Corporate management decisions should be left to business leaders, not prosecutors.
On Aug. 6, 2009, the Securities and Exchange Commission announced that it had reached a $15 million civil settlement with former AIG chief executive Maurice “Hank” Greenberg. This story has gotten far less attention than it deserves, given that it occurred against the backdrop of the collapse of AIG, which is now mostly owned by the federal government. Both the SEC-Greenberg settlement and AIG collapse help us to understand, in retrospect, the real costs of the war that former New York attorney general Eliot Spitzer waged against the insurance giant and its leader.
The SECs action was not a roar but a whimper: The agency not only failed to make a criminal case against Greenberg but also failed to charge him with civil fraud. Instead, Greenberg was merely accused of being a “control person,” ultimately responsible for his companys alleged accounting improprieties (allegations that Greenberg, in reaching the settlement, did not admit).
Still, the SECs complaint, if credited, is serious enough. AIG ( AIG - news - people ) was accused of inflating earnings and insurance loss reserves while obscuring actual underwriting losses. The allegations that appear front and center in the SECs complaint--alleged sham transactions entered into between AIG and General Re, a reinsurer owned by Warren Buffetts Berkshire Hathaway ( BRK - news - people )--are those, which Spitzer focused on when going after Greenberg.
But even if Spitzer ultimately zeroed in on a corporate impropriety--he had previously looked into alleged bid-rigging and even Greenbergs 1970s-era charitable endeavors--his obsessive pursuit of AIGs captain, in hindsight, looks foolish indeed. The General Re transactions upon which Spitzer and the SEC focused may have been fraudulent, but their total alleged size--$500 million--pales in comparison to AIGs $99 billion in 2008 losses and the consequent $182.5 billion taxpayer-funded bailout of the company, designed to keep the financial system afloat. And while the transactions at the heart of the SECs complaint may have resulted in material accounting misstatements, they are immaterial to the companys costly implosion: They occurred from 2000 to 2002 and are wholly unconnected to AIGs massive bet in the credit default markets that precipitated its ultimate collapse.
The chain of events that led to its collapse followed swiftly in Spitzers wake. Shortly after Spitzer issued subpoenas against AIG in February 2005 related to the General Re transactions, the market began discounting the companys debt. The next month, AIGs board, under intense pressure from Spitzer, ousted Greenberg from the company; the very next day, the Fitch rating agency downgraded AIGs credit rating from AAA to AA, and Standard & Poors followed suit later that month. The credit downgrades dramatically increased the potential collateral calls that AIG faced on its credit-derivative products.
More critically, as control of AIG shifted hands, vital risk-oversight practices waned. Greenbergs successor, Martin Sullivan, admits that he had “focused on other priorities including repairing AIGs standing with customers and regulators [and] cooperating with several government probes.” AIGs financial products group, which sold credit-default derivatives and other financial instruments, wrote as many credit-default swaps over the nine-month period after Greenberg departed as it had in the previous seven years combined.
It is impossible to know whether the large derivative position amassed by AIG would have been accumulated under Greenbergs watch, though Greenberg did have a long track record of closely monitoring the financial products groups risk. David Havens, a credit analyst with UBS, insists, “Had Hank Greenberg still been running the company, I think its pretty safe to say the situation wouldnt even be close to what is now.”
Thus, AIGs downfall powerfully demonstrates the problem with turning over the regulation of corporate governance to criminal prosecutors with political agendas. The SECs civil-enforcement powers, in addition to private civil actions at the state and federal levels, are more than sufficient to police accounting shenanigans such as those underlying the agencys settlement with Greenberg. (The power of private civil actions, themselves often abused, was exemplified one week after the SEC settlement, when Greenberg and other executives announced a $115 million settlement with class-action plaintiffs.)
Clearly, on occasion, individual business leaders malfeasance warrants criminal prosecution. But corporate management decisions should be left to business leaders, not prosecutors who cannot understand the businesses they are investigating.
Unfortunately, the governments vast powers in the criminal arena enable prosecutors to coerce corporate boards to do their bidding, and far too often, prosecutors succumb to this temptation. Such abuses extend beyond Spitzers crusades; federal prosecutors criminal powers over accounting practices were expanded radically in the Sarbanes-Oxley Act of 2002, and U.S. attorneys regularly use “deferred prosecution agreements” to control corporations in the governments cross hairs. State and federal legislators should rein in such abuses, before we get another AIG.
Original Source: http://www.forbes.com/2009/08/26/greenberg-settlement-spitzer-opinions-contributors-james-r-copland.html