is ushered in after the bear market sets in and the

economic turmoil disrupts public confidence.203 The Treasury laid out the following

vision to modernize the SEC‘s oversight of the futures and the security markets.204

The proposals provided ranged from short, intermediate, and optimal goals that are too

complex for the purposes of this paper. Rather, we will examine the self-regulatory

discussion and the conflicts of interest that exist within the SRO ethical foundation. We

will also come to realize that the Treasury endorses the idea of a market regulator, who

will intervene in times of crisis, as the Fed did in the Bear Stearns transaction, to avoid a

larger market collapse of confidence. This idea is outside the scope of this paper and no

opinion will be expressed. However, this is a clear signal that the regulatory structure,

including the SEC, is about to undergo significant changes to advance globalization,

technological innovation, potential merger with Commodity Futures Trading

Commission, and stronger regulatory oversight to aid the SEC in the policing of complex




200
    Kara Scannell, Paulson to Call for New Fed Role, Wall Street Journal, June 19, 2008, pg. A3.
201
    Id.
202
     Henry M. Paulson, Jr,, Robert K. Steel, David G. Nason, Blueprint for a Modernized Financial
Regulatory Structure, United States Department of the Treasury, , March 31, 2008, pg. 1 to 212.
203
    Id. At 106.
204
    Id. At 106.
                                                                                                    51
capital markets. This will not resolve the real crisis, the unethical foundation, as the

morals of the marketplace are difficult to regulate indeed.

      This is increasingly difficult to regulate as wide scale horizontal collaborations are

established; forming their complex web of shell companies, creating their own rules as an

SRO, and failing to enforce the ethical standards upon the members of the SRO in a

conflicted circle of friends. Regulator intervention often times is a reaction to the problem

not necessarily a preventive measure to stop the underlying causes of the problem.

Analogous to pulling the top off a dandelion, it will quickly grow back if the root is still

resident. Who really is protecting the public interest if the SROs are conflicted?

      The Treasury asserts the effective and efficient functioning of the SRO rule change

process is critical to the integrity and competitiveness of the American capital markets.205

―Section 19 of the Securities Exchange Act (―Exchange Act‖) governs the procedures for

approving the SRO rulemakings, including those for the approval of new products.‖206

Market participants have been critical of the SEC for its delay in approving SRO rule

changes, especially those relating to new products and trading systems.207 The critics

claim that markets and financial products continue to evolve at a pace that the current

SEC‘s procedural practices fail to accommodate thus slowing these SROs from quickly

introducing new products into the markets.208

      From my perspective, the real issue is not the new products, or time to market, but

rather is these product and market opportunities needed at all. Innovation has sped ahead

of regulation, in the 2000 era, leading to dismal result. The complexity and opaqueness of


205
    Id. at 112.
206
    Id. at 111.
207
    Id. at 112.
208
    Id. at 112.
                                                                                                52
these new product introductions should be met with much resistance and deeper

questioning to slow the time to market especially in light of the new products such as

CDO‘s and the subsequent subprime meltdown. Deploying Plain English standards and

simplifying product offerings maybe a better route to preserving market integrity.

      Self-regulation is the first line of defense in preserving market integrity and protecting

against fraud and abuse.209 SROs serve a purpose but from a critical viewpoint, self-

regulation is susceptible to a wide range of conflicts of interest which includes the

potential that the SRO may have a financial interest in its members or their business

activities.210 The solutions proposed such as independent boards filled with those outside

of the industry will certainly curb abuse but those boards are paid by the SROs and the

new conflict of interest begins as loyalty shifts from protecting the public interest to

protecting one‘s own paycheck and livelihood. Whistle blowing or asking the ―right-

wrong questions‖ is a quick way to be exiled to the door by the SRO who employs the

board member: freeze-outs are quite effective.

      Self-regulation is potentially redundant and burdensome with respect to the industry‘s

federal regulator or one or more additional SROs.211 The ethical lapses are occurring

within the SRO foundation and its members and are in need of an overhaul within the

SRO framework. The SROs are competing with each other for members and are using the

SRO as a mass marketing tool, thus keeping their eye off the self-regulatory mission and

ethics enforcement. The federal regulators are not effective in policing complex markets,

relying on SROs to carry this burden, and regulators have historically been reactionary as

the damages are usually flowing in when the regulators step in. The SEC is in the midst

209
    Id. at 122.
210
    Id. at 123.
211
    Id. at 123.
                                                                                                   53
of a regulatory overhaul, in light of complex global capital markets, the SEC is not

positioned now, or in the near future, to regulate these complex markets alone.

           b. SEC Digitalizes the Public Company Financial Filings by Utilizing
              XBRL and Voting for Mandatory Regulation Standards in 2008

       The second revelation of the future was announced by SEC Chairman Cox, ―Let the

sunshine in as never before,‖ in a move to file financial statements in an ―interactive

data‖ format.212 ‖A proposal, which the SEC approved 3-0, calling for large public

companies that use U.S. accounting to electronically tag financial data starting with

reports covering periods that end on or after December 15, 2008.‖213 The other

companies, such as small companies, will be phased in up through 2010.214 This data

tagging technology uses software called extensible business reporting language

(―XBRL‖) to code individual bits of information, such as revenue, making it easier to

find and compare results across industries, companies, or time periods.215 The benefit to

the market is allowing an investor ease of comparability of interactive data linked by

tagging data thereby improving the knowledge gathering process in arriving at

investment decisions.

      The use of digitalized data will enable ease of comparison of material changes, SOX

Section 409, Real Time Issuer Disclosures, which requires the following:216

      ―Each issuer reporting under section 13(a) or 15(d) shall disclose to the public on a

rapid and current basis such additional information concerning material changes in the

financial condition or operations of the issuer, in plain English, which may include trend
212
      Alan Rappeport, XBRL Suddenly, It‟s Here, CFO Magazine, June 2008, pg. 32.
213
      Judith Burns, SEC Votes to Require Data „Tagging‟ in Reports, Wall Street Journal, May 16, 2008, pg.
C3.
214
    Id.
215
    Id.
216
     Sarbanes-Oxley Act, 18 U.S.C. § 1514A (2002).

                                                                                                             54
and qualitative information and graphic presentations, as the Commission determines, by

rule, is necessary or useful for the protection of investors and in the public interest.‖ 217

      The enhanced disclosure requirement, referred to in Section 409, is that issuers are

required to provide transparency on material changes in operations or financial condition,

on a rapid, somewhat interactive basis. The investors will benefit from this rapid, real

time data transmission of material information. The SEC created a new agency office of

Interactive Disclosure and plans to advance the use of interactive data in financial

reporting worldwide.218 The cost is estimated around $30,000 per implementation and

less for smaller companies. The SEC stated that market innovation will be needed for

XBRL to reach its full potential, meaning a market for XBRL software and services

which is evolving and may now accelerate. A critic, who chooses to remain anonymous,

reported that a conflict of interest may reside in the move from voluntary to mandatory as

certain parties stand to profit nicely from this technological transformation.

      This transformation also requires diligence on behalf of management to file the proper

disclosures in real time. The XBRL tools will enable management to proactively model

the changes on the industry, analyzing in multiple ways, before making such disclosures,

thus enhancing the integrity of the comments and the confidence of the C-Suite. A key

metric that can be used in price fixing, commonly cited by a PwC partner from the dairy

industry, is ―retail per square foot‖ calculation (will history repeats itself from the ―Milk

Money Cartel‖ in Florida with a computerized system to aid in the criminal enterprise or

price-fixing allegations of Dairy Farmers of America along with a disabled 30 year

veteran terminated over ―branded product intimidation management program along with


217
      Id.
218
      www.sec.gov, SEC Announces New Unit to Lead Global Move to Interactive Data, Release 2007-213.
                                                                                                       55
outlandish breast comments,‖ aided by a PwC consultant posing as Acosta management,

for what appears as pretextual reasons?) One must realize that providing competitive

intelligence to the dairy industry players allows for convenient access to collusion

networks under the guise of increased transparency thus setting the stage for price fixing.

This allows for monopoly profits, followed by lack of disclosure, thus unsuspecting

investors can be seduced into buying stocks that have a high profit potential with an

undisclosed liability of anti-trust litigation or other contingent liabilities.

          c. Looking Beyond the SEC Circle: Enforcing Independence in Rating
             Scores

      The third vision of the future includes looking beyond the SEC circle and enforcing

independence of the rating agencies. In 2006, Congress gave the SEC oversight of bond-

rating firms with rule changes soon to follow.219 Last year the SEC past rules on the

industry behavior, aimed partly as a prod to disclose conflicts of interest while lowering

barriers of entry to new competitors‘.220 The SEC found serious shortcomings in the

practices of the nations 3 largest credit rating firms‘.221 The 10-month examination

uncovered poor disclosure practices, a lack of policies and procedures guiding analysis of

mortgage related debt, and insufficient attention paid to managing conflicts of interest.222

      In light of a 2008 settlement between the 3 largest rating agencies and the New York

Attorney General Andrew Cuomo, changes are expected in how they collect fees in order

to make them less dependent on winning business from bond issuers.223 Also July 1,

2008, Moody‘s Investors service announced the resignation of a top executive, which
219
     Dara Scannell & Aaron Lucchetti, , SEC to Seek Rule on Added Disclosure by Bond-Rating Firms,
Wall Street Journal, June 11, 2008, pg. C2.
220
    Id.
221
    Author unknown, SEC Says Debt Rating Firms Sacrificed Quality for Profit, Wall Street Journal, July 9,
2008, pg. C1.
222
    Id.
223
    Id.
                                                                                                             56
under his governance, had a $1 billion chunk of securities being improperly rated AAA

when in fact they were junk or were not ratable at all.224 Investors placed a great deal of

weight on these ratings and were buying up complex securities without understanding

what they were buying.225 In a lawsuit against Deutsche Bank, the plaintiff had written

down the value of two CDO‘s by more than 90%.226 The lawsuit states that the AAA and

AA ratings were major considerations in the plaintiff‘s determination to invest because

the CDO was sold to the plaintiff as safe, stable, and nearly risk free investments.227

      The SEC recommended sweeping changes to the bond-rating business in response as

an alleged cause of the subprime meltdown.228 Among the proposals, the SEC would

require credit-rating firms to make more information about ratings publicly available,

would ban some practices, and would require clear distinctions in marketing complex

structured products.229 SEC Cox said the proposals add transparency and accountability

to credit ratings and ―help ensure that investors fully appreciate the different risk

characteristics of structured products, particularly under stress conditions.‖230

      This move towards independence is important to restore public trust and confidence in

the capital markets. Some of the changes SEC voted on include:231 1) a rule that would

bar firms from rating structured debt they helped design; 2) a proposal that officials who

negotiate fees with clients be banned from rating their debt; 3) analysts who advise on

ratings or methodologies be prohibited from gifts greater than $25 per meeting, and; 4)

224
    Jane Sasseen, Why Moody‟s and S&P Still Matter, Business Week, July 14 -21, 2008, pg. 32.
225
    Id.
226
     Aaron Lucchetti, Kara Scannell, and Craid Karnin, SEC Plans Rules to Widely Diminish Sway of
Credit Ratings, Wall Street Journal, June 24, 2008, pg. C2
227
    Id.
228
     Kara Scannell & Aaron Lucchetti, , SEC Backs Changes in Rules on Ratings, Wall Street Journal, June
12, 2008, pg. C2.
229
    Id.
230
    Id.
231
    Id.
                                                                                                           57
firms that rate structured products and are paid by issuers of that debt, must disclose the

conflict and how they manage it. These moves are aimed at the precise problem prevalent

in morals of the market because within the SRO regulatory watchdogs, the conflicts of

interest and the lack of independence are commonplace. This type of regulation and

strong enforcement will instill a new sense of belief in the integrity of the capital markets.

            d. Sunlight Transparency: Auditor Independence and Executive Pay
               Debacle

       The last revelation of the future is that full disclosure, transparency, and corporate

governance standards are going to continue to play a major role in business processes of

the future. ―Sunlight is the best disinfectant‖, in other words, full disclosure makes our

securities markets fairer and more efficient,232 according to SEC Laura S. Unger. She

continued, ―If there was ever any doubt that sunlight is the best disinfectant, the results

from this year's recently-ended proxy season prove it.233 Our eyes were opened wide in

two particular areas: auditor independence and executive compensation,234‖ said Unger.

       Enron and other recent scandals reveal astonishing-perhaps unprecedented-levels of

executive greed and dishonesty, but there is more to the story than that.235 Certain

features of the current business and legal environment encourage management to raise

share prices by any available means.236 Executive compensation practices heavily rely on




232
     www.sec.gov, , This Year's Proxy Season: Sunlight Shines on Auditor Independence and Executive
Compensation, SEC Acting Chairman Laura S. Unger, U.S. Securities & Exchange Commission, Center
for Professional Education, Inc. June 25, 2001.
233
    Id.

234
      Id.

235
      David Million, Who“caused” the Enron debacle?, Wash. & Lee L. Rev.,(Winter 2003).

236
      Id.
                                                                                                      58
stock options, giving top management a direct and immediate stake in price increases.237

In addition, the still real threat of hostile takeovers creates a powerful incentive on the

part of corporate management to boost stock prices in order to placate investors and

discourage potential hostile bidders by raising acquisition costs.238 This culture of

shareholder value maximization-currently interpreted to require short-term share price

maximization rewards efforts to boost share price whether or not the means are lawful.239

      Corporate governance watchdogs received a lot of attention while investors,

institutional shareholders, and the media become fixated with the excesses of executive

pay and perks. A new corporate governance buzzword, clawback provisions, is gaining

traction in the business world as it relates to executive compensation linked to long-term

shareholder satisfaction. Specifically, the clawback provisions vary by company, but they

share a common goal of enabling companies to recover performance-based compensation

to the extent they later determine that performance goals were not actually achieved,

whether due to a restatement of financial results or for other reasons.240 Codified as 15

U.S.C § 7243, this provision requires that when misconduct results in a company's

violation of financial reporting requirements that calls for a restatement of its financials,

the CEO and CFO must reimburse the company for any bonus or other incentive-based or

equity-based compensation either of them received during the 12-month period following




237
    Id.
238
    Id.
239
    Id.
240
   Amy L. Goodman, Andrew Tuch, co-editor, “Clawbacks” of Executive Compensation, Harvard Law
School Corporate Governance Blog, (last visited July 30, 2008).

                                                                                                59
the filing of the erroneous financials with the SEC, and pay the company any profits

realized from the sale of the company's securities during that period.241

      The concept of auditor independence is conceived as a principal agent relationship

which means true independence cannot be achieved as auditor independence should not

be conceived relationally to the client organization at all.242 Auditor independence is the

capstone of the accounting profession and is the bedrock foundation that public interest

relies upon in the attestation functions of auditors. Yet, the investing public, whose

interest the independent auditors are to protect, neither hires, controls, or retires the

auditors as they are managed by the company‘s board and audit committee. This tension

is worsened when payment is made by the company management and/or board of

directors and not the investing shareholders; creating a displaced sense of loyalty. The

conflict is widened further when lucrative consulting contracts are awarded by company

management or the board of directors, thus shifting loyalty to those who pay the rent. The

best option is to completely severe all consulting services from auditors scope of

products, commoditize the audits, and instill independent regulatory oversight with strict

enforcement of the existing ethical rules that shape the morals of the market.




241
    Unknown, Materiality in Sarbanes-Oxley Act Employee Protection Claims, Fall 2007, 27 JNAALJ 339,
401, (Fall 2007).
242
    William W. Bratton, Shareholder Value, Financial Conservatism, and Auditor Independence, 53 Duke
L.J. 2, (2003).
                                                                                                       60
      VI.    Conclusion: Looking Forward to the Next Crash

 Humble Market Beginnings Lead to…Next Market Crash maybe a Super-Bubble Bust (20XX)?



                                                                          Super-bubble




                     Dow Jones Industrial Average (DJIA) Index 1900 - 2008

      On June 26, 2008, the Dow Jones Industrial Average dropped 350 points, with all

markets dropping about 3% of market value, as investment banks suffer from a liquidity

crisis, loss of credibility from the sub prime mortgage meltdown, and a global recession

on the horizon. The loss of public confidence in capital markets continues to plague Wall

Street, as investors are recovering from the economic losses of subprime CDO‘s being

sold as AAA grade investments. The irony is past federal investigations, with certain

investment banks or corporations could have shed light on some of these questionable

business practices and prevented or at least slowed the loss of billions of dollars.

      ―Ugly‖ was how a Goldman Sachs analyst described the results of the disappointing

financial and liquid assets of Morgan Stanley, under CEO John Mack‘s leadership.243 The

investment bank‘s market value, like others in the liquidity crisis, has plunged 60%, with




243
  Susanne Craig & Carrick Mollenkamp, Still “Brutal” at Morgan Stanley, Wall Street Journal, June 19,
2008, pg. C1.
                                                                                                        61
confidence sinking in bedrock businesses, with little hope.244 In December 2007, Morgan

Stanley suffered its first quarterly loss as a publicly traded company, forcing the infusion

of $5 billion from China to aid in liquidity and strengthens the balance sheet.245 The irony

is the SEC whistleblower, Gary Acquire, former SEC Senior Counsel for Enforcement

Division, until the SEC abruptly fired him in September 2005 following his attempt to

subpoena John Mack, in an insider trading investigation.246 Eventually Acquire went

before members of Congress over the handling of this investigation and the retaliation.

        Subsequently, the SEC was under investigation for not investigating, or what can be

labeled as ―selectively investigating.‖247 One can only imagine that the Acquire

investigation and retaliation firing was only one, of likely many, whistleblowers who

suffer injustice. The General Accounting Office (―GAO‖) and Senate concluded that the

SEC was lax in its investigation which helps Acquire in his quest for justice.248 In 2007,

the Senate issued a 108-page report that strongly criticized the SEC‘s investigation into

the insider trading allegations and internal failures.249

      Separately, legislators criticized the SEC for refusing a congressional request to

disclose why the SEC dropped a 2005 investigation into whether Bear Stearns harmed

investors by improperly valuing complex debt securities, missing an opportunity to get



244
      Id.
245
      Id.

246
      David E. Nolte, SEC Investigators Are Themselves Investigated By Whistleblower.

247
   For this paper, selective enforcement is the process of enforcing the rules on a select group of companies
or individuals which generally does not include those who are members of key committees, friends,
business associates, ect…within one‘s network, affiliations, family, or friends.

248
      David E. Nolte, SEC Investigators Are Themselves Investigated By Whistleblower,

249
      Id.
                                                                                                                62
ahead of the subprime war.250 The SEC, Wall Street‘s usual civil-case cop, faces criticism

for not policing the financial world at a critical time: taking a less aggressive stance in

handling the Bear Stearn‘s implosion in March.251 The SEC announced that over the last

3 years, it has ―achieved the second highest single year dollar amount of disgorgement

and penalties, the second highest single year number of enforcement actions, and the

highest single year number of corporate penalties and sanctions against an individual.‖252

The debate ensues; regulation without strong enforcement is meaningless.

      In conclusion, based on the awareness gained by the case studies and with the painful

subprime global meltdown that is underway, it is clear that the nation needs stronger,

independent regulatory oversight that begins at the grass roots level of the self-regulatory

bodies on up the chain. SROs must strictly enforce the rules against their members which

is a present day issue due to ethical lapses and conflicts of interest that represent the

morals of the market. Worse, is the auditor‘s cozy relationships with the market place and

public companies, however, analysts are now placing a risk premium on these companies

stocks, for the conflict of interests that are not always so transparent.

      The SOX legislation is a good start down the path of strengthened corporate

governance but it is only the beginning. The nation needs to modernize their business

reporting model to meet the investor community demands for transparency and full

disclosure. The Treasury‘s regulatory overhaul is needed, to digitalize financial reporting,

and increase transparency. What needs to be addressed is the regulatory capture issue as

well as independence in bond-rating firms and the corresponding conflicts of interest that


250
    Amir Efrati & Tom McGinty, You Indictin‟ Who? A Rivalry Grows for Stock Cops in Brooklyn,
Manhattan, Wall Street Journal, June 20, 2008, pg. C3.
251
    Id.
252
    Id.
                                                                                                63
arises. Whatever the rules of engagement, strict enforcement of the rules is necessary to

sanction the ―Long-Term Greed‖ creed and to be on guard for the deliberate ignorance

defense. The Whistleblower protections need to be enhanced as these folks are putting

their livelihood and professional credibility on the line when they fulfill their professional

and ethical duties to shed light on questionable business transactions. For the SEC to

effectively regulate complex capital markets, professional standards and ethics must be

further engrained into the world of stock markets, transparency within the arena

augmented, and independent auditing oversight maintained to ensure a vibrant capital

market. America, formerly a free market enterprise, the land of the free and the home of

the brave, was founded on ―Independence‖ with a fourth of July holiday to celebrate it

annually. Are the fireworks over as we give way to a new rule of engagement that was

thrust on the nation without a vote, ―privatizing profits while socializing liabilities‖? The

answer is ―no‖ as long as we reach deep into our hearts to passionately pursue the goal,

―independence in markets earned through integrity in governance.‖




                                                                                                 64

				
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